Fintech Sandboxes: A Global Overview

fintech sandboxes

When an industry develops at a breakneck speed, the law can take some time to catch up. Existing regulations usually do not fit new paradigms, and it can stifle innovation. A regulatory sandbox is the perfect solution because it allows for the testing of new innovations in a controlled environment. The term “sandbox” refers to […]

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fintech sandboxes

When an industry develops at a breakneck speed, the law can take some time to catch up. Existing regulations usually do not fit new paradigms, and it can stifle innovation. A regulatory sandbox is the perfect solution because it allows for the testing of new innovations in a controlled environment.

The term “sandbox” refers to the box of sand where small children play in a confined boundary. The term has received a new connotation in a commercial sense and refers to a closed environment used for experimenting and testing projects or new ideas. Regulatory sandboxes help in testing business proposals and prototypes under a regulator’s supervision. These testing grounds have an advantage of not being governed by current rules and, therefore, the business can explicitly experiment the validity of their projects without the danger of getting caught on the wrong side of existing law.

Such regulatory sandboxes are critical for the development of the alternative lending industry. The gist of having regulatory sandboxes in this sector is to comply with the regulatory directives that complement the growth of fintech companies without compromising on users’ safety and protection. The existence of suitable safeguards assists players in executing a live trial in the market without having to worry about the legal consequences.

The Dawn of the Regulatory Sandbox

Financial regulators across the globe understand the challenges and opportunities presented by innovations like digital-only banking, P2P lending, robo-advisors, and other fintech innovations. Some countries have taken the lead in ensuring that an ecosystem is created which helps startups experiment with their products and services without running afoul of current rules.

United Kingdom- The Pioneer

Seeing massive investor interest in this industry, the Financial Conduct Authority (FCA) proposed a regulatory sandbox as a part of its Project Innovate. It started accepting applications in mid-2016.

The UK has completed the successful testing of models from 18 out of 69 firms in the first phase and 24 out of 77 firms in the second phase. The sandbox has accepted 18 out of 61 firms for the third phase, and 29 out of 69 applications received qualified to the testing stage in the fuurth phase.

Participants in the UK sandbox came from sectors like retail banking, general insurance, retail lending, and wholesale lending. Around 35 percent of the participants in the secnd phase were from other countries, including the US and Singapore. The fourth cohort has almost 40 percent of startups experimenting with distributed ledger technology for disrupting traditional finance.

The UK regulatory sandbox includes:

  • A positive reaction from other global regulators.
  • The startup community’s eagerness is evident from each phase being oversubscribed.
  • It has reduced the time to get an idea to market. FCA claims that, during the first year itself, 90 percent of the firms were able to go for a commercial market launch of their product.
  • Also, many of the approved fintech companies were able to attract VC investment for their projects.

Singapore

The second jurisdiction to launch the concept of a regulatory sandbox is Singapore. The Monetary Authority of Singapore (MAS) introduced its sandbox in June 2016. It has launched a range of schemes for interested startups. Till date, the country has the maximum regulatory alliances and has entered into co-operation arrangements with eight countries including UK, Australia, and Japan.

Since its launch, the MAS has guided over 140 applicants from around the globe. About one in five applications has been approved for experimentation.

Startups in crowdfunding, financial advisory, artificial intelligence, cross-border funding, distributed ledgers, and more were able to experiment under the MAS scheme. The sandbox has helped Singapore attract overseas startups to come and do business in the country. And it is contributing positively in making Singapore a Smart Financial Hub by allowing these young startups to form partnerships with traditional financial institutions.

United States

The Consumer Protection Financial Bureau (CPFB) initiated the concept of regulatory sandboxes to ensure global compliance and to stimulate innovation in the fintech industry.

Arizona became the first state to open a fintech sandbox in the US by passing a legislation to create a Regulatory Sandbox Program. This program will enable finetch players to test their financial products without being subjected to the licensing provisions of the state. The move will come under the supervision of the Arizona Attorney General. Another state, Illinois, also on the footsteps of Arizona, has a separate regulatory bill (currently on hold) on the horizon.

Along with the regulatory sandbox, the US has also launched an ‘office of innovation’, which primarily focuses on blockchain and cryptocurrency technologies. The aim is to stimulate competition in the industry and expedite consumer advancement.

The participants included payment start-ups, financial technology companies, credit agencies, and lending companies.

The startups in the Arizona sandbox will be allowed to experiment with their financial products for a period of up to two years. The sandbox has promoted investment and job creation in the state. It will help improve the competitive position of the country in the global fintech industry. The concept has also helped early stage entrepreneurs surpass the legal hurdles with access to a trillion dollar opportunity.

Canada

The Ontario Securities Commission (OSC) launched its sandbox “LaunchPad” in February 2017. The government is said to create a “super sandbox” that will help foster communication between fintech players, financial institutions, regulators, and the government. It is a part of its 2016-2019 Business Plan to understand how technology affects the markets. An agency by the name Ontario Fintech Accelerator Office will also be instituted to provide assistance to start ups. The government plans to develop the retail payment and financial sector framework at the national level.

It has given a push to Canada’s innovation market as earlier, due to the domination of a few financial companies in the industry, innovation was slow. Now, it has allowed Canadian fintech companies to come forward and grow both locally and internationally. The new idea will benefit Canadian SMEs who could not access funding from traditional lenders.

Global Integration

The concept of regulatory sandboxes is currently running in over 20 nations. Apart from the countries mentioned above, Australia, Indonesia, Hong Kong, Malaysia, Denmark, and Thailand have sandboxes running to join the race. To promote interaction among participants at a global level, a GFIN (Global Financial Innovation Network) has been launched, aimed at knowledge sharing and facilitating cross-border testing of ideas. It is a joint effort of FCA and 11 other regulatory authorities. Organizations such as the US CFPB, Hong Kong Monetary Authority, UK FCA, MAS, and others, are a part of this network. The goal is to go past the idea of a sandbox and ensure that regulators are able to support the advancements in the fintech industry.

Authors:

Written by Heena Dhir.

The post Fintech Sandboxes: A Global Overview appeared first on Lending Times.

Illinois Department of Financial Regulation’s Secretary Schneider encourages and supports innovation

Illinois Department of Financial Regulation’s Secretary Schneider encourages and supports innovation

(Interview taken at LEND360 conference on October 6th 2016.) Illinois has been in the forefront of financial services industry and it has now emerged as a leader in the fintech industry as well. Illinois Companies in financial services space managed to attract over $1.1 billion Venture Capital funding in 2015.   According to World Business Chicago, […]

Illinois Department of Financial Regulation’s Secretary Schneider encourages and supports innovation

(Interview taken at LEND360 conference on October 6th 2016.)

Illinois has been in the forefront of financial services industry and it has now emerged as a leader in the fintech industry as well. Illinois Companies in financial services space managed to attract over $1.1 billion Venture Capital funding in 2015.   According to World Business Chicago, Illinois fintech industry generates $25.9 billion in gross regional product and 8,412 companies employ an estimated 123,156 people. All these stats point out to the growing clout of Illinois in the fintech industry. In particular, Chicago-headquartered Avant with its $325 million raise in 2015 is the prime example of fintech success.

Exclusive interview

Fintech companies need a stable and progressive regulatory regime if they are to disrupt the status quo. In an exclusive interview; Bryan Schneider, Secretary at Illinois Department of Financial and Professional Regulation explains how Illinois is the natural home for fintech companies due to a collaborative regulatory ecosystem. He plans to bring in further reforms that will encourage more fintech companies to establish themselves in Illinois. The state already has one of the highest number of state-regulated fintechs, banks and credit unions and same goes for non-depository institutions like mortgage banking, origination, servicing etc. Because of its flexible, reasonable, and balanced regulatory framework, Illinois has the most depository institutions of any state and the state plans to help emerging start-ups to encourage economic activity in Illinois. The regulator is insistent on an insured depository model so as to ensure that all players are participating via a safe setup.  The state and the regulator are able to take a case-by-case view on the basis of a business plan as mandated by the FDIC.

Regulatory tech

The secretary also appreciates the time taken for approvals and passing relevant regulation can be sometimes death knell for a young startup. Bryan not only understands regulatory technology and its ability to unshackle growth at young fintech start-ups but was previously on the board of entity administering NMLS. The system is one of the major reasons for growth in securitization in the mortgage industry. He lets on that NMLS is also contemplating to expand the platform to include license and regulation for other types of financial service providers. The ultimate aim is to create a one-stop shop for all regulatory requirements. What is required is an ongoing continuous process, where innovators need to pitch in and help regulators all across the nation in bringing uniformity throughout the system.

He feels states should use UK’s Financial Conduct Authority (FCA) as a working model; FCA is able to bring government and the industry on the same page, whereas in the US every state has a different answer for the same question. He feels better coordination and uniformity is required among the states.

It is the worst kept secret, but everyone knows federal and state agencies just don’t get along at all and its repercussion is endured by the stakeholders. The ideal scenario would be federal and state agencies joining hands to work together to bring uniformity and harmonization among all the regulators. In the long run, state regulators should listen to the needs and wants of the innovators and try to inculcate that in the system.

Another option that can be considered is a “Regulatory Sandbox”, it is a universal truth that there cannot be a perfect solution for everything every time. So by creating a pilot program (i.e. sandbox) it will allow innovators and regulators from the different states to pitch in at one common platform. The secretary affirms that many of the state regulators share the same view.

Fintech advisory counsel

To promote diversity of opinions, Illinois state regulators are considering building a fintech advisory counsel, such kind of counsels are generally present on banking side and are run by both state and federal agencies. As IT is always evolving, it is need of the hour in the fintech space. But the real challenge is how to develop the advisory mechanism for it to be responsive; once a year meeting would not serve the purpose of the industry. Again the Secretary believes that technology holds the key. By conducting sessions through a dedicated webinar and online chat platform, people will be able to identify the problems and can work together to find the solutions.

Blockchain

Another technology gaining popularity is blockchain. It is a distributed database that maintains the continuously growing list of records which are secured from tampering and revision. Till now it is mostly used in virtual currency but it can be utilized in other financial areas like mortgage lending. It would help to create a complete mortgage file in the blockchain. Regulators and private players can then rely on that data and not worry about leaving out any details. Payment tech has also grown to the extent that the ubiquitous financial instrument the “cheque” is in danger of going extinct in the new digital first millennial world. Bryan believes that payment tech regulations are balanced but he is still in favor of helping resolve any systematic issue for the growth of payment tech start-ups.

The key

The secretary believes that communication is the key to creating a common and a balanced framework for the entire industry. Online forums have the power to ensure that every entrepreneur and business owner- big or small is heard. Illinois has always been the hotbed of financial technology with world leading futures and commodity exchanges. The Illinois regulators acknowledge fintech is the future and are rolling out their red carpet to make it the cradle of fintech innovation.

Author: Heena Dhir and George Popescu

George Popescu