Fintech regulation must be entity-based: RBI Deputy Governor Rabi Sankar

The Reserve Bank of India’s (RBI) regulation around fintech should be more entity-based than activity-based, Deputy Governor T Rabi Sankar said on Tuesday.

This is the first time that a senior RBI official spoke on regulations around big tech after Google and Amazon announced their association in facilitating deposit products, a key focus of the banking regulator.

During his speech, he mentioned why fintechs are not allowed in deposit products, but only as payment service providers. If a fintech firm provides liquidity services, such as credit and deposit products, they should be regulated as strictly as other liquidity service providers, such as banks, he said.

In fact, big tech and their regulations found mention several times in Rabi Sankar’s keynote address at the Global FinTech Fest 2021.

Fintech is transforming the entire banking space, and regulations must evolve accordingly, the deputy governor said. The functions of banks are now being taken over by fintech firms, and new functions are emerging.

“This necessitates widening of the regulatory perimeter, the approach to regulation and also the type of regulation,” the deputy governor said in his inaugural address.

“The regulation must be activity based and not entity based, for example in case of big tech firms, or large non-financial entities (but engaged in finance). The approach to regulation has to evolve with the size of fintech,” Rabi Sankar said, adding, “Cyber security, systemic risk, and risk affecting competition need to be considered while dealing with big tech.”

With the big-tech in place, the differences between financial and non-financial firms are increasingly getting blurred and they no longer conform to boundaries.

It is virtually impossible to catch up with legislation around these companies, for any law is made after an elaborate consultative process. However, in the interim, regulation has to catch up.

“In many ways, regulation is the process of slowing down continuously evolving value chains so that legislation gets time to catch up,” said the deputy governor.

“Slowing down the process of change can attract criticism that the regulator is stifling innovation, but that is often the best way to protect customers,” Rabi Sankar said in his speech.

In this context, big tech raises competition and concentration issues. While limits imposed on the number of market participants might open up opportunity for new players, it might also stifle innovation.

“There is no clear regulatory approach available, whether in India or abroad. Just that markets are evolving, so must regulations,” he said.

Fintechs cannot be banks

The RBI deputy governor also harped on the importance of banks in the financial intermediation process. A bank works as a bridge between the depositors and borrowers, and in the process works as a money creator.

“Banks provide liquidity services, and bridge the temporal gap. Banks can create money and credit. Similarly in the area of payments, banks are uniquely placed, since all digital payment transactions are transfers of money from one bank to another,” he said.

“It is easier to see why financial tech cannot replace the core nature of financial intermediation. It can bridge the spatial gap because of their reach, but not the temporal gap,” he said.

“If any fintech is providing liquidity services, it is effectively a bank and therefore should have the same regulations and supervisions. That is why tech companies are not allowed in deposit and deposit products,” the RBI deputy governor said, without naming anyone.

Fintechs have been hugely beneficial to the country, and fintechs have posed a challenge to incumbents and forced them to adopt and change the way financial intermediation takes place.

“The ideal way is to identify fintech companies as enablers and partners. Competition to banks is not really from fintech companies. Competition continues to be within banks that can leverage fintech, and those that can’t.”

While India has one of the lowest digital frauds in the world, focus should be on data storage, data safety and privacy, and customer protection from cyber crime.

RBI’s initiatives, such as two factor authentication, and tokenisation, are often resisted by fintech providers, who often use “customer convenience as a shield” against efforts towards customer protection.

The deputy governor also said that cross-border payments remain a crucial area for the RBI, and here central bank digital currency (CBDC), can play a role.

Smooth cross border payments remain stagnated as issues like exchange rate, time zone differences, and varying regulations prevent such transfers. Fintechs, and CBDCs can solve that problem. Particularly with CBDCs, payments can be almost instantaneous without needing any further settlements as they would be currencies maintained by central banks of two countries.

The RBI recently tied up with the Monetary Authority of Singapore for one such cross border payments service, on a reciprocal basis.