FinTech Bank, Not Yet!

“… is virtually impossible for legislation to keep in step with the fast mutating fintech landscape. Until legislation catches up, regulation has to adapt to ensure that the financial system absorbs digital innovation in a non-disruptive manner… Slowing down the process of change, which attracts the criticism of stifling innovation – is often the best way to ensure customer protection…”
- RBI Deputy Governor Mr T. Rabi Sankar, Sep 2021

This statement of the regulator, at a FinTech Industry event, makes it amply clear that for the time being, it would be the “banks as highest-in-hierarchy-institution”, which would be expected to continue. And that any non-banking activity, including digital finance would be expected to play “support” role.

The nuanced statements indicate that regulations will take further time to ‘Keep pace with FinTechs’ and that the ‘financial system has to absorb digital innovation in non-disruptive way’; presumably, while there is adequate capacity-building being created at the regulator’s end.

For a regulator, whose every word is seen by the market for indications of any policy directions, this speech has few inputs. The financial technological innovation, while can improve the efficiency of intermediation, will not replace the core objective of financial intermediation done by banks. That’s the most open indication that RBI has given as it’s stand on fintechs and banking. The speech also further mooted that the ideal approach is for FinTech companies to be considered as “enablers and partners by banks or other financial institutions”.

For the regulator, who is first amongst equal of all financial services regulators in the India, taking a stand would have meant having thought-through their capabilities, objectives, bench-strength and various fire-fighting that they are engaged in. And to balance them as optimally and efficiently as they only can, with the independent space they operate in.
 
Globally financial regulation analysts classify “Regulation changes” as ‘organic’ change and ‘crisis-driven’ change. World-over, the latter category has always pushed for larger volume of regulatory changes, sometimes at greater cost to the economy and to reset consumer trust in the system. The larger question is : While the government moots faster buildup of tech startups in disrupting the status-quo business processes across industries and to increase inclusive consumer adoption across sectors, have the digital finance players hit the RBI licensing-wall ?

Banking On Banks 
Of all industries, banking is one that relies most heavily on ‘customer trust’. In the millennials-dominated India with diverse socio-economic needs, banks despite being there for many decades under various owners, have failed to deliver on that benchmark. Banks’ bread-and-butter offerings of savings, lending and other business services are simple enough to make it prime for a digital disruption. Well, it sure does need the belief and approval of the regulator, as seen across various early-adopter markets.

One of the key challenges that the banking sector faces is that it operates on a ‘supply paradigm’, where banks have dominated the ecosystem and not allowed consumers to ask for what they would like as product or service offering. Of course, there are some outlier brands in specific segments where some of the banks do amazing value-additions. The staid-thinking that efficient banking system should offer products for financial inclusion is a misplaced one. Sooner we adopt “solutioning” approach to financial inclusion, we can collaboratively build a consumer-oriented finance system.

High cost of fixed assets in traditional banking and licensing hurdles make entry into the sector a tough one. Many investors look to bring to India, the market models like UK which have digital-banks (Challenger banks as they are called), or closer home to Singapore for the prudent blend of risk appetite with innovation to encourage digital banking. These market expectations are encouraging as they can bring in large financial inclusion to our market with our JAM trinity; when the Indian regulatory gates open up, for such opportunities.

Due to their consumer access, some of the non-banks have shown that they could go from “too small to bother about” to “too big to fail” in a very short period of time. The number of non-banks probably make the case for the regulator to think of concept of real-time-digital-supervision of these entities. Costs of technology have crashed and can afford such a facility for the entire industry. This would also build a sense of regulatory confidence about the non-banks in general, while the outliers (bad apples) can be weeded out soon.

‘Digital Finance’ : Disrupting Old-boys Network
Customer relationship is something that traditional bank managers had handled very well. “Had” is the keyword. Their physical presence in the branches scattered across length and breadth of the country brought in touch points. But in the past decade or so, the quality of these aspects has dropped. Very few banks in India have taken initiative to build a true digital consumer banking journey. Mere tinkering with front-end does not help. It is the entire consumer experience that needs transformation. Now with access to vast amounts of data that banks sit with, they have to reimagine ways to engage with consumers proactively.

As many fintech founders would admit in private, the said ‘bank-Fintech partnership’ has been one-sided, in favour of the banks. As they see it, the biggest barrier to bank/fintech partnerships is the way fintechs have to convince each of the banks’ vendor management / procurement / legal / IT / compliance departments, without active hands-on support from the banking-bosses. Banks have sufficient resources to identify potential partnerships but their organisation structures make it difficult for these partnerships to materialise into meaningful impact for consumers. The current corporate culture and unsaid hierarchical outlook (and human attitude issues) does not make it easier &/ pleasant for digital firms to partner with banks. The other human-side challenge perceived by digital firms is the pecking order - banks are seen as being on top of the hierarchy; and this reflects in digital firms being treated as part of supply chain, rather than that of a strategic and equal partner. And this is yet again formally amplified by the regulator’s view on FinTech being partners !

Tough Ask On The Regulator
The Reserve Bank of India (RBI) wears multiple hats - country’s central banker, regulator & supervisor of lending activities, upholder of fiscal stability, inflation controller, manager of foreign exchange reserves of the country. In a stormy market, it’s additional role becomes the lender of last-resort. The RBI has always had a larger role and responsibility in being the upholder of fiscal stability, as it wears these multiple hats.

The RBI’s bandwidth in supervision of lending-activities got widened with the addition of Co-operative banks across the country. It has to manage and navigate the scattered-quagmire that coop banks seem to be; and in addition deal with the voices, actions, and inactions of various non-banking stakeholders in the process. The RBI has been deftly managing well, many a financial crisis over the years and tightening its expectations from the licence holder-entities in the overall system; be it in risk management, product development, operational efficiencies, consumer grievances or corporate governance.

It won’t be amiss to speculate that with current objectives it is balancing, the RBI might find it easier to regulate the current number of players in the sector, balancing the need for innovative players and size of the overall banking economy to a later date; while increasing its bench strength, capabilities and capacities, before readying up for newer banking (categories) licensing. All said and done, it looks like it would be a while before RBI will look at FinTech entry into formal licensed banking sector, as owners and not merely as vendors.

This is further evident by another recent statement made by Deputy Governor of RBI - Rajeshwar Rao : “… point of caution here is that the innovation should not be at the cost of prudence and should not be designed to cut corners around regulatory, prudential and disclosure requirements.” ; statistically the number of issues or complaints as a proportion to total industry size might actually put the banks in spotlight, compared to their non-bank siblings. The sheer number of non-banks and the need to mind the bad-doers amplifies the need for the industry, specially the digital finance sector to bring together their learnings and to work with the stakeholders to practice self-regulation / self-governance. The indication from RBI on this topic of SRO could help the industry take the next steps towards this.

Regulator Has The Last Word
Banking needs patient capital, focused leadership, and stress-tested cap-table stakeholders. Until some time ago, regulators in general, shied away from having Private Equity players as bank owners. With PEs’ ability to have long-term capital increasing and regulators realising the shrinking domestic capital pool, started allowing them into the banking cap-table.

To this effect, any banking promoter needs to bring in experience in understanding what consumers want and delivering it profitably to make the banks sustain the long-haul growth journey. Also on the banking ownership and management side, it would need experienced professionals who can help them understand and navigate regulatory systems & nuances. As a natural corollary in a free-markets-driven mechanism, much of talent who retire from the regulatory system or background might find themselves engaged in financial services advisory practice of consulting firms and on the Boards of PEs & FinTechs. Some of them might also participate in completing the things they started or opposed in their previous roles ! And many of them would help the industry players to “present their side of the story” to their former colleagues &/ friends.

If the FinTechs look at buying their way into the banking world with big valuations and large capital infusion, regulators will rightfully force them to do a reality check. This could be in the form of asking them to bring in adequate financial management expertise and assessing them on ‘fit and proper’ basis for ownership strength and ultimate-beneficiary-ownership-legality, governance parameters and prudent licensing compliance for consumer protection.

It’s a tight-walk rope for any regulator to manage prudence with innovation, especially in an all-evolving-disruptive-world. Assuming all these parameters being met, will RBI allow FinTechs to bid for any public sector bank stakes that GoI may decide to monetise?

The new-age digital finance firms do not carry any baggage of legacy, and more importantly, do not have any hang ups about what will or won’t work. They are ready to learn as they serve consumers. Innovation happens when real-life problems are being solved. Trying to gate innovation for any reason will only disadvantage the consumers whose problems will continue being unsolved. This quandary puts digital ecosystem players in a tight-spot, as regulators usually are uncomfortable licensing someone without a prior experience in banking. Added to it is the challenge of finding bank owners who have long-term patient capital. This currently also has the regulatory wall that industrial houses and their promoters cannot be bank promoters. The winds of large-sized capital are in the direction of tech-enabled startups, even if one does not like that direction ! After all, as a comfort, the regulator only said “… until legislation catches up”.

Some of the recent and ongoing banking promoter equity stake attempts by conventional banks &/ non-bank lenders, in conjunction with private investors and fintechs will set the tone for the subsequent banking-ownership-attempts. Of course, there could be more (as some opportunities exist now) FinTech firms buying into banks’ stake.

Whether some of them ‘play white knight’ or ‘disappear into the night’, time (& importantly, the regulator) will tell !

Song as summary
To summarise this OpEd, the song “That thing you do” by The Wonders could be very apt:

“You

Doing that thing you do.

Breakin' my heart into a million pieces,

Like you always do.

And you

Don't mean to be cruel.

You never even knew about the heartache

I've been going through.

Well, I'm trying and try to forget you girl

But it's just so hard to do

Everytime you do that thing you do…”