The Roadmap Approach to Regulating Digital Financial Services Jonathan Greenacre Research Fellow, University of New South Wales [email protected]

The Roadmap Approach to Regulating Digital Financial Services

Jonathan GreenacreResearch Fellow,

University of New South [email protected]

ITU Workshop on “Digital Financial Services and Financial Inclusion”

(Geneva, Switzerland, 4 December 2014)

2

The Roadmap Approach to Regulating DFS

Part 1. What is proportionate regulation?

Part 2. The roadmap approach can help us design proportionate regulation

Part 3. Let’s apply the roadmap approach to storage and transfer of e-money

Part 4. Next steps

3




Part 4. Next steps


4

Proportionate regulation:

The costs of regulation must be proportionate to the benefits and risks of DFS.

We need to understand the relationship between benefits, risks, and regulation.

What is proportionate regulation?

5




Part 4. Next steps


6

Incremental method: Start with the most basic model of DFS;Then examine more complex models, one building block at a time.

For each building block, determine: Benefits; Risks that come with those benefits; Regulation that can deal with those risks.

The method behind the roadmap approach

7




Part 4. Next steps


8

Question: How can a regulator design proportionate regulation for storing customers’ funds?

Benefits of storage• Access to notes and coins• Interest payments • Economic growth

Risks from storage• Operational/technological• Liquidity• Insolvency• Credit risk• Bank failure • Bond default

Regulation• Capital requirements• Fund isolation• Fund safeguarding• Insurance for the issuer • Insurance for the bank.

Establish relationship

Establish relationshipLook at lending to

establish the relationship between benefits, risks, and regulation.

Let’s use the roadmap to design proportionate regulation for storing

customers’ funds

Benefits

Risks

We set up the roadmap by putting benefits on one axis and risks on the

other

Issuer

Asset Liability

Cash Customer account 1

Customer account 2

Customer account 3

Benefits

Risks

No lending (basic model)

Customer Cash merchant

Model 1: Our most basic model of storage

Access to e-money

Benefits

Risks

Issuer•Telecommunications; •Operational / technological;•Insolvency; •Liquidity.



Issuer

Asset Liability


Customer account 2

Customer account 3

Basic regulation•Consumer law; •Business conduct.


There is no lending, so the benefits, risks and required regulation are very

basic

Access to e-money

Benefits

Risks




Issuer

Asset Liability


Customer account 2

Customer account 3

Bank

Company Bonds

Government/Central Bank Bonds

Asset Liability

Cash reserves

Pooled account

Issuer lending



(e.g. Bolivia, Indonesia, Namibia, Philippines)

Model 2: Let’s add a building block: the issuer can invest customers’ funds

Access to e-money

Benefits

Risks


Issuer (previous risks); plus: •Bond default; and •Bank failure.



Issuer

Asset Liability


Customer account 2

Customer account 3

Bank

Company Bonds


Asset Liability

Cash reserves

Pooled account

Issuer lending



Interest payments to customers

Moderate regulation•Previous regulation; plus •Issuer: prudential-like regulation;

• Diversification;• Capital requirements.

•Bank: basic prudential regulation.




Now there is lending, which creates additional benefits, risks, and required

regulation


Access to e-money

Benefits

Risks





Issuer

Asset Liability


Customer account 2

Customer account 3

Company Bonds

Government/Central Bank

Bonds

Lending to firms / financial

markets

Consumer lending

Bank

Company Bonds


Asset Liability

Cash reserves

Pooled account

Issuer lending


Basic regulation•Consumer law; •Business conduct. Bank lending








(Permitted in most countries, although limitations apply in Bolivia)

Model 3: Let’s add another building block: the bank can lend out customers’ funds


Access to e-money

Benefits

Risks



Previous risks; plusFull bank failure: •Exogenous;•Endogenous.



Issuer

Asset Liability


Customer account 2

Customer account 3

Company Bonds


Bonds


markets

Consumer lending

Bank

Company Bonds


Asset Liability

Cash reserves

Pooled account

Issuer lending









Full regulation•Previous regulation (for previous risks);•Bank: more extensive prudential regulation.


Bank lendingEconomic growth


There is bank lending, which creates even more benefits, risks, and required

regulation









Economic growth


Access to e-money

Benefits

Risks






Issuer

Asset Liability


Customer account 2

Customer account 3

Company Bonds


Bonds


markets

Consumer lending

Bank

Company Bonds


Asset Liability

Cash reserves

Pooled account

Issuer lending



Benefit 1 of the roadmap: groups our research into benefits, risks and regulation and shows the relationship between them


Moderate regulation•Previous regulation; plus •Issuer: prudential-like regulation:



Moderate regulation•Previous regulation; plus •Issuer: prudential-like regulation:





Economic growth


Access to e-money

Benefits

Risks






Issuer

Asset Liability


Customer account 2

Customer account 3

Company Bonds


Bonds


markets

Consumer lending

Bank

Company Bonds


Asset Liability

Cash reserves

Pooled account

Issuer lending



I want DFS to provide these benefits

This means I must deal with these risks

I can use this regulation to deal with those risks


Benefit 2 of the roadmap: we can design proportionate regulation








• Form of deposit insurance.


• Form of deposit insurance.

Economic growth


Access to e-money

Benefits

Risks






Issuer

Asset Liability


Customer account 2

Customer account 3

Company Bonds


Bonds


markets

Consumer lending

Bank

Company Bonds


Asset Liability

Cash reserves

Pooled account

Issuer lending


• Civil law


• Civil lawBank lending

Benefit 3 of the roadmap: we can identify unclear areas of law and research (in red)

to customers

Regulation•Encryption•Guarantees•Identification•Capital requirements•Anti-money laundering•Liability rules•Issuer:

• Capital adequacy• Liquidity

•Bank:• Capital adequacy rules• Liquidity.

Risks•Settlement•Systemic•ML/TF•Inflation

Benefits •Transfer funds in small network (non-interoperable)•Transfer funds in a wide network (interoperable)•Transfer funds in the banking system

How can a regulator design proportionate regulation for transferring customers’ funds?

Answer: look at the size and type of participants to establish the relationships between benefits, risks, and regulation.



Now let’s use the roadmap to design proportionate regulation for transferring

e-money between customers

Benefits

Risks

Again, we put benefits on one axis and risks on the other

Benefits

Risks

Non-interoperable(basic model)

CustomerCustomer

Issuer

Model 1: Our most basic transfer model (Kenya)

Benefits

Risks

Access to transfers within a scheme

• Settlement risk: • ML/TF; • Inflationary.


CustomerCustomer

Issuer

Basic regulation•Business conduct•AML/CFT•Macro-economic policy.


Funds can only be transferred within a scheme, which means the benefits, risks,

and required regulation are very basic

Benefits

Risks




CustomerCustomer

Issuer

Interoperable



Issuer

Issuer

(Indonesia, Tanzania)

Model 2: Let’s add a building block: funds can be transferred across

mobile money schemes

Benefits

Risks



• Previous risks (made stronger); • Interconnection.


CustomerCustomer

Issuer

Interoperable



Issuer

Issuer

Moderate regulation•Previous regulation (stronger application) plus•Issuer: interconnection

o Capital/liquidity requirements



Access to mm transfer system

Now we have a system which increases benefits, risks, and requires

more extensive regulation

Benefits

Risks

Access to mm transfer system Access to transfers within a scheme




CustomerCustomer

Issuer

InteroperableBank

Banking Clearing System

Bank

Bank

Interoperable with banking system

Issuer

Issuer








(Malawi, Tanzania)

Model 3: Let’s add another building block: funds can be transferred between mobile money and the banking system


Benefits

Risks• Settlement risk: • ML/TF; • Inflationary.


• Issuers: previous risks (made stronger); • Banking risks; • Issuers – banks: interconnection.


CustomerCustomer

Issuer

InteroperableBank


Bank

Bank


Issuer

Issuer







High levels of regulation•Previous regulation; plus•Banking risks•Issuer / bank: interconnection.


Access to mm-bank transfer system


Now the network includes the banking system, creating even more benefits, risks, and regulation to the previous two models

Benefits





CustomerCustomer

Issuer

InteroperableBank


Bank

Bank


Issuer

Issuer












Benefit 1 of the roadmap: groups our research into benefits, risks and regulation and shows the relationship between them

Benefits





CustomerCustomer

Issuer

InteroperableBank


Bank

Bank


Issuer

Issuer









I want DFS to provide these benefits

This means I must deal with these risks

I can use this regulation to deal with those risks




Benefit 2 of the roadmap: helps us design proportionate representation

Benefits





CustomerCustomer

Issuer

InteroperableBank


Bank

Bank


Issuer

Issuer












Benefit 3 of the roadmap: we can identify unclear areas of law and research (in red)

30




Part 4. Next steps


31

Real-time payments

Savings

Loans

Insurance

Etc

No. of building blocks

Mas and Almazán (2014)

We can use the regulatory roadmap approach for other areas of DFS

Our aim: proportionate regulation of each of these financial services

Jonathan GreenacreEmail: [email protected]: +61 468 929445

Geneva, Switzerland, 4 December 2014 32

Discussion

mailto:[email protected]

mailto:[email protected]

Documents

The Roadmap Approach to Regulating Digital Financial Services Jonathan Greenacre Research Fellow, University of New South Wales [email protected]