Denis Beau: Financial regulation and supervision issues raised by
the impact of Tech firms on financial services
Speech by Mr Denis Beau, First Deputy Governor of the Bank of France, at the ESSEC - Centre
d'excellence, Paris, 30 January 2019.
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Ladies and Gentlemen,
Dear students,
It is a pleasure to be at the ESSEC Centre d'excellence today to discuss the financial regulation
and supervision issues raised by the impact of Tech firms on financial services.
To date, in Europe, we have been accustomed to a bank-centric intermediation model. However
over the last decade we have witnessed the rise of Fintech start-ups and the entry of Bigtechs in
the financial sphere. Do they bring anything new to the way financial systems operate? According
to some commentators they should bring a structural shift and see the replacement of the "old
world" of bank-centric financial intermediation with disintermediated peer-to-peer systems.
Others consider that rather than eliminating intermediation, if left on their own these new comers
will more likely bring new intermediation models, in which Fintechs and Bigtechs intermediate
banks.
Hence I would like to focus the first part of my remarks on the possible impact of these new
competitors on the traditional bank-centric financial intermediation model (1). I will then highlight
some of the risks that go hand-in-hand with the changes underway and the regulatory and
supervisory challenges they raise (2). Finally, I would like to explain how at the Banque de France
we address them in order to strike an appropriate balance between, on the one hand, the
objective of fostering innovation and the overall efficiency of financial services and, on the other
hand, the objective of ensuring a secure and level playing field for all suppliers and their
customers (3).
1. From Fintechs to Bigtechs: a decade of digitalisation of the financial intermediation's
value chain
Understanding how the Fintech sector emerged and has been structured (A) is critical to
assessing its impact on the future of intermerdiation (B).
(A) The concept of Fintech, contraction of Financial Technology, designates both a structural
shift - the digitalisation of finance - and the main actors of this shift: the Tech firms.
The digitalisation of finance is prospering on the grounds of cutting-edge technologies. The
combination of big data analytics, cloud computing, artificial intelligence and blockchain is
transforming the way financial products are designed, processed and distributed. For its
advocates, this transformation promises:
better consumer experiences;
more diversified financing of the economy; and
greater efficiency of the financial system.
In addition to these promises, cutting-edge technologies also lower the entry barriers to the
financial sector for early adopters: the Tech firms. This should not come as a surprise: internet
and smartphones have lowered the distribution costs, big data technologies have lowered
production costs and the shrinkage of banks' balance sheet in the wake of the Great Financial
Crisis has given space for new players to conquer market shares.
Balance-sheet-light payment services have so far been the main gateway to the financial sector
for Tech firms. From there, Tech firms have an avenue to expand their business further along the
value chain, from payment to retail and commercial banking, wealth management and insurance.
The Tech firms' model is based on the unbundling of traditional universal banking into an array of
distinct core functions (such as channelling payments, providing financing, sharing risk and
allocating capital), which are reassembled in an online platform. In this model, the control of the
platform is more strategic than the provision of financial services itself.
(B) Among these Tech firms, the Fintech start-ups (also known as simply "Fintechs" with an "s")
and the Bigtechs are likely to have a different impact on financial intermediation.
Fintech start-ups have already been a game changer in the financial sector. They have imported
a customer-centric culture from the internet industry into the financial sector and they have
targeted and called into question many of the long-standing financial rents. However, Fintech
start-ups do not have the capital resources to disrupt incumbent banks and their future role is
likely to be shaped by two main alternatives: to be acquired by an incumbent bank or to compete
on niche segments such as equity crowdfunding or market place lending.
It could be different with Bigtechs. The market capitalisation of the GAFA companies - Google,
Amazon, Facebook and Apple - is 25 times higher than that of the whole Fintech universe.
Bigtechs already have a material footprint in financial services, and not least in payment
services: Amazon Pay operates in 10 countries, Google Pay in 22 countries and Apple Pay in 25
countries. Facebook Messenger allows peer-to-peer payments in 3 countries and a Facebook
wallet is reportedly in preparation.
Moreover, Bigtechs like the GAFA companies have competitive advantages in terms of
expanding their activities further in this area, including massive financial resources, strong brand
recognition, a worldwide customer base and privileged access to cutting edge technologies.
Therefore, Bigtechs, more than Fintechs, have the potential to fundamentally redefine financial
intermediation by integrating the entire landscape of financial services into their own digital
ecosystems. This does not mean that banks will be disintermediated; but rather that banks may
be interfaced with Bigtechs' platforms. Such a move is already gaining considerable traction in
China.
So, digital finance driven by Tech firms may not lead to a more decentralised system as the
centripetal forces of network effects may benefit large conglomerates the most. Rather than
eliminating intermediation, if left on its own, digital finance will more likely lead to reshuffling the
cards, with the most digitally-agile incumbents and the most financially-able challengers
becoming the new dominant (and potentially systemic) intermediaries in a landscape where
there would be four coexisting intermediation models:
The traditional banking intermediation model for certain financial services, like mortgages;
A non-bank financial intermediation model (formerly known as "shadow banking") performed
by the asset management industry, in particular financing the corporate sector;
A re-intermediated model, in which Fintechs and Bigtechs intermediate the banks, on the
retail segment in particular;
And a fully disintermediated model supported by blockchain and peer-to-peer economies.
2. The digital revolution forces public authorities with an interest in financial stability to
revisit a wide array of policy issues
This move from a bank-centric intermediation model toward new unbundled financial
intermediation models performed by multiple players does not eliminate the need for central
banks, regulators and supervisors. But it does force us to revisit old questions (A) and to address
new ones (B).
(A) I would like to highlight two old questions that we must revisit.
Just as an example, the use of the
First, the activities to be covered by financial regulation.
public cloud to perform core banking operations is becoming mainstream. Fintechs and Bigtechs
have adopted an "all-in" strategy. Incumbents are also migrating, although more cautiously, to the
public cloud. However, the cloud computing market is highly concentrated and Amazon Web
Services has built a dominant position. As the core financial functions lift and shift to the cloud,
the risk of a single point of failure will emerge, and yet cloud providers are unregulated and out of
the direct reach of financial supervisors. This raises questions about the effectiveness of the
strategy followed so far by regulators vis-a-vis financial institutions' third party service providers,
which in essence consists in setting requirements on financial intermediaries regarding their
contractual relationships with their service providers. The evolving balance of power to the benefit
of dominant Bigtechs service providers may challenge the effectiveness of such a strategy going
forward.
Second, the question of conduct. Our regulation deems certain practices acceptable and
others not. Technological developments are making it possible to use information that was
previously out of reach of a financial intermediary. This could potentially allow a more accurate
assessment of risk or a more "responsive" pricing of service. But what is possible may not be
(socially) acceptable - to take one example, the current development of "social network informed
credit scores" raises questions about financial intermediaries' governance and risk control
frameworks, when privacy concerns or discriminatory bias are at stake.
(B) Let me now turn to new risks, which are non-financial in nature but closely intertwined with
the digitalisation of finance. In my view, two in particular merit financial supervisory scrutiny.
First, the strategic independence of incumbent banks. If incumbents depend on Bigtechs for
key infrastructure such as cloud computing, if they rely on the same Bigtech to distribute their
products through their platforms and then compete with Bigtechs on certain segments, they will
see their strategic independence challenged in the same way as hotels and retailers did. This
process of commoditisation of incumbents may lower credit standards to compensate for higher
pressure on margins and exacerbate their funding gap because of lower customer stickiness.
Second, the development of cyber-risk. With greater interconnections between technologies
and the financial system and the opening up of information systems, the Banque de France
observed in its Financial Stability Report of December 2017 that cyber-risk is moving from an
idiosyncratic risk to a potential source of systemic risk which needs to be addressed. This
perspective is widely shared among public and private decision makers and it should not come
as a surprise that cyber-security will be one of the priorities of the French presidency of the G7
this year.
So, to conclude my second point, the completion of the regulatory decade to strengthen banking
financial intermediation is not the end of the story; it's just the end of the beginning of a new era.
The transformation of financial intermediation is full of opportunities but it also highlights the
limitations of sectoral and entity-based regulations and the need to adapt regulation and
supervision to a morphing financial intermediation.
This leads me to my last point.
3. The Banque de France's approach to all these new trends in financial intermediation
is to harness the Fintech opportunities while preserving the financial safety nets and a
level playing field
(A) Managing the financial stability risks stemming from a more diversified intermediation model
pleads for advancing sound principles and for tightening the links between financial and
nonfinancial regulation. In that respect, the Banque de France's stance is threefold:
First, well-articulated and complementary regulation and supervision ranging from
microprudential to macro-prudential, and from prudential to consumer protection, anti-money
laundering, data protection and anti-trust laws;
Secondly, a technology-neutral stance, which accommodates Fintech innovation while
preserving financial stability. In this respect, finding the right balance implies an open-minded
approach and an in-depth understanding of innovation. That is why in 2016 we created a
specific Fintech-innovation hub at the ACPR to engage in a dialogue with innovators: around
400 of them contacted us through this dedicated channel;
Thirdly, an activity-based regulation and supervision, to ensure a level playing field
between all entities pursuing the same financial activity. The current multiplication of
licensing categories to reflect the diversification of business models entails the risk of a loss
of regulatory clarity and regulatory arbitrage which needs to be addressed.
(B) Of course, the financial stability implications of the morphing of financial intermediation that is
underway are not limited to France, and cross-border challenges need to be answered. Doing so
requires the smooth articulation of national initiatives, European convergence and international
cooperation.
To seize the opportunities and address the risks stemming from highly evolving financial
technologies, initiatives often start at the national level. The case of crowdfunding is a good
example. In 2014 France was a pioneer in issuing a new bespoke regime for crowdfunding and
marketplace lending platforms. This new regime opened a playing field for new players while
limiting the regulatory burden and strengthening the protection of consumers and investors. As a
result, although crowdfunding will not replace traditional lending in the near future, the French
market is today the biggest market in continental Europe for alternative financing for the fourth
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consecutive year. The latest figures for 2018, released by KPMG and Financement Participatif
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France (FPF), show that more than 33,000 projects, for a total amount of EUR 402 million, were
financed by crowdfunding platforms. Compared to 2016, the total amount financed has increased
by 20%. In the last three years, it has been multiplied by 2.4.
Further to national initiatives, European convergence is always the ultimate goal. National
initiatives are beneficial because they can be swiftly implemented and tested. By contrast, the
European decision-making process is not known for its rapidity. But the size of the European
market is critical for allowing our Fintech start ups to reach an appropriate scale for their
activities. That is why the Banque de France advocates a European regulation of crowdfunding
platforms based on the French model.
Because forefront technologies are based on the World Wide Web, central banks, supervisors
and regulators will eventually need worldwide cooperation to ensure that their powers are still
effective. Let's take the example of crypto-assets. Everyone in France can bet their money in
Bitcoin and the likes today (but think twice before doing so!). Yet, none of the Top 10 exchange
platforms are located in France. This is the reason why back in February 2018 the Governor of
the Banque de France and the French Minister of the Economy Bruno Le Maire, along with their
German counterparts, asked that the issue be escalated to the G20 level. Thanks to this initiative,
an international monitoring of the financial stability risks of crypto-assets is now in place and
many initiatives are taken by international bodies to address the most pressing issues such as
anti-money laundering, market integrity and consumer protection.
(C) Finally, financial technologies should not only be seen as opportunities for the provision of
new products and services or as a further threat to financial stability. Financial technologies can
also be an asset to enhance compliance with regulation or risk management practices: that's
what we call "Regtech". They can also help the supervisor to perform its task more efficiently: we
then speak about "Suptech" (supervisory technology).
In both areas, the prospects are promising. Think of the potential gain of efficiency for a
supervisor if he could take advantage of big data and artificial intelligence, for example, to analyse
the huge amount of quantitative and qualitative data reported regularly to him as well as weak
signals collected in the market. Or if a supervisor could turn his backward looking monitoring
tools into predictive processes.
Of course, supervisors are just at the beginning of the learning curve and they will clearly face a
number of challenges: facing risks inherent to innovative projects, understanding the capabilities
and limitations of new technologies, enhancing a modern data culture in supervision, hiring
people with new and rare skills.
But these challenges must be overcome because the stakes are high. And it is not only a
question of efficiency: it also has to do with supervisory credibility. How can a supervisor be in a
position to supervise processes based on new technologies if he has no in-depth experience of
it? On the contrary, a supervisor who engages in the "suptech journey" gives a clear and positive
signal to market players: he is willing to accompany an evolving sector so that supervisory
methods can be adapted and remain relevant and consequently, the financial system can remain
safe and trustworthy. That is clearly the road that we, at the Banque de France and the ACPR,
want to take.
Conclusion
I would like to conclude my speech by quoting Bill Gates:
"We always overestimate the change that will occur in the next two years and underestimate the
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change that will occur in the next ten. Don't let yourself be lulled into inaction."
The Banque de France tries to heed this warning. Although we do belong to the (very) "old world"
- the Banque de France was created more than 200 years ago by Napoleon -, as any
incumbent, we need to adjust and adapt to the "new world". In order to do so:
We have adapted our organisation and governance with the creation of a Fintech hub within
our supervisory function, the appointments of a Chief Digital Officer and a Chief Data
Officer, and the launch of a Lab to foster innovation within the Banque.
We experiment with new technologies: the Banque de France was the first central bank to
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implement a full-scale project based on DLT which is fully operational and we successfully
run eight artificial intelligence projects.
We also host discussions between regulators, academics and industry: for example, the
ACPR task force on artificial intelligence delivered an issue paper last December for a
twomonth consultation period (ending 28 February).
But this call for action is addressed to everyone, and especially to you, the new generation. As
students at the ESSEC business school and as future economists, bankers, start-upers and
researchers, you will have a big role to play to ensure that, irrespective of the big changes to
come in tomorrow's financial intermediation, our compass continues to point toward the
common good of financial stability.
Thank you for your attention.
Cambridge Centre for Alternative Finance, 3rd European Alternative Finance Industry Benchmarking Report,
2018.
2
Baromètre 2018 du crowdfunding - KPMG/FPF (January 2019).
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The Road ahead, 1995.
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Madre.