Finally, proof that U.S. regulators can grasp new trends or stay current on modern business issues: with startling speed and coordination, every regulator who’s any regulator has started worrying about fintech.
“Fintech” is startup-speak for financial technology, a branch of the financial world that was huge already, and for some reason has suddenly captivated regulators attention all over again. Last week the Office of the Comptroller of the Currency released a paper, Supporting Responsible Innovation in the Federal Banking System. That title is regulatory code for “making sure advances in financial technology don’t cause a train wreck before we can stop it.”
The OCC is further along than other regulators, in that it has published an actual paper and plans to hold a summit meeting on fintech in June; but by no means is the OCC alone. Last month FINRA published guidance on how firms should govern robo-advisers dispensing automated financial advice. Securities and Exchange Commission chairman Mary Jo White gave a speech in Silicon Valley last week that took a shot at fintech. A top official at the Federal Reserve of San Francisco did the same in another speech.
We’re here, people. We’ve reached peak fintech talk.
The OCC paper (11 pages long, easy to read in one sitting) hits all the notes one would expect: innovation is a wonderful force, it can bring new services to legions of under-banked consumers, regulators never want to get in the way of intriguing new ideas, and so forth. The OCC drops the phrase “responsible innovation” into the paper early on, and that is one narrative that regulators will want to push—that they are all for innovation in the financial sector, so long as it’s responsible innovation.
Still, the paper spends most of its time talking about how the OCC might oversee fintech innovations as they happen, and less time on what’s really important, which are the consequences those new innovations will impose on the market. That is always the paramount concern: the soundness and stability of the financial system. Fintech is a sexy idea, since most consumers dislike how they interact with their banks today. But regulators do not want nifty technology to get ahead of consumers’ and investors’ financial knowledge or, worse, introduce some new risk into the financial system that they hadn’t anticipated.
Fintech, Risk Management, and Compliance
View fintech innovation through that lens, and a few questions emerge that compliance officers should toss into the conversation before your financial firm green-lights that new development project.
First, how might fintech innovation introduce new instability into the financial system? For example, could some new product lead to a drop in the bank’s capital reserves to dangerous levels? Could it somehow cloud your understanding of counterparty risk? If a financial firm’s answer to questions like these is near the “we don’t know” end of the spectrum, that should be a full-stop moment for regulator and bank alike.
Second, how might this innovation harm consumers? For example, could some innovation inadvertently lead to excluding some class of consumers from full participation in the banking system? Could it lull consumers into a false understanding of what their banking and financial needs are, and lead them to make poor choices? I would take my cues here from FINRA’s guidance about robo-advisers, where one concern was how robo-advisers will get an accurate perception of an investor’s sophistication. Innovations in banking will face that same hurdle. (This is also where the Consumer Financial Protection Bureau is likely to step into the fintech discussion.)
Third, could this innovation disrupt access to capital? Don’t fall into the trap here of equating “disrupt” with “diminish”—a very real risk is that financial innovation might increase access to capital for people who should not have any, such as money launderers or terrorists. If some fintech innovation gives criminal or terrorist groups an easier path to get cash, that idea will die on the regulatory vine.
The OCC paper notes that community banks might be most at risk for fintech innovation that runs away with itself, because those institutions have small technology and risk management staffs who might not be able to govern innovation with the same ability as large banks. It’s a valid point (and one to be expected from the OCC, which principally oversees small banks).
Even large banks and other financial firms, however, should beware that most technology innovation comes from tech firms, and they are not necessarily well-versed in the byzantine world of financial regulation. So how you govern business partners working on fintech with your firm is likely to come under close scrutiny. That’s fine. But overall we want regulators to speak less about how innovation happens, and more about how that innovation will affect what’s already here.