U.S. Government Accountability Office Publishes Report on Fintech Regulation

In March 2018, the United States Government Accountability Office (GAO) published a report on Fintech regulation (the “GAO Report”). The GAO Report assesses how various American regulators can protect consumers of Fintech products and promote regulatory harmonization and innovation.

Overview

One of the major challenges in the United States, like Canada, is that there are many different regulators with responsibilities related to Fintech. The GAO Report identifies ten different federal regulators, many of whom have overlapping objectives, in addition to a number of state regulators and self-regulating industry organizations. Fintech firms consulted for the GAO Report identified the number of different regulators as a source of difficulty in identifying and complying with the various regulations applicable to their business. Numerous regulators were found to make it difficult to predict what approach would be taken by various regulators with differing objectives, capabilities and enforcement powers.

The GAO Report found that Fintech promises significant potential benefits to consumers. Mobile device payments offer greater convenience to customers who are able to access their finances anytime and anywhere. Distributed ledger technology has the potential to lower costs and improve security for payments and asset management. Automation of loan approval and investment advice can reduce transaction time. The better use of data from these transactions can also lead to increased financial inclusion, particularly for disadvantaged communities.

The GAO Report also identified potential risks to consumers. One such example is the risk of unauthorized transactions taking place following aggregation of a customer’s accounts by a Fintech firm. A consolidated picture of who should bear the cost of compensating customers has not yet emerged; should responsibility lie with the Fintech aggregator or the bank or credit union behind the underlying account? These questions highlight the importance of a coherent regulatory approach between agencies.

Regulatory Coordination

The central theme of the GAO Report is that government agencies need to do more to coordinate with each other to encourage Fintech innovation. For example, the report suggests that the Federal Reserve should consider including the Federal Communications Commission (FCC) at meetings of the Federal Reserve’s Mobile Payments Industry Working Group because of the FCC’s expertise in mobile device regulation.

Other agencies are also encouraged to take a cooperative approach to Fintech regulation by including other agencies in their meetings and by sharing knowledge across platforms. Regular touchpoints between regulators are useful as they help to clearly define each regulator’s roles and responsibilities. This reduces confusion for Fintech entities and allows regulators to better protect consumers.

Cooperation can also take place between regulators in different countries. The GAO Report notes that international Fintech cooperation agreements or “Fintech treaties” are a growing trend. Cooperation agreements are intended to help regulators share information and facilitate referrals for Fintechs which are interested in new jurisdictions. For example, Canada has concluded Fintech cooperation agreements with regulators in France, Australia, Abu Dhabi and the United Kingdom. The Canadian Competition Bureau also recommended increased coordination and harmonization between international regulators in its report on technology-led innovation in the Canadian financial services sector (see our blog post on the Competition Bureau Fintech Report here).

American regulators have also joined the trend of international Fintech treaties. The recent agreement between the UK Financial Conduct Authority (UK FCA) and the U.S. Commodity Futures Trading Commission (CFTC) is the first example of a cooperation agreement involving an American regulator. The UK FCA and CFTC agreed to collaborate on their LabCFTC and FCA Innovate initiatives to support the growth of Fintech firms.

Innovation Offices

One of the regulatory tools the GAO Report examines is the development of Innovation Offices within agencies. Having dedicated staff who are knowledgeable about questions frequently posed by Fintech startups facilitates issue resolution and regulatory oversight. Innovation Offices are also well-positioned to hold Fintech-related events which bring industry experts together with regulators to encourage cooperation.

While some Federal agencies, such as the Office of the Comptroller of the Currency (OCC), have developed Innovation Offices, the GAO Report notes that others, such as the Federal Deposit Insurance Corporation (FDIC) and National Credit Union Administration (NCUA) have not. At a minimum, the GAO Report recommends agencies consider a dedicated webpage and contact email address in order to allow Fintechs with issues a method to get in touch.

Canadian jurisdictions are also looking at the concept of Innovation Offices. For example, the Government of Ontario recently announced plans for a Fintech Accelerator Office (FAO). The FAO’s objective when it launches in November 2018 will be to help Fintech startups connect with regulators, global financial institutions, and other Fintechs. (see our blog post on the FAO here)

Regulatory Sandboxes

The GAO Report also suggests American regulators consider establishing regulatory sandboxes. Regulatory sandboxes allow firms to test their ideas on a limited basis in a supervised environment where the enforcement of traditionally applicable regulation is modified. Sandboxes are helpful to regulators because they assist policymakers in determining appropriate regulatory approaches while also limiting the systemic consequences from the risk of a proof of concept failing. Sandboxes also are helpful for Fintechs who can use their experience interfacing with regulators in the sandbox to bring products to market-ready compliance more quickly.

Fintech regulatory sandboxes have been created in several jurisdictions around the world. Canada, Australia, Singapore, Switzerland, the United Kingdom and others have each developed their own regulatory sandboxes. The Canadian regulatory sandbox is administered by the Canadian Securities Administrators and aims to offer qualifying businesses a more tailored approach to regulation on a case by case basis. The CSA sandbox allows innovative businesses such as online financial portals, cryptocurrency-based ventures, and artificial intelligence trading platforms the opportunity for relief from certain regulatory requirements to permit them to test their products throughout the Canadian market. (see our blog post on the CSA Regulatory Sandbox)

The UK FCA has even published a proposal for a global sandbox (see our blog post on the idea). In the United States, Arizona recently became the first state to create a regulatory sandbox program, but federal regulators have not yet followed suit. The GAO Report suggests studying the idea in greater depth to see if such a concept would work federally. No action letters, trial disclosure waivers, innovation awards, industry advisory councils and Fintech accelerators in which regulators provide access to funding are also other tools open to American regulators.

Conclusion

Developing a regulatory system which is flexible and can adapt to new innovation is not easy. The GAO Report identifies several areas where Fintech regulation can be improved in the United States, including interagency cooperation, innovation offices and regulatory sandboxes. These lessons can also be applicable to other jurisdictions, such as Canada, which face similar challenges from a patchwork of Fintech regulation.