Regulating a Revolution: From Regulatory Sandboxes to Smart Regulation

The rise of financial technology companies (‘FinTechs’) and data-driven financial services providers (‘TechFins’) profoundly challenges the current regulatory paradigm. Financial regulators must develop new approaches to regulation, including the use of technology, to balance the benefits of innovation and economic development with the need for financial stability and consumer protection. The resulting regulatory innovations include the creation of institutional contact points for innovative firms and business ideas (‘innovation hubs’), the use of technology for financial compliance and supervision (‘RegTech’), the adoption of pro-innovative approaches to testing and piloting, the offering of regulatory sandboxes and special charters, and the creation of administrative exemptions that provide for a partial dispensation of restrictive and costly rules.

In a new working paper titled ‘Regulating a Revolution: From Regulatory Sandboxes to Smart Regulation’ we categorize and analyze these regulatory approaches, ranging from doing nothing (which spans from being permissive to highly restrictive, depending on context), to being cautiously permissive (on a case-by-case basis, or through special charters), to engaging in structured experimentalism (such as sandboxes or piloting), and to developing specific new regulatory frameworks.

Relying on a comparative study comprising 20 jurisdictions around the world where regulators have adopted, or announced, pro-innovative approaches, we argue for a new regulatory approach and develop a roadmap for it, which incorporates these rebalanced objectives and which we term ‘smart regulation’. The fragmentation of market participants and the increased use of technology require regulators to adopt a sequential reform process, starting with digitization, before building into digitally-smart regulation. The desirable new automated and proportionate regime aims at lowering the costs of entry into the market for financial services through the adoption of a structured approach that, however, retains basic principles of financial law in order to ensure fair competition among regulated and unregulated entities. Further, smart regulation requires not only re-conceptualizing legal tools, but also a change of mind on the side of regulators towards one of mutual understanding and learning about the risks and opportunities of technology.

Dirk A. Zetzsche is the ADA Chair in Financial Law (Inclusive Finance) at the University of Luxembourg, Ross P. Buckley is a Scientia Professor and the King & Wood Mallesons Chair of International Financial Law at UNSW Australia, Janos Nathan Barberis is a Senior Research Fellow and a PhD Candidate at the University of Hong Kong, and Douglas W. Arner is the Kerry Holdings Professor in Law at the University of Hong Kong.