September 12, 2017
Senate Banking, Housing & Urban Affairs Committee “Examining the FinTech Landscape”
Key Topics & Takeaways
- Cybersecurity: During the hearing, the recent Equifax data breach was a frequent topic of conversation, and numerous Senators asked witnesses about various aspects of the breach as well about the importance of cybersecurity for consumers and businesses. Eric Turner (Research Analysis, S&P Global Market Intelligence) used the hearing as an opportunity to endorse the national standardization of cybersecurity regulations, and specifically praised the National Institute of Standards and Technology (NIST) framework.
- Regulatory Harmonization: Regulatory harmonization was frequently discussed at the hearing, including the idea of a federal charter for financial technology (“Fintech”) companies. Several witnesses endorsed the idea of either harmonized state-level or national standards for Fintech companies, and several Republican Senators expressed concern that regulatory fragmentation posed a risk to innovation in Fintech.
- Lawrance Evans, Director, Financial Markets, U.S. Government Accountability Office (GAO)
- Eric Turner, Research Analysis, S&P Global Market Intelligence
- Frank Pasquale, Professor of Law, University of Maryland
Chairman Mike Crapo (R-Idaho)
In his opening statement, Chairman Mike Crapo (R-Idaho) discussed the benefits that previous innovations in financial services technology, such as automated teller machines, brought consumers. Crapo moved to discuss new innovations in financial technology (“Fintech”) that could improve consumers’ access to credit and financial services. He specifically pointed to marketplace lending, which could expand credit to consumers and small businesses, and the use of data to change bank business models and better serve the underbanked. Crapo closed by stressing the importance of cybersecurity and data security for firms and consumers using Fintech.
Ranking Member Sherrod Brown (D-Ohio)
In his opening statement, Ranking Member Sherrod Brown (D-Ohio) discussed the importance of protecting Americans personal data, especially their personally identifiable information (PII) and criticized Equifax’s cybersecurity practices at length, saying they put Americans at risk. Brown discussed the importance of ensuring that Fintech and Fintech companies not put American’s credit at risk, and said he wanted the witnesses to address the importance of protecting PII during the hearing. He closed by saying he hoped that new technologies could help the Americans who are currently underserved by the traditional financial system.
Lawrance Evans, Director, Financial Markets, U.S. Government Accountability Office (GAO)
In his testimony, Lawrance Evans discussed the Government Accountability Office’s (GAO) April 2017 report, which provides a high-level look at the growing use of Fintech in the financial sector. He explained that the report looks at the possible impact on the industry of marketplace lenders, mobile payment platforms, digital wealth management platforms, and distributed ledger technology. Evans said the report found that technological innovation is being driven throughout the entire financial services industry, and by both incumbent firms and new entrants. Evans said these innovations could help expand greater access to financial products for Americans, but that new technologies also bring potential risks. He singled out data driven algorithms as an area of concern, saying the use of nontraditional data could lead to violations of fair lending rules. Evans also said that cybersecurity is of critical importance to the Fintech industry.
Eric Turner, Research Analysis, S&P Global Market Intelligence
In his testimony, Eric Turner discussed the possibly large benefits that digital lending, mobile payments, digital investment management, distributed ledger, and digital insurance products could provide consumers. Turner also said that new technologies could allow companies to offer more competitive loan rates, saving borrowers’ money that might otherwise be spent on interest. Turner also discussed the potential for distributed ledger technology to reduce settlement costs. Turner echoed earlier comments and said that it is critical that Fintech products protect consumers PII and improve access to financial products in the unbanked and underbanked populations. Turner closed by discussing how “challenges remain” for the Fintech industry given that regulations have been applied unevenly across the industry, and said that a clearer regulatory framework could boost innovation.
Frank Pasquale, Professor of Law, University of Maryland
In his testimony, Pasquale opened by arguing that “opaque business practices” combined with “regulatory arbitrage” sparked the 2008 financial crisis. He went on to say he believed that similar problematic practices are being undertaken today in the Fintech industry, and that federal regulatory agencies are unequipped to deal with what he viewed as widespread problematic activity. Pasquale argued against federal preemption of state regulations on Fintech, saying that state laws prevent exploitative payday lending practices, and that federal preemption of these state regulations could create a kind of Fintech loophole for payday lenders. He said that innovation should “not be an excuse for stripping safeguards for consumers.” Pasquale also called for an increase in funding for the Consumer Financial Protection Bureau (CFPB) and the Office of Financial Research (OFR), whom he said should play important roles in regulating Fintech.
Question and Answer
During the hearing, the recent Equifax data breach was a frequent topic of conversation, and numerous Senators asked witnesses about various aspects of the breach. Brown asked how the government could hold Equifax “accountable” for the breach. Pasquale said that the breach is a “watershed” moment for data security and that companies with multiple data protection failures should suffer some form of consequence.
Sen. Jack Reed (D-R.I.) asked Pasquale if financial companies are proactively protecting themselves from cyberattacks. Pasquale said this was not the case, and that careful companies “are the exception.” Pasquale noted that companies are required to disclose breaches, but endorsed new regulatory requirements for “front end” disclosure. Turner noted that many of today’s banks operate “fractured technology systems” as their computer networks were built piecemeal and at least partially through industry consolidation. Turner endorsed national standardization of cybersecurity regulations, and specifically praised the National Institute of Standards and Technology (NIST) framework.
Sen. Mark Warner (D-Va.) asked the witnesses if Congress should create a single national standard for requirements of notification by companies in the event of data breach. Pasquale said that states should be allowed to set these requirements, which may result in more cost to companies, but would allow states to set a level of disclosure that they believe is adequate. Turner endorsed either harmonized state standards or a national standard for disclosure, saying this should be “step one.” Evans agreed that companies across the country should have “consistent treatment.”
Crapo asked the witnesses if Fintech companies should have their own, unique federal charter. Turner agreed that they should, saying the biggest risk to innovation is a “fractured regulatory system.” Turner assured the committee that Fintech companies do not operate in “the wild west” but that the regulatory regime they operate in was not built for them. Turner went on to endorse the creation of a “regulatory sandbox” that will allow Fintechs to continue to innovate and allow regulators to test new strategies and compliance mechanisms.
Sen. Tom Cotton (R-Ark.) asked if the regulatory environment for U.S. Fintechs posed a risk to the health of the sector. Pasquale argued that the U.S. has major advantages over other countries for attracting Fintechs and encouraging innovation, such as strong human capital in the vibrant Silicon Valley innovation cluster, and that the U.S. does not need to adjust regulations to attract Fintechs to its shores. Sen. David Perdue (R-Ga.) also asked the witnesses about their views on Fintech regulation, and Evans conceded that regulatory fragmentation could stifle innovation.
Sen. Catherine Cortez Masto (D-Nev.) asked the witnesses if the rules that apply to traditional lenders should apply to certain Fintechs. Turner agreed, saying that if a Fintech’s main business is lending, it should be regulated as other lenders are. Turner went on to say that the proposed Fintech charter is “a good step forward” for all Fintechs and would provide needed regulatory clarification. Pasquale urged Congress to view federal preemption of state financial regulations on Fintechs with skepticism, noting that many states have more aggressive lending regulations that federal agencies would be likely to apply.
Fiduciary Duty Rule
Sen. Elizabeth Warren (D-Mass.) asked Turner and Evans if the cost of financial advice has decreased thanks to Fintech products, such as digital wealth management and digital financial advisor platforms. Evans and Turner agreed that the growth in digital advisors, with low fees, has made financial advice less expensive and more available to middle-class savers. Warren used the remainder of her time to criticize opponents of the Department of Labor’s Fiduciary Duty rule, saying its opponents’ criticisms are unfounded and that the rule will not raise the cost of financial advice for the middle class.
Cotton noted that a 2015 FDIC study found that seven percent of households are unbanked, and 20 percent are underbanked (that is, they rely on non-banks for financial products). Cotton asked if Fintech could improve these figures, and Pasquale agreed that globally, Fintech has proven to be a potent tool for improving financial inclusion. Turner noted that Fintech platforms like mobile payment systems and alternative lending platforms will also improve financial inclusion.
Cryptocurrency and Tokenization
Sen. Thom Tillis (R-N.C.) asked if there is currently a “cryptocurrency bubble.” Pasquale agreed that there is, noting that cryptocurrencies currently have massive “governance deficits.” Turner argued that the market is so small it cannot constitute a bubble, but that there should be new regulations around token offerings or initial coin offerings (ICOs).
For more information on this hearing, please click here.