UK fintech - what are new regulations trying to achieve…and why?

The UK government’s Financial Services and Markets Bill (FSMB) arrives at a torrid time for the British economy. Inflation is soaring, a protracted recession seems likely, and bankers’ bonuses are in the spotlight as many consumers are forced to choose between ‘heat or eat’. 

Meanwhile, Whitehall has lit a bonfire of EU regulations, Paris, Amsterdam, and Frankfurt are vying with London for financial market supremacy – with some success – and fears over loosening the shackles of financial regulation are, quite reasonably, rooted in the 2008-09 crash. Aren’t safeguards there for good reason, to ensure customer safety, market probity, and economic stability? Should struggling UK consumers be stuck in some national sandbox with MPs and regulators, as they throw stuff around to see what works?  

But what has all this got to do with technology? Well, the FSMB seeks to define the post-Brexit regulatory framework as – like the car industry before it – Financial Services increasingly becomes a technology sector with data at its core. This is one area where the UK has been doing better than most: it is widely regarded as the world number two in fintech, behind the US.

Among the changes the Bill seeks to bring in are increased coordination between the regulators over new technology, data, and changes in finance itself as the sector is impacted by cryptocurrencies, stablecoins, NFTs, tokenization, and blockchain/distributed ledger technology (DLT). Controversially, it also provides greater opportunities for the government to intervene.

But it’s fair to say that the edifice of decentralized finance itself is looking shakier than it was a year ago, as many coins’ values have tumbled (including stablecoins), and the FTX collapse looks increasingly like complex fraud. The bold, new, safer world we’ve heard about in recent years looks remarkably like the old one in key respects: fraud, money laundering, and the enablement (and obfuscation) of financial crime.

Indeed, some commentators see parts of the crypto market as being little more than Ponzi schemes, centred on coins that have no intrinsic value except to speculators working on the ancient principle of the greater fool. Good luck, you might think, to regulators seeking to step into such a space. 

So, if nothing else, the FSMB is bold – in its timing at least. The UK wants growth and a loosening of shackles that, the government says, limit financial innovation. But the economy is failing to provide that growth except in fits and starts, not helped by Westminster’s brief fling with ‘Trussonomics’. And as for innovation, surely the success of UK fintech this century suggests that it has been thriving without significant change to the regulatory framework, on the back of initiatives like Open Banking? 

But politics and economics aside, what is the legal perspective on all this? That was the question that techUK put to financial regulation specialist Matthew Rutter, Partner at international law firm DAC Beachcroft, this week. The tech industry body hosted a one-to-one hybrid event with him.

Rutter said:

[The FSMB] has been described as a ‘once-in-a-generation opportunity to transform Financial Services regulation’. At least, those were the words of Sheldon Mills [Executive Director, Consumers and Competition, at the Financial Conduct Authority] at the House of Commons committee, reviewing the Bill. 

But I'm not sure it literally is a once-in-a-generation opportunity. We’ve had multiple amendments to the Financial Services and Markets Act over the years: if you look through it, you’ll see this alphabet soup of sections, which is a giveaway that they've been added subsequent to the original draft. But it is very significant in what it's trying to achieve. As much a cultural change in terms of the focus of the regulators, and taking advantage of the fact that the UK is no longer bound to follow European regulation.

But if the UK departs too far from EU rules, critical data adequacy could be at risk. In Rutter’s view, however, the core message of the Bill is the new mindset it implies – for good or ill. He said: 

First of all, it's trying to drive a change in attitude on the part of the regulators and, to some extent, the politicians. One of the challenges that lots of our clients have faced, since the financial crisis of 2008, has been caution on the part of the regulators, who were understandably criticized as a result of the failings that happened. 

Lots of the demands [of previous regulation], which we're still seeing playing out in terms of measures like consumer duty, are very protectionist, to prevent things going wrong. None of which are bad things in themselves, obviously, but if that's your sole focus – preventing things from going wrong – then you've missed out on a lot of the other expectations that a good regulator should be achieving.

A shifting focus

This is a very ‘on message’ view in terms of the thrust of recent UK policy, with even regulators such as the ICO exhorted to support innovation and growth rather than focus on protecting consumers. But aren’t consumers the ones who are suffering at present, rather than Financial Services professionals? In some cases, because of politicians interfering with economic orthodoxy at the behest of opaque thinktanks?

In some critics’ eyes, this is evidence that the UK wants to tear up citizen protections to enable a market free-for-all, at a time when the global direction of travel is, arguably, towards European-style consumer safety when it comes to data and new technology.

To his credit, Rutter acknowledged that there is real risk in this change of emphasis. He said: 

There's an element [in the Bill] of trying to shift that focus without discarding the good elements of regulation. Because clearly, without adequate consumer protection, consumers will be less willing to engage in the Financial Services market. But equally, you need to try to make it much easier than it is at the moment for new businesses, particularly ones which may be more tech focused, to engage.

[Fintech companies might ask] what are the rules that apply to me? That ought to be a very simple question to answer. But it's not at present. […] And it's not just about the scope of regulation, but also about accessibility, and having it proportionate to developing risks. […] European legislation was very siloed and didn't really join up the different pieces of the regulatory jigsaw, so we do have an opportunity to remove some of those anomalies.

A broad scope for crypto

But what about decentralized finance? In this specific respect, the Bill, as it was originally drafted, sought to regulate stablecoins – digital tokens backed by, or pegged to, assets or fiat currencies. But there has been a recent amendment to bring cryptocurrencies into the scope of the regulation. Rutter played down the significance of this and said: 

I'm cautious about reading too much into that. As with the original Financial Services and Markets Act, 2000, it's essentially a framework, and it sets out at quite a high level what the scope of regulation can be. I think it makes sense to draw the potential boundaries quite wide. 

I don't think that necessarily indicates that all types of crypto assets are going to be regulated straight away, but it makes it easier for the Treasury to act quickly if they feel there is a need to extend the scope for regulation in the future. As we know, technology can evolve quickly, whereas government legislation needs Parliamentary time and that can be difficult to obtain. So, it makes sense to have a broad scope.

And what about the so-called ‘Henry the Eighth’ powers included in the Bill, which give the government permission to override the previously independent regulators: a controversial approach for an administration that is supposedly against direct market intervention? Rutter added: 

It’s certainly unusual that the Bank of England, the PRA [Prudential Regulation Authority], and the FCA have publicly been critical. Those arguments are usually held in private, which indicates that their private lobbying has not been successful in this regard. 

I am nervous about that, from the perspective of good regulation. I think the government is now trying to assure the markets and regulators that they only intend to use that power in very limited circumstances. But of course, it's what the power actually says that matters, rather than the intention behind it!

Part of the problem, going back to the financial crisis of 2008, was we had a few years before of government trying to argue in favour of lighter-touch regulation, saying the ratio was too onerous and so on. And of course, all that was hastily forgotten when things went belly up. 

So, there is a danger in politicians pushing, perhaps on a short-term basis, and trying to intervene in regulation. One would hope a good financial services regulator would remember the lessons from a number of years ago and be more prudent and cautious. 

Having said that, of course, the danger is they get too prudent and too cautious, so I can see the desire for politicians to try more levers. But I think the better way to do it is to have better accountability and set performance measures that reflect what you wanted to achieve. Rather than, as it were, directly intervening and saying, ‘You must do this or stop doing that’. Because I think that creates a blurring of the lines of responsibility.

A regulator needs to be able to regulate as they see fit, and then be answerable for it. I think that is the better way to operate.

My take

Unusually strong words from a lawyer and regulation expert. Added to the concerns voiced by the regulators themselves, it is hard to avoid the impression that finance is being overtly politicised by the government – as a Trojan horse towards other sectors’ rules being relaxed to kickstart high-risk growth. And Liz Truss’ brief tenure in Downing Street has already demonstrated the damage that can be done to consumers by that.