The government announces measures to support the UK's FinTech sector
The Chancellor has put on his boxing gloves and decided to get in the ring with FinTech; but as the industry's trainer rather than its opponent. The UK government has announced plans to consider whether the UK wants to regulate virtual currencies and highlights measures intended to open out use of alternative finance providers. This article also introduces the FCA's proposals to regulate financial promotions made via social media.
The proposals have various strands. The most significant from a regulatory perspective are:
- Assessing the pros and cons of virtual currencies with a view to determining the UK's strategy.
- Where traditional lenders are unable to provide finance to a small or medium sized business, they will be required to consider whether the request should be shared with online platforms designed to match the would-be borrowers with other sources of funding, such as challenger banks, crowd-funders, peer-to-peer lenders and invoice financiers (see the Small Business, Enterprise and Employment Bill, currently making its way through Parliament).
A raft of additional measures look at areas such as tax incentives (including allowing peer to peer investment through ISAs), the UK's digital communications infrastructure, reviewing how technology in the financial sector will evolve, £100 million extension of the British Business Bank’s Investment Programme, and proposals for incentives to promote the development of innovative finance solutions.
By engaging with the Government's programme of work at an early stage, the industry will do itself a great favour: ensuring the regulatory system allows the agility of FinTech to enhance consumer and small business experiences and competition in the financial services sector.
Why is this relevant?
Peer to peer lending, crowd financing, support to challenger banks and virtual currencies represent the democratisation of finance. But there are risks to firms as well as consumers from the innovation.
Peer to peer lending and crowd funding could prove able to provide important lines of finance. However, the risks of lending to or investing in SMEs are the same as they have always been: some succeed, others fail. The difference is that the advent of technology significantly enhances the ability of the broader public to become involved in SME or peer to peer financing activity. The challenge is to balance the benefits of harnessing this potential against the risk of loss.
The Chancellor's announcement suggests that traditional banks (possibly involved in the Funding for Lending scheme) that decline SMEs will need to refer them to certain designated platforms. The apparent function of these platforms is to match applicant SMEs to other alternative sources of lending. It is not immediately obvious that these "matching" platforms exist in the market yet, so there is opportunity there. Traditional lenders will need to make additional process changes to accommodate this requirement.
The FCA has already set out its requirements and approach to crowdfunding over the internet, and the promotion of non-readily realisable securities by other media.
The position with virtual currencies is less certain. At the moment, virtual currencies are somewhat a hybrid between a volatile asset class and a unit of exchange for early adopters, involving significant leaps of faith. While there are benefits of virtual currencies, such as, reduced transaction costs, faster transaction speed and potentially financial inclusion, they bring risks at a macro prudential level and to individuals.
Regulation would be a positive step for VCs, helping them become more mainstream. The government must consider investor protection, taxation of profits and financial crime. A set of virtual Queensbury Rules is needed to govern dealings between market participants. We suggest assurance is required on the terms of the product itself, accountability, price stability, certainty as to redemption or exchange, transaction verification, information inequality, user identification, settlement norms and adverse event mitigation, and jurisdictional responsibility.
The FinTech industry will know that a situation where payer and payee can remain anonymous (undermining anti-money laundering, counter-terrorist financing and sanctions regimes) is not sustainable or desirable.
In contrast to the UK's moves, the European Banking Authority has already identified over 70 risks with virtual currencies and is muted on the benefits. For the time being, it has recommended that national supervisory authorities (such as the FCA) discourage financial services firms from taking exposure to virtual currencies.
The Government is proposing to release a strategy document later in 2014. We believe that it is vitally important for FinTech firms to engage in these developments at an early stage to ensure they influence the direction of regulation in the near and medium term.
Firms will also want to be aware that the FCA has launched a consultation to clarify its approach to the rising popularity of social media and to the supervision of financial promotions in social media.
It can be a criminal offence in the UK to make a financial promotion and the FCA's overall approach is media neutral. An attraction of social media is its informality, character-limits and easy repetition – making it an easy way for businesses and individuals to contravene compliance requirements (albeit unwittingly). This consultation closes on 6 November 2014 and the FCA's approach should be finalised in early 2015. All firms, especially with marketing and FinTech expertise, should engage with this consultation.