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Wary of Big Tech, RBI pushes for regulations that are focused on fintech entities

In a speech, the deputy governor laid out risks posed by Big Tech and referred to some of the RBI’s reforms that faced pushback.

Weeks after Google and Amazon announced their association in facilitating deposits as part of their payment systems, Reserve Bank of India deputy governor T Rabi Sankar stressed that the regulation of fintechs should be ‘entity’ based rather than ‘activity’ based, because of the involvement of Big Tech in the sector.

According to the RBI, activity-based regulation means imposing a set of rules on all players offering a particular service while entity-based prudential regulations mean imposing a set of requirements on entities with specific licenses.

Sankar said this while speaking at the Global FinTech Fest 2021, about how there is a need to adjust the nature of regulation of fintechs due to the diverse functions they performed.

As fintech is transforming the financial landscape, the nature of regulation has to adjust. The sheer diversity in the functions performed by fintech firms, necessitates a widening of the regulatory perimeter. The approach to regulation also needs to adapt to the type of entity being regulated. While similar activities should attract uniform regulation in most cases, such activity based regulation might be less effective than entity-based regulation when one is dealing with financial activities by bigtech firms — T Rabi Sankar, deputy governor, Reserve Bank of India

A few weeks back, Equitas Small Finance Bank (SFB) announced that it will now enable users to open fixed deposits (FDs) on Google Pay. Soon, after a few days, Kuvera.in announced that one can opt for fixed deposit buckets being offered on Amazon Pay.

Without naming any companies, Sankar also said that fintech entities that provides ‘liquidity services’ was “effectively functioning as a bank and therefore should be subjected to the same legal/regulatory/supervisory regime that a bank is subjected to”.

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This is one reason why in almost all countries, entities other than banks are not allowed to directly deal in deposit or deposit-like money — T Rabi Sankar, deputy governor, Reserve Bank of India

Why single out Big Tech firms?

Sankar said that fintech regulation should be entity-based rather than activity-based because of:

  • Cybersecurity risks. “Cybersecurity risks are likely to use overshadow financial risks for all,” he said.
  • Systemic risks and operational risks
  • Single-point of failure
  • Anti-competition

As for anti-competition, Sankar raised an alarm over the concentration of the industry among big techs or infrastructural entities.

There is no clear answer to how such issues are to be resolved — limits on market share, for example, might open up the market to new players but it could also stifle incentives to innovators. Regulators also need to improvise to address single-point-of-failure risks arising from market concentration, as much as they need to be alert to new points of failure arising from shifting value chains — RBI deputy governor

Fintech cannot replace core nature of financial intermediation: RBI

Sankar pointed out the limitations of financial technology by expanding on how financial intermediation works — between households and borrowers.

The core part of this financial intermediation is done by banks – through accepting deposits, extending credit and enabling payments. Since virtually all money (other than currency) is held as bank deposits, banks are at the centre of the payments system. This basic intermediation structure is overlaid by other institutions — RBI deputy governor

Sankar said that the bank’s nature in this intermediation process is that of bridging gaps in space and time between savers and borrowers. “The spatial gap occurs when a saver and a borrower do not know each other, or are in different locations. The temporal gap occurs when the needs of the borrower and the lender arise at different points in time – borrower needs money after a month but the saver has money now,” he said.

Financial technology companies can improve the efficiency in financial intermediation, but it cannot bridge the temporal gap. “For instance, one would still need a bank to warehouse the liquidity risk as no other entity can create credit and money… This understanding of the limitations of technology prepares us better to manage the change that fintech is causing in banking and finance. ,” he added.

Initiatives like 2FA for recurring transactions face opposition: RBI

While explaining the regulations in the Indian fintech space, the RBI deputy governor Sankar said that many customer-specific safety or convenience-oriented regulations have faced pushback. These are some of RBI’s regulatory practices which claim to minimise risk to customers

  • Two-factor authentication
  • Data storage requirements
  • Encouraging tokenisation to reduce vulnerable access points
  • Online dispute resolution and so on

In this regard, RBI said that it had faced strong opposition when it introduced 2FA about a decade back.

There was a strong push-back when the Reserve Bank introduced 2FA, about a decade back, although everyone cites it today as a unique success story in India’s payment evolution. Nonetheless, one can see a persistent tendency to oppose customer friendly reforms – e.g., the introduction of tokenisation to limit storage points of card credentials for customer safety, or to ensure 2FA for recurring transactions — RBI deputy governor

RBI had earlier aired concern of Big Tech’s involvement in financial services

In its biannual Financial Stability Report released on July 1, the Reserve Bank of India (RBI) raised concerns around the involvement of big tech companies in financial services.

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Specifically, the report pointed out, there are at least three challenges from Big Tech:

  • They straddle many different (non-financial) lines of business with sometimes opaque, overarching governance structures.
  • They have the potential to become dominant players in financial services.
  • Big tech companies are generally able to overcome limits to scale in financial services provision by exploiting network effects.

Suggestions made:

To tackle these concerns, the report recommended —

  • Central banks and financial regulators use a blend of activity and entity-based prudential regulation.
  • International cooperation

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Among other subjects, I cover the increasing usage of emerging technologies, especially for surveillance in India

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