[Shehnaz Ahmed is a Senior Resident Fellow and Krittika Chavaly a Project Fellow for Fintech, both at Vidhi Centre for Legal Policy, a New Delhi based independent think-tank.
[This post was originally published on the Oxford Business Law Blog, and can be accessed here]
As technological innovation disrupts the financial sector, regulators across the world continue to explore and experiment with new approaches to regulating innovation. A regulatory sandbox is one of the many tools used by regulators to encourage innovation in a controlled regulatory environment. Through a sandbox, a regulator may relax certain regulatory requirements for participating entities, allowing them to test their products and services with a reduced compliance burden.
In India, the regulatory architecture for the market for financial services is designed across different sub-sectors such as banking, securities, insurance and pension. Each such sub-sector is regulated by a separate regulator, namely the Reserve Bank of India (RBI), Securities and Exchange Board of India (SEBI), Insurance Regulatory and Development Authority of India (IRDAI) and the Pension Fund Regulatory and Development Authority (PFRDA). These regulators have either set up or are in the process of setting up their respective regulatory sandboxes. Of the four regulators, the RBI and the IRDAI are at an advanced stage of their operations. The former has begun accepting applications to its first cohort while the latter has issued approvals to the first set of participants. The SEBI and the PFRDA sandboxes, however, are yet to begin formal operations.
While such initiatives represent a growing awareness of the need for a meaningful legislative change to encourage innovation in financial technology (fintech), a review of the existing and proposed regulatory sandbox testing frameworks in India indicates that they suffer from three principal deficiencies, which we believe will impede India’s attempt to tap into the full potential of such sandboxes.
One, the existing framework views fintech innovations within traditional sectoral silos. It fails to account for the disruptive and cross-sectoral nature of fintech innovation. Therefore, only such innovations that fall within the purview of an individual regulator’s sandbox stand to make it to the market. Fintech innovations that would fall within the regulatory ambit of more than one regulator will have to separately approach each concerned regulator, since there is no single point of contact. This makes the process inefficient and costly for cross-sectoral fintech innovations.
Two, none of the governing statutes for the four regulators provide express statutory authority to the regulator to operate a sandbox or grant exemptions from regulations through a sandbox mechanism. The frameworks have been set up through delegated legislation and lack express authorising provisions in the parent statute. This raises concerns for the legal validity of the sandbox testing, particularly for regulatory exemptions or relaxations provided to sandbox participants.
Three, there is a lack of uniformity across the current and contemplated frameworks on common features such as eligibility criteria, duration, and consumer protection safeguards. This adds to the uncertainty that participating entities face, especially if a single entity wants to test innovations across two different sandboxes, in which case it will have to comply with different criteria. Furthermore, there is no indication that these criteria are evidence-based.
To deal with these challenges, our recent concept paper proposes a new standalone law for India to provide a unified framework for regulatory sandbox testing of fintech innovations. Structured in a manner that causes least disruption to the existing regulatory architecture in India, the proposed law incorporates the following essential provisions.
One, the proposed law empowers and allows regulators to continue operating their own sandboxes for testing innovations that fall within their sole regulatory ambit, while also allowing them to participate in a formal coordination mechanism for cross-sectoral fintech products. It proposes the setting up of a coordination committee consisting of representatives from relevant financial regulators to supervise and streamline testing of fintech innovations that fall within the regulatory ambit of more than one regulator. For instance, wealth management innovations that may provide a bouquet of services relating to credit, securities, insurance and pension products may not fall within the purview of a single regulator. Unlike the existing framework, the proposed law will provide a common forum for such innovations to test their products and seek necessary regulatory exemptions.
Two, the proposed law addresses legal uncertainties inherent to the current framework by providing express authority to concerned regulators to operate their regulatory sandboxes and provide necessary regulatory exemption to sandbox participants. Additionally, the law also supplies statutory backing to a structured cross-sectoral coordination mechanism.
Three, the proposed law follows a principles-based approach to setting common minimum requirements and safeguards applicable to sandbox participants, following domestic and international best practices. The law also provides regulators with the flexibility to develop bespoke testing requirements for participating entities, allowing for some leeway to adapt to the nature of the innovations being tested.
Not only will the proposed law cure the deficiencies outlined above, we believe that it will also be instrumental in tapping into the potential of the Indian fintech market. With a consumer adoption index of 87% (which represents the percentage of individuals who have used two or more fintech services) as compared to the global average of 64%, if the right incentives are provided, it will serve the dual purpose of sending a positive signal to the global market about India’s openness to fintech innovation ventures and encourage regulators to implement evidence-based policymaking.
– Shehnaz Ahmed & Krittika Chavaly