The US Department of the Treasury has published its long anticipated report on Fintech. This is the fourth in a series of reports emanating from Treasury that address emerging innovations in finance.
“Creating a regulatory environment that supports responsible innovation is crucial for economic growth and success, particularly in the financial sector. America is a leader in innovation. We must keep pace with industry changes and encourage financial ingenuity to foster the nation’s vibrant financial services and technology sectors.”
The report seeks to identify areas within the regulatory landscape that could be updated to better empower changes in financial services to keep the US competitive with other jurisdictions that are doing the same. Treasury says the document benefited from a wide range of stakeholders focused on consumer financial data aggregation, lending, payments, credit servicing, financial technology, and innovation.
Overall, Treasury made 80 different recommendations for the government to consider. The authors note that rapid advances in technology, the digitization of the economy and an ample supply of risk capital is fueling Fintech innovation. Treasury estimated that the flow of investments into global Fintechs is very large and that U.S. firms accounted for nearly half of the $117 billion invested from 2010 to 2017.
Treasury’s recommendations broadly covered the following four categories:
- Adapting regulatory approaches to changes in the aggregation, sharing, and use of consumer financial data, and to support the development of key competitive technologies
- Aligning the regulatory framework to combat unnecessary regulatory fragmentation, and account for new business models enabled by financial technologies
- Updating activity-specific regulations across a range of products and services offered by nonbank financial institutions, many of which have become outdated in light of technological advances
- Advocating an approach to regulation that enables responsible experimentation in the financial sector, improves regulatory agility, and advances American interests abroad.
Importantly, Treasury tackled the biggest problem in regard to fostering Fintech innovation. The problematic regulatory fragmentation that has undermined the ability for Fintechs to provide improved services to consumers and businesses while harming global competition.
The report states:
“Many statutes and regulations addressing the financial sector date back decades. As a result, the financial regulatory framework is not always optimally suited to address new business models and products that continue to evolve in financial services. This has the potential negative consequence of limiting innovation that might benefit consumers and small businesses. Financial regulation should be modernized to more appropriately address the evolving characteristics of financial services of today and in the future.”
Treasury advocates that harmonization of state oversight would be beneficial in encouraging emerging Fintech services. The document also encourages the Office of the Comptroller of the Currency (OCC) to “further develop its special purpose national bank charter” or Fintech Charter as it is popularly called. The OCC Fintech Charter has been languishing for years now as special interests have blocked its advancement.
Treasury recommends that the OCC “move forward with prudent and carefully considered applications for special purpose national bank charters.” But the report adds that OCC special purpose national banks should not be permitted to accept FDIC-insured deposits.
Treasury explains a portion of the enigma;
“Nonbank lenders that operate in multiple states must acquire lending or credit licenses for each applicable state. As a result, geographic expansion can only generally be accomplished through repeated licensing efforts, each with a state-specific regulatory regime.”
A Long and Complex History of State and Federal Regulation in Financial Services
This unnecessary governmental overlap harms consumers and adds time and cost to aspiring Fintech firms that may challenge incumbent financial institutions. In fact, Treasury puts a number on the cost to businesses of $1 million to $30 million – a lot of money for an entrepreneurial firm. Additionally, a portion of this cost continues in perpetuity as firms must constantly monitor ever evolving state regulations and move quickly to comply when one changes.
“These cumulative challenges of operating in the state-based regulatory regime result not only in excessive regulatory costs, but also constrain the ability of nonbank firms, including start-ups, to innovate and to scale nationally.”
Treasury recommends that regulatory modernization must take place and provides their opinion on a solution. While recognizing that state based regulators play an important role, the inertia exemplified by the current regulatory morass must be addressed within the next few years:
“Treasury supports state regulators’ efforts to build a more unified licensing regime and supervisory process across the states. Such efforts might include adoption of a pass-porting regime for licensure. However, critical to this effort are much more accelerated actions by state legislatures and regulators to effectively reduce unnecessary inconsistencies across state laws and regulations to achieve much greater levels of harmonization. Treasury recommends that if states are unable to achieve meaningful harmonization across their licensing and supervisory regimes within three years, Congress should act to encourage greater uniformity in rules governing lending and money transmission to be adopted, supervised, and enforced by state regulators.” [emphasis added]
Addressing the nagging issue of Madden v. Midland, a problematic legal challenge that impacts online lenders, Treasury “recommends that Congress codify the “valid when made” doctrine to preserve the functioning of U.S. credit markets and the longstanding ability of banks and other financial institutions, including marketplace lenders, to buy and sell validly made loans without the risk of coming into conflict with state interest-rate limits.”
Brian Peters, Executive Director of Financial Innovation Now – an entity that represents big US tech and their interests in pursuing Fintech services, had this to say about the Treasury Fintech report;
“Financial Innovation Now advocates for smart federal policies that promote technological innovation in financial services, and we believe the Treasury Department’s report is a strong step towards modernizing antiquated financial regulations. From secure mobile payments to fast and accessible credit, FIN member companies are empowering consumers and small businesses with helpful financial tools. We look forward to working with Congress and federal financial regulators on these necessary policy updates.”
There is plenty more in this report that weighs in at over 200 pages. The document reviews Artificial Intelligence (AI), specific lending sectors, cybersecurity, big data, Insurtech, Regtech, and more, but it is clear that Treasury has set a high bar for Fintech success within the US. The UK Financial Conduct Authority is mentioned more than a few times as a source for empirical information giving a nod to the regulators innovation credability.
If you are looking for information on blockchain, or distributed ledger technology, and digital assets, the topic receives only tertiary coverage as these technologies are being explored separately in an interagency effort with the group promoting coordination among regulators as these technologies evolve.
Expanding access to the underbanked, empowering entrepreneurs to challenge incumbent financial services, and enabling an innovation driven financial services market is within grasp if state – and federal – regulators are willing to change.
Treasury points to the fact that the US is a global leader in tech innovation and Fintech development has “increased exponentially.” But without regulations that do not “constrain innovation,” the US lead is placed at risk. Treasury says that “regulators must be more agile than in the past in order to fulfill their statutory responsibilities without creating unnecessary barriers to innovation.” The US “cannot take its leading position in innovation for granted.”
And if US regulators do not clean up their operations and harmonize their actions within the next three years, Congress must act with clearcut determination to address these many regulatory challenges.