To be or not to be….regulated?
Op-ed by Shabnam Wazed, founder and CEO of AGAM International
After the failure of four banks alone in March 2023, it’s a good time to remind ourselves of the importance of financial regulation.
Silicon Valley Bank (SVB) was the 16th largest regional bank in the US with operations across 13 countries. It banked more than 40,000 customers when it collapsed on Friday 10 March, 2023. The contagion spread quickly to Signature Bank which collapsed after US$10 Billion in deposits were suddenly withdrawn. Signature had 40 branches, assets of US$110.36 billion and deposits of US$88.59 billion at the end of 2022, according to a regulatory filing.
Regulators responded quickly by stepping into guarantee deposits in full, even though the limit was set at US$250,000 per account. Unlike bank failures of the past, the run was digital – no queuing at the bank. Money was withdrawn by using a smartphone from anywhere in the world. Customers had shared their concerns over social media.
Digital banking requires new regulation. Both in terms of its speed and breadth. The smartphone has become the new bank branch but without the pomp and circumstance. On one hand this is hugely empowering – enabling those previously unbanked to participate, but it could also be the start of the next financial crisis.
Anyone today can become a fintech – aka financial technology – that set themselves up to offer an alternative to traditional banks and financial institutions. According to Statista there are over 26,000 fintechs globally spanning mobile banking, buy-now-pay-later, lending, cryptocurrency and more. They look more like ecommerce companies and give a false sense of security.
At a recent industry roundtable, the balance between encouraging innovation and regulation oversight was debated. Those in favour of regulation found themselves in the minority. This may be because regulation is viewed as old school. Considered to be slow and stifling, it could “kill a business before it starts.”
Yes, that could be bad news for the startup but do we really want to expose customers to unregulated products to prove our business model?
Consider Earned Wage Access (EWA) which allows employees to access their wages earned before payday. This can be hugely beneficial to employees who lack savings to help them manage cashflow between paydays. However, unregulated, it can have unintended consequences.
Consider the need to protect the consumer. Without regulation, the consumer could be exploited with high fees and hidden interest rates tied in to a default cycle where repayment becomes unaffordable. Without regulation, there is limited recourse for a consumer in distress.
Earned Wage Access loans do not usually count towards a consumer’s credit score, which means that a defaulting customer could continue to borrow from multiple sources, getting into further debt. While seeking to provide credit rapidly and at the point of need, consumers can be exploited and have nowhere to turn.
Remember Wonga? The British company that launched payday lending into the mainstream. Founded in 2006, Wonga’s growth exploded on the back of a growing need by large numbers of vulnerable customers who quickly fell behind on their repayments and were levied with high-fees and interest rates as a result. 12 years later, Wonga closed after regulators acted to protect consumers who complained. Was this too little too late?
During its time Wonga charged vulnerable customers over 1,000% APR before regulators (in 2015) capped the total cost of borrowing at 100% of the loan amount. It is unclear how many were victims of exorbitant borrowing charges but what is certain is that this situation would have changed many lives forever.
Fintech’s should be celebrated for taking competition to the traditional banks and finance institutions, but innovation should not substitute for consumer protection.
When starting a fintech, it’s easy to get carried away with the gloss. A nice website, marketing messages and investing in SEO activities may attract customers and demonstrate demand, which can then be used to support a business plan and attract investment. Certainly, this was the typical approach of Silicon Valley titans “move fast and break things.”
But breaking things in financial services could destroy consumers, the very group you are trying to attract! Understanding regulation requires investment and time, possibly even hiring the experienced employee who speaks compliance. The latter takes longer and costs more.
These choices need to be made at the start. And it’s very difficult to change your strategy once you begin.
Consider N26, the German neobank founded in 2013, that has faced multiple regulatory and enforcement actions focussing on its compliance with anti-money laundering and customer protection laws. BaFin, the German regulator, levied a fine of just under US$5 Million for AML and KYC breaches alone.
Globally, the regulator’s antenna is up and fintechs are likely to find themselves on the wrong side if they continue to dismiss regulation as ‘anti-innovation.’ Time invested working in partnership with regulators around the world before the launch of your product is time and money well spent.