Fintech revolution or market evolution? When David becomes Goliath

When the European Commission holds its public hearing on the Capital Markets Union (CMU) tomorrow, one of the key questions will be how to promote fintech while ensuring consumer confidence. Tools such as crowdfunding have become a potentially revolutionary means of alternative financing, giving the CMU serious growth potential. At the same time, they present new policy challenges on solvency, cyber risk and data access.

These developments beg the question; is fintech a new sector really in need of a regulatory boost, or is it simply an evolution of the market via new tools? This was the question we put to a group hosted by Global Counsel’s Brussels office recently to dig deeper into this issue with the European Parliament’s fintech rapporteur, Cora van Nieuwenhuizen MEP, and the chair of the European Commission’s fintech task force, Peter Kerstens.

The regulatory dialogue around fintech often feeds into a David and Goliath mentality, conjuring-up images of young and creative innovators stacked against large and traditional corporates. Fintech’s mobile-friendly approach has given today’s startups both a chance to enter markets easily and to increase market power quickly. However, Goliath has done a lot of his own innovating, often in partnership with smaller players. This has blurred the lines between incumbents and challengers.

The EU's emerging familiar refrain that 'bringing the EU closer to its citizens' means clearer protection of consumer interests should keep fintech companies on their toes. In this area, the ‘Goliaths' call for a level playing field is going to resonate. The large players are often convincing regulators that new rules are not needed for financial activity that delivers the same outcome to customers, just through a different medium. As already noted by the Financial Stability Board’s Mark Carney, fintech holds just as much risk for consumers, not to mention the new dimension of handling digitalised data. In principle, the current EU rules on solvency and consumer protection must apply to fintech as well. The burden of proof seems likely to rest on the Davids.

Regulators nevertheless remain concerned about the inflexibility of their post-crisis measures for fintech players. The financial services industry has for years opposed high capital or reporting requirements that restrict their ability to invest in new projects or minimise consumer costs. Regulators now seem to rely on these arguments to suggest the regulatory costs of market entry are too high for fintech. The European Commission's current consultation is looking at options to level the playing field, such as a special “passporting regime” or “customised licenses” that lower capital requirements for low-risk fintech activities. However, fintech covers hundreds if not thousands of diverse financial services entitled to passporting rights via the single EU rulebook. It is thus unclear what additional rights could be introduced or how designing them around the mere use of fintech would work in practice.

It will be interesting to see how the trade-off between prudential and consumer protection plays out and how industrial policy works in this area. There is a clear EU desire to see this as an area where the EU out-innovates the US and Asia. Tweaking the regulatory regime may help, but EU policymakers want it all – a technology-neutral framework that preaches same risks, same rules, while applying these rules in a proportionate manner based on business model, size and systemic significance. As fintechs are exposed to online failures or cyber hacking, even the smallest player can spell stability risks for partnering incumbents, meaning technology alone may not be the criterion by which we should judge the need for compliance. Acceptance of fintech for what it is may be the best route – a market progression that redefines the balance between financial stability and consumer protection, rather than a distinction that furthers the divide between David and Goliath.