Feedback on FCA Project Innovate Workshops

The Financial Conduct Authority has published its summary of the feedback it received in relation to its proposals to support innovation in financial services ("Project Innovate").

A striking aspect is the negative, limited view of innovation from established, regulated firms, compared to small innovators and non-regulated firms. This seems to underscore how protected the existing providers have been from external competition to date.

Worth providing feedback on the summary, and any solutions to problems identified.

Following the Financial Innovation Lab session in May and the Project Innovate session I attended in August, I still recommend a short 'small firms registration process' that would allow all new firms to enter the market more quickly and operate under certain thresholds before going through the lengthy full authorisation process if they can succeed in growing (as for small payment/e-money institutions).

PSD2, The Saga Continues - Updated

The European Council issued its revised proposal for PSD2in September 2014.

The Society for Computers and Law has kindly published an update to my earlier article on PSD2 to reflect the revised proposal.

Possibly the key issues relate to:

• limiting the technology service providers exemption to those who supply their services to payment service providers, rather than users - for example, this would no longer seem to apply to 'gateway' data services supplied to merchants/retailers, as opposed to acquirers;
• the distinctions between technology services, on the one hand, and services involving payment initiation, account access, bill payment and acquiring;
• the inconsistent treatment of bill payment services, e-commerce marketplaces and the suppliers of public communications networks (telcos);
• the notification requirements for large store card, gift card and loyalty programmes and other 'limited network' payment schemes;
• the requirement for payment service providers to release to payers the names of payees who refuse to surrender funds that have been paid to them by mistake;
• host state reporting for cross-border service providers, in addition to home state reporting;
• prescriptive security provisions affecting different types of payment service provider, which must meet (as yet unpublished) standards issued by the European Banking Authority;
• e-money institutions having to provide fresh evidence that they meet the threshold conditions for authorisation.

Interested in hearing your thoughts, either here or via the SCL site.

 

The Role of Consumer Contracts, Advice and Disclosure

Great discussion at a CSFI event this morning, focusing on the difference between financial advice and guidance, and touching on the FCA's very encouraging plans to support a far better consumer experience and more innovation generally. A key theme in the discussion centred on the role of consumer contracts in the supply of financial services, and it was clear there needs to be more discussion on the tension between regulation, contracts and product information. 

Of course, the starting point was that lengthy consumer contracts are 'silly' - a point made by John Kay last year and discussed on the SCL blog. But it's important to recognise that contracts act as a layer between law and regulation and the information a consumer sees when buying and using a financial service. They represent a service provider's public statement of how it interprets the law and regulation to apply to its service. That statement is critical not only for consumers themselves, but also for the courts and many stakeholders on whom consumers rely to protect them (indeed governments have even deputised global service providers as private sheriffs, relying on violations of their terms of service to 'shut down' Wikileaks, for example). In addition, financial instruments - loans, bonds, shares - that are agreed or traded in the course of using most financial services are themselves simply sets of terms and conditions.

The reason consumers are confronted by such terms and conditions is that the courts have insisted that consumers must be given an opportunity to read and agree them if they are to govern the customer relationship. It is this interactive process of offer and acceptance that produces an enforceable "contract" (along with some form of 'consideration'). Unless and until Parliament changes the basis for establishing contract law in the UK, we're stuck with that approach. 

Yet this morning it was suggested that a consumer should not even need to the opportunity to read and agree terms and conditions in order to benefit from them. Revolutionary stuff, unless you live on the continent, where a lot more of what we see as contractual terms are embedded in civil codes. This of course removes a lot of commercial flexibility, and means the market moves at the speed of law and regulation... which would undermine the FCA's object of promoting innovation.

Of course, the financial services sector is arriving late to the debate about how to enable consumers to properly agree and understand the substance of a contract without necessarily drilling into the fine print unless they so wish. The intellectual property community came up with the Creative Commons licensing model in 2001 and, more recently, the World Economic Forum has been trying to foster a similar approach to the use of personal data.

But the critical issue in every case is whether the simplified summaries that consumers see and agree actually reflect the terms and conditions on which a firm says it is doing business; whether those terms and conditions are consistent with applicable law and regulation; and, finally, whether the firm's business processes and computers actually operate on the same basis. Here we run into the tension between Big Data and the growing array of technology that puts you in control of Your Data - data about you, or which you generate in the course of your activities.

This is certainly not an area where the FCA can go it alone, and it's great to see their representatives (not to mention someone from the Treasury) participating in open debates such as the one this morning. 

Consultation On New Mortgage Rules

The UK Treasury is now consulting over the rules required to implement the European Mortgage Credit Directive by March 2016.

Importantly, the proposed rules will regulate second charge mortgages (also known as second charge loans, secured loans or secured personal loans) into line with first charge mortgage lending; and introduce a new set of regulations for buy-to-let lending, where the lending is to consumers rather than for business purposes. This is not expected to affect the vast majority of buy-to-let lending which is done for business purposes and therefore not subject to the European directive.

The consultation is open until early November 2014.

UK Remains Calm Over Virtual Currencies

Despite the ECB's recent attempt to "discourage" EU financial institutions from trading or holding virtual currencies, the UK Chancellor has explained that the UK will conduct its own investigation into the potential for virtual currencies, like Bitcoin, to encourage innovation in the financial sector, while also considering the risks and how best to mitigate them. 

This perfectly illustrates the common law adage that 'the law must follow commerce', as opposed to the civil law view that the State should first prescribe whether and how business should be done - a distinction that Eurocrats really need to understand. As George Osborne noted: 

"it is only by harnessing innovations in finance, alongside our existing world class knowledge and skills in financial services, that we'll ensure Britain's financial sector continues to meet the diverse needs of businesses and consumers here and around the globe".

 

Entrepreneurs: Help The FCA Help You!

Great news: the Financial Conduct Authority is continuing its efforts to support innovation in financial services, and is offering both entrepreneurs and innovative firms the chance to sense-check its approach.

Following the session with the Finance Innovation Lab in May and its June announcement of Project Innovate, the FCA has just issued a mercifully short consultation paper on its plans and arranged a series of summer workshops on:

• how entrepreneurs can get authorised more efficiently; 
• figuring out how non-regulated businesses can engage with the FCA in an Innovation Hub to help them collaborate with regulated businesses while avoiding the need for regulation; and 
• how regulated firms could engage with innovative firms and the FCA via the Innovation Hub.

Specific questions on which the FCA also welcomes your answers before 5 September are:

1. Is there anything about the regulatory system that poses particular difficulties for innovator businesses?
2. What practical assistance do you think the Incubator could usefully provide to small innovator firms?
3. Do you think it would be useful to establish an Innovation Hub function?
4. What criteria should we use in order to focus our resources on ‘genuine, ground-breaking’ innovation?
5. Do you have any other feedback or suggestions about Project Innovate?

This is a fabulous opportunity for everyone in the UK's FinTech sector to help the FCA improve its authorisation and guidance processes to support new businesses, so please get involved.

EBA Seeks To Freeze Link Between Actual And Virtual Currencies

On Friday, the European Banking Authority advised EU national financial regulators to "discourage" credit institutions (banks), payment institutions and e-money institutions from buying, holding or selling virtual currencies, based on over 70 risks that it says will require substantial regulation. The EBA says that should include bringing virtual currency exchanges which deal between virtual and actual currencies within the anti-money laundering regime.

Somewhat cryptically, the EBA concludes:

"Other things being equal, this immediate response will allow VC schemes to innovate and develop outside of the financial services sector, including the development of solutions that would satisfy regulatory demands of the kind specified above. The immediate response would also still allow financial institutions to maintain, for example, a current account relationship with businesses active in the field of VCs."

But there are many flaws in the EBA’s approach, and it undermines the EU’s potential as a home for financial services innovation. A lot more work should have been done - and the EBA should have engaged with the market participants publicly and constructively - before taking such disruptive action. Especially given that those participants (including venture capitalists and possibly financial institutions) should have a legitimate expectation to be able to continue their lawful involvement, unless the law is changed by the usual process. 

The EBA concedes as much by saying that it is too early to collect enough data to understand exactly what they are "shielding" financial institutions from: 

"...the phenomenon of [virtual currencies] being assessed has not existed for a sufficient amount of time for there to be quantitative evidence available of the existing risks, nor is this of the quality required for a robust ranking."

So what is the basis for intervening in this way now? Gut instinct?

There is obvious duplication and overlap amongst the risks identified and many “are similar, if not identical, to risks arising from conventional financial services or products, such as payment services or investment products”, as are the regulatory controls that are suggested for the longer term. Key benefits of virtual currencies are also dismissed in the context of the EU and Eurozone on the basis of regulations that are yet to take effect. 

Oddly, the EBA points to a risk that regulating virtual currencies more leniently will create an unequal playing field that could result in service providers leaving fiat currency markets in favour of their virtual cousins. Surely that risk is heightened by denying financial institutions early access to virtual markets altogether. Has the EBA learned nothing from the rise of shadow banking? Won't this breed weak regulated institutions? Won't entrepreneurs simply operate outside the EU, leaving its institutions unable to capitalise on opportunities that virtual currencies might have brought? 

And why would the EU want to discourage borderless financial services while it's trying so hard to kickstart cross-border commerce?

A requirement for fully comprehensive regulation cannot be the price of institutional participation in virtual currency markets. There is a flawed belief amongst Eurocrats that ‘vigorous regulation’ is a pre-condition for consumer trust, as Paul Nemitz recently asserted. But that is not supported by the way in which the digital economy has evolved. Regulation can help build on existing trust, but cannot create trust where none existed before. This difference between the civil law and common law view of the role of regulation needs to be resolved in favour of a more acommodating EU approach to innovation and competition if the EU member states are to compete globally. For instance, the UK Cabinet Office convened a workshop on financial innovation in October 2013, which featured a session on virtual currencies; and UK revenue officials were helpful in merely clarifying their tax treatment of virtual currencies earlier this year. More recently, the Financial Action Taskforce (FATF) was also much more circumspect in a report that was intended to “stimulate a discussion” on how to introduce risk-based anti-money laundering controls in the context of virtual currencies. 

The EBA's intervention is further evidence that the EU financial regulatory regime needs to be much more open to innovation and competition if we are to avoid the pitfalls discussed in the Parliamentary Commission on Banking Standards.

A more detailed review of the EBA opinion has since been published at the Society for Computers and Law.