Banks, Fintechs, Innovation and Regulation
Innovate or Die.
It has become a common refrain over the past decade or so for banks when it comes to technology, particularly when faced with fintechs wishing to disrupt what has traditionally been part of banking’s value chain. But in the U.S.,the challenges associated with innovation come not only from fintechs but also from the relatively glacial pace of regulatory change.
“Innovation isn’t risk free, but neither is doing nothing.”
BBVA Compass Deputy General Counsel Mike Carlson admits that there are inherent risks when it comes to innovation, but he also believes that the risk of not innovating is, in fact, worse.
“Innovation needs to be a priority or you’re going to create risk to the banking system,” he says. “By that, I mean that if banks don’t innovate they will eventually be less attractive to customers, which makes it harder to grow and may even erode your customer base and you may have to do things like start paying more for deposits to attract more customers...and it goes on. It can be a rapid downward spiral when you choose to do nothing.”
But, he says, the current state of regulation when it comes to banks, fintechs and innovation is murky, and as this recent report from Pew Charitable Trusts indicates, fragmented between agencies. Still, he said, there are ideas being tested that show promise, pointing specifically to Arizona’s regulatory sandbox.
Carlson: A regulatory sandbox can facilitate emerging industry innovations so these smaller companies can get some regulatory relief, but still have parameters to keep consumers safe.
“The regulatory burden can be a particular challenge for fintechs, which frequently are smaller and not properly staffed to address consumer protection and other regulatory requirements,” he said. “A regulatory sandbox can facilitate emerging industry innovations so these smaller companies can get some regulatory relief, but still have parameters to keep consumers safe. A regulatory sandbox is a limited testing environment to provide some latitude to test ideas on a small-scale basis for a limited period of time without the requirement to comply with all otherwise applicable laws.”
Carlson: It’s important that fintechs be regulated in a similar fashion to banks in order to adequately protect customers, and the integrity of the financial system.
Even so, he says, regulation should not be asymmetrical between banks and fintechs, with one regulated differently than the other, particularly when fintechs are looking to provide the same services to the same customers. “It’s important that fintechs be regulated in a similar fashion to banks in order to adequately protect customers, and the integrity of the financial system,” he said.
Presently, Carlson says, fintechs are primarily regulated at the state level, meaning they have to either obtain separate licenses in every state in which they intend to operate or otherwise comply with a range of state law requirements. In many instances this burden results in fintechs partnering with banks that already have operating approval in those states.
Carlson: When it makes sense and our objectives align, working with the fintech community and helping bear the burden of regulation is something we’re happy to do.
“Partnership is an answer, but there’s not just one,” he says. “For instance, at BBVA Compass, when it comes to fintechs, we’ve built our own, acquired them in certain instances, partnered with them in others and in yet others, we’ve invested through our Small Business Investment Company, Propel. When it makes sense and our objectives align, working with the fintech community and helping bear the burden of regulation is something we’re happy to do.”
Ultimately Carlson says, when it comes to the innovation and regulation, it’s important to understand the role of regulators.
Carlson: [Regulators] need to allow responsible innovation to occur so that financial institutions can keep up with consumer demand, just as fintechs are.
“It’s the job of regulators to protect the integrity of the financial system, provide protection for consumers, and allow financial services to evolve, for the benefit of the consumers that financial institutions serve,” he said. “Their job is big and its importance can’t be understated. At the same time, they need to allow responsible innovation to occur so that financial institutions can keep up with consumer demand, just as fintechs are. I maintain that innovation itself doesn’t pose a material risk to bank safety and soundness. It isn’t totally risk free, but then, neither is doing nothing.”