Where next for financial regulation?
PETER ALDERDICE, SHEPHERD AND WEDDERBURN LLP
Over the coming decade, technological innovation will likely remain one of the key challenges for regulators, nationally and globally. There are an awful lot of buzzwords in this field, with Big Data, robo-advice, smart contracts and artificial intelligence, all converging in financial services.
Setting the boundaries and definitions of our current regulated activities, and how financial technology (FinTech) and other technological innovations fit into the regulatory regime, clearly poses a challenge.
The recent Regulation and supervision of fintech report from KPMG, states regulators and supervisors have “identified risks” arising from three main FinTech-related drivers:
- Financial services firms’ reliance on technology
- Increasing interconnectedness within the financial sector
- “The prospect of greater concentration and herd-like behavior”, which may arise from “widespread use of similar machine lending or other strategies for lending or trading”.
The right balance
Looking ahead, regulators will be under pressure to keep on top of changing technologies to ensure regulation remains fit for purpose – striking the right balance of affording protection and mitigating risk, while also encouraging innovation.
This will include keeping a close eye on the regulatory perimeter and being seen to move quickly when financial services are delivered in ways that fall outside of regulatory and supervisory oversight.
This came up recently when the Treasury Committee suggested that perhaps the Financial Conduct Authority needed to shout whenever it didn’t think it had the power to regulate. However the government seems to disagree, and thinks it best for the Treasury to decide when things need regulated and when they don’t. But clearly, there’s a question as to whether the Treasury is close enough to the coal face to know of, or identify, any gaps or grey areas in financial regulation.
Libra, the new Facebook digital currency which, at time of writing, is due to be launched in the first half of 2020 – and potentially alongside a raft of new, rival cryptocurrencies – will take regulators into uncharted waters, and regulation of these new digital methods of payment will be high on the agenda.
If Libra or similar does goes ahead, we face the challenge of one of these currencies potentially becoming a systemically important payment system. This brings associated questions, such as: how do you deal with the regulation of a transnational or global cryptocurrency? And it may not actually be a private enterprise like a Facebook that comes up with a systemically important digital currency – it could even be another country, such as China, India or elsewhere.
This could then become a currency that is used in a number of different countries, a bit like a Digital Dollar. We would then have to decide, here in the UK and in other countries, how we manage the risk with a payment system that becomes systemically important, but sits outside of the UK? That is something that is maybe slightly further on in the horizon, though with the pace of technological change, just how far off is anyone’s guess.
More immediately, I think we’ll see from the regulator an increasing focus on social and environmental issues, particularly on diversity and inclusion.
Diversity and inclusion is really seen by the regulator as speaking to a firm’s culture and conduct. It follows that poor culture and poor conduct lead to poor outcomes – and risky financial institutions.
Vulnerable customers and ensuring financial inclusion in the face of rapid technological changes are also main areas of focus for the Financial Conduct Authority.
A strong regulatory environment should support innovation and entrepreneurship, while protecting end users of financial services.
How regulation of borderless technologies will be managed in the future, nationally and internationally, remains to be seen.
Peter Alderdice is Senior Associate, Banking and Finance at UK law firm Shepherd and Wedderburn LLP.