Mike Laven, CEO, Currency Cloud
Regulation has a huge impact on payments innovation across the globe.Regulators and central banks have an objective to foster innovation and improve competition in their home markets, and most governments are keen to see their countries develop FinTech capabilities.
It’s interesting then that the current view of the payments industry towards the regulation/innovation relationshipis mostly negative. The recent Global Payments Innovation Jury report spoke to 70 senior industry executives and found that 39% said that they believe regulation actually restricts rather than promotes innovation in their home markets, with another 26% stating that regulation has no notable impact.
So, is regulation actually ineffectual when it comes to driving positive change?
Regulation: a barrier to innovation?
Regulation impacts virtuallyall areas of the payments value chain; especially new payments businesses. It’s still cited as causing the most significant challenge for young payments start-ups, with 14% saying that it’s their biggest inhibitor to innovation. This is particularly prevalent in the areas of licencing and permission to operate, as well as keeping up with the speed of regulatory change.
Many point out that their regulator and/or central bank are usually staffed by ex-bankers, and this can lead to protection of the existing banks and traditional models. This may not be overt – often the authorities consider that they must prioritise risk control over innovation, and the risks can often be much easier to understand with established players and business models.
Established players are also usually already integrated with payment infrastructures and have a good understanding of existing regulatory requirements around the world. Increasingly, regulators require that financial institutions ensure that their partners and suppliers conform to the same standards and processes that apply to them. This can be a major issue for a lean start-up planning to partner with established firms. The practical result of a preference for ‘tried and trusted process’ is that in many markets, it is very difficult for new market entrants to become licensed – either licensed at all, or licensed in an acceptable timeframe.
Established vs. emerging markets
How involved the regulator is varies in markets across the globe. If we look at emerging economies like Kenya, for example, new regulations have been supportive by focusing on driving the development of electronic payments systems. In Kenya, this sort of initiatives has led to increased revenue collections for the government by upwards of 200%.
A third (35%) of senior industry executives in the Jury report did consider the favourable impact that regulation is having. India is another region regularly cited as a case study of where an innovation agenda by the central authorities has caused substantial positive change in the industry. With initiatives such as new regulations to prohibit the use of cash, government spending to build bank-payment platforms and consumer app distribution, public authorities in India have almost single-handedly driven innovation leading to positive change and the emergence of new business models.
However, in some more developed markets, such as Europe and the US, industry participants have in the past voiced that regulatory involvement has actually impeded, rather than encouraged, innovation.
Whilst this may have previously been true, the recent impact of regulation in encouraging the European innovation agenda cannot be ignored. The Payment Services Directive (PSD2) set to come into force in 2018 has the intention and potential to improve innovation. APIs and open access regulation in Europe will change the balance of power between banks and non-bank innovators, removing a key competitive barrier. In the UK, there is a compelling argument that the real-time payments system (Faster Payments) would never have happened without regulatory pressure.
How should the regulator’s role evolve in the future?
Some remain firm in the belief that regulation is a fact of life in payments and financial services, andthat the industry should therefore work together with regulators to rather than try to fight them. At the same time, regulators need to actively understand the businesses they are working with.
When it comes to how innovation should be encouraged, 57% of the Jury believe that the market should be left to develop solutions, whereas 36% believe that central agencies should ensure innovation is achieved.Sometimes central authorities can play a useful role, but most believe that this role should be limited to creating the right economic conditions for innovation and implanting short-term incentives to get over the initial ramp-up period of new business models. There was almost no support for central authorities stepping in to become industry operators (as has happened in some markets) to try to achieve financial inclusion.
Regulators are in a unique position of being able to drive real change. The forward march of new entrants is inevitable and as a result the role of the regulators will need to adapt to enable sustainable growth in the payments sector. Lessons can be learned from emerging markets that aren’t as encumbered by legacy red tape as their developed counterparts. Only by working together with the regulators can payments firms, established companies and start-ups alike, improve the regulatory requirements they must adhere to.