Fintech heralded the transformation of financial ecosystems through new ways of doing business while challenging established structures of regulation and oversight. This article (a first in the series) provides an introduction to these disruptive technologies and the associated regulatory gaps.
Fintech is the new paradigm of the financial services sector.
In recent times, the ubiquity of Fintech cannot be disputed or denied. Characterized by the emergence of new and innovative technologies, Fintech has disrupted the financial landscape by disaggregating the banking and financial services industry (BFSI) and offering targeted solutions. In a world marked by inequality, Fintech has democratized access to finance and promoted financial inclusion, which could help achieve the World Bank’s goals of ending poverty and promoting shared prosperity.
As revolutionary as these technologies are, they have presented regulators with unprecedented challenges because they operate in regulatory blind spots and have drawn attention to them. These loopholes are exploited for the perpetration of white-collar crimes leading to adverse consequences for Fintech companies and regulators.
This series analyzes Fintech operations against the existing and required regulatory regime and suggests a collaborative approach to preventing crime while enabling the holistic growth of Fintech ecosystems. This article provides an overview of the meaning and evolution of fintech and the challenges posed by the inherent novelty of the function. The following articles will focus on: (i) understanding how some Fintech models specific to the payments and digital lending biospheres work; (ii) white-collar crime is perpetuated through Fintech exploitation; and (iii) the existing regulatory landscape and proposes a way forward that enables inclusive growth while preventing abuse.
Understanding Fintech
Fintech is the integration of technology with financial services to deliver a more inclusive offering of financial products and offerings. It is characterized by its ease of scalability, speed and cost-effectiveness. In fact, Fintech in its rudimentary form has been around for quite some time in the form of credit cards, ATMs, electronic and online exchanges.
The 19and century saw the expansion of economic systems that spurred inventions like the telegraph and the laying of the first transatlantic cable that facilitated the rapid transmission of financial information. According to some sources, inventions signify the birth of technology in the field of financial globalization.
These core technologies were further enhanced with the advent of the analog era in the 20and century when the world witnessed the proliferation of wireless telegraphy, cinemas, radios, etc. However, at the end of the 20and century, the world had moved from the analog era to the digital era characterized by the introduction of ATMs and digital banking services, which for many marked the unveiling of the Fintech era. The launch of PayPal in 1998 further prophesied the times to come.
Nevertheless, the global crisis of 2008 marked a turning point in the evolution of Fintech history. After 2008, the lack of confidence in traditional banking steered the financial services industry towards innovation, where financial products were offered by private actors in the form of start-ups through the use of technology. .
What followed is now a Fintech world whose word is a portmanteau of Finance and Technology, defined by “who” provides financial services. The relevance of the same at present (however) has crossed the threshold of ease and comfort to improve financial access by reducing costs and closing gaps in the provision of financial services. The effect is most pronounced in developing economies where fintech has made inroads into underbanked segments of the population.
Growth data
According to a report by Coherent Market Insights, the global Fintech industry market is expected to be valued at USD 382.38 Million by 2027 at a compound annual growth rate (CAGR) by 7.05% over the period 2020-2027.
Through Invest India, Fintech deal value is expected to grow from USD 66 billion in 2019 to USD 138 billion in 2023 at a CAGR of 20%.
The Indian fintech market, currently valued at $31 billion, is expected to reach $84 billion by 2025 at a CAGR of 22%. According to ACI Worldwide, which tracks and analyzes real-time payments across 48 global markets, India ranks first with 25.5 billion real-time payment transactions.
Fintech Growth Catalysts in India
Driven by steady customer demand for seamless experiences, falling technology costs to build a Fintech business, and proactive government initiatives for full digitalization, India is considered to have one of the highest Fintech adoption rates. highest in the world.
Decoding the reasons for the exponential growth, a clear case is made for the government’s proactive efforts.
In 2016, the Reserve Bank of India set up a cross-regulatory working group to examine the granular aspects of fintech in India. One of the main recommendations was the introduction of a framework for Regulatory Sandbox. The same goes for live testing of new products in a controlled environment. Regulatory Sandbox runs cohorts (end-to-end sandbox process) to test new products with a focus on financial inclusion while mandating customer privacy, transaction security, compliance with your client / anti-money laundering / fight against financial terrorism et al. The Indian government has also actively promoted digitalization by introducing other technology-driven initiatives like India Stack and creating the Unified Payments Interface (UPI) ecosystem.
Other factors such as the proliferation of smartphones and app-based operating systems, demonetization, COVID-19-induced lockdowns have further boosted innovation.
The challenges posed by Fintech
Harnessing Fintech for White Collar Crime
As mentioned, the emergence of Fintech has thrown the BFSI into a state of disarray. Any massive disruption that paves the way for transformation and revolution is both a boon and a bane. While new and emerging technologies have led to easier and more efficient access to financial services for consumers, they have also resulted in regulatory loopholes that have created new and innovative avenues for crimes to be committed.
TrustCheckr has identified over 1 million frauds in the business-to-business (B2B) and business-to-consumer (B2C) segments over the last 15 months (2020-2021) in India. Apart from cyber security issues, crimes like money laundering, identity theft, cross-border terrorism financing, drug trafficking in cyberspace, etc. are critical concerns for investigative agencies and governments around the world. Elements of speed and real-time transactions, especially cross-jurisdictional, are exploited, leading to an increase in the incidence of white-collar crimes like money laundering.
It should be noted that new technologies such as blockchain and cryptocurrencies that have operated in an unregulated space pose heightened regulatory concerns due to the functional elements of speed, anonymity, and cross-border operations. The involvement of multiple jurisdictions has further resulted in increased complexity in the detection and investigation of crimes.
Challenges Facing Regulators
As noted earlier, after 2008 public perception of banks deteriorated and the resulting unemployment inspired entrepreneurial financial innovation. Previously, technology providers were seen as sellers who have now emerged as a new class of players in the form of start-ups. The same, however, in addition to bringing innovation and novelty to the financial industry, has led to a plethora of legal and regulatory issues for both the industry and governments. Indeed, with the increasing complexity of the technology used by Fintech companies, regulators are faced with new and evolving technical challenges.
Traditional players, i.e. established banking and financial institutions, operate in a well-understood market with clear obligations and regulatory implications. However, new players, aka Fintechs, have entered the market with little or no experience of regulatory interaction and regulators have little or no understanding of the processes inherent in Fintechs.
As a result, there have been incidents of confusing compliance with nebulous regulations, as evidenced by the PayPal incident (in December 2020, where India’s Financial Investigation Unit (FRC) imposed a fine of INR 9.3 million on PayPal Payments Private Ltd. for breaching the provisions of the Prevention of Money Laundering Act 2002. fall within the scope of reporting units because it is not a payment aggregator.
In fact, recent times have seen incidents of strong regulatory actions against Fintechs in some countries (the Chinese crackdown on Ant Financial being one of the most prominent examples) due to (sometimes unintentional) breaches of regulations imposed by regulatory agencies resulting in violation of laws.
Disruption is here to stay
Around the world, regulators are playing catch-up, as with rapidly evolving technologies, start-ups are outpacing the reach of regulations. Often the regulators themselves are unsure of the areas of concern. The same could/has resulted in the enactment of restrictive regulations that limit innovation or inadequate regulations that prove insufficient to protect financial systems vital to national security.
Against this backdrop, this series rationalizes the confluence of fintech and regulation through an examination of fintech ecosystems representing areas of heightened concern and their employment in the spread of white-collar crime. The series would also explore the application of the regulatory regime to Fintech and convergence with applicable legal statutes.
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