Impact of financial regulations on consumer financial behaviour

Since regulations may influence consumer decision-making and consumption patterns, there exists a symbiotic relationship between financial regulations and the way consumers allocate their money. To elaborate, essentially financial regulations are designed to promote stability and protect consumers by setting standards and guidelines for financial institutions and their activities. These regulations can affect the cost, availability, and accessibility of financial products and services, which in turn can influence consumer behaviour. Therefore, as financial regulations continue to evolve, they can have a significant impact on the way consumers allocate their money. An International Monetary Fund (IMF) working paper, for instance, describes how behavioural elements are relevant to financial supervision, regulation, and central banking. It stresses that the financial supervisors, regulators, and central banks have not yet realised the full potential that behavioural elements hold.

An International Monetary Fund (IMF) working paper, for instance, describes how behavioural elements are relevant to financial supervision, regulation, and central banking.

Essentially, from consumer protection regulations to rules governing financial institutions, these regulations can influence consumer decision-making and consumption patterns in a variety of ways. Further issues arise with the growth of platform businesses that allow collaboration with non-traditional partners and bring together different categories of customers, i.e. savers and investors or lenders and borrowers, creating large, scalable networks of users which pose a challenge for regulatory oversight.

Indian context

In the Indian context, demographics have additionally played a significant role in shaping consumer financial behaviour. India has a population of over 1.4 billion people with a large and diverse consumer base. Younger consumers are more likely to adopt digital payment methods, while older consumers may be more comfortable with traditional banking methods. Additionally, India has a large rural population that may have limited access to formal banking services. India's rapidly growing economy including fintech, big data, Artificial Intelligence (AI), and machine learning is creating significant opportunities for the country's large and youthful population in terms of access to financial products and services and e-commerce. Incidentally, India has the highest FinTech adoption rate globally at 87 percent which is significantly higher than the global average rate of 64 percent. The way people consume financial services and products has changed dramatically in recent years, particularly among the younger demographics in India. The proliferation of smartphones and internet access has facilitated a major shift in consumer behaviour. Technology facilitates easier investments and choices, but whether or not these become informed choices is another matter altogether. How, for instance, does a tech-savvy young Indian opt for an insurance policy? Do they go for independent research or are swayed by search engine advertising? In which case, are they lured by glossy promises instead of evaluating premiums, coverage, ease of claim settlement, etc.?

India's rapidly growing economy including fintech, big data, Artificial Intelligence (AI), and machine learning is creating significant opportunities for the country's large and youthful population in terms of access to financial products and services and e-commerce.

India has seen significant growth in recent years, with GDP expanding at a faster-than-expected pace, including during the pandemic. The country's young and increasingly affluent population is driving a lot of this growth, as more and more Indians enter the workforce and gain access to disposable income. However, this growth also brings challenges, including the need to ensure that financial markets remain stable and that consumers are protected from fraud and abuse. One key area of focus in this scenario is financial regulation, which can play a critical role in shaping consumer behaviour and choices while protecting the stability of India's financial system. The purpose of financial regulations is to protect consumers from fraud, ensure fair and transparent financial transactions, and promote the stability of the financial system. Various regulatory bodies overseeing different products of the financial sector, including the Reserve Bank of India (RBI), the Securities and Exchange Board of India (SEBI), and the Insurance Regulatory and Development Authority (IRDA) need to be fleet-footed to avert fintech-lured frauds.

Institutional steering of behaviour?

How do financial regulations help? As a starter, regulations can affect the availability of financial products and the cost of credit. Regulations can also impact the level of risk associated with different types of financial transactions, which can influence consumer decision-making. In India, recent regulatory changes have had a significant impact on consumer financial behaviour. For example, regulations governing credit card companies can help prevent predatory lending practices and ensure that consumers are not taken advantage of by unscrupulous lenders. For example, increased interest rates might have an impact on credit access and usage. Similarly, regulations governing investment firms can help ensure that consumers are not misled by fraudulent investment schemes or other deceptive practices. For example, regulators might worry about the long-term effects of BNPL lending in their markets, as they could lead to a society growing up with credit as a source of the lifestyle of consumption, and might risk a larger indebtedness as a market.

Regulations governing credit card companies can help prevent predatory lending practices and ensure that consumers are not taken advantage of by unscrupulous lenders.

At the same time, financial regulations can also have unintended consequences. Regulations that limit the ability of financial institutions to take on risk can lead to reduced lending and investment activity, which can in turn slow economic growth. Financial services entities are in the core business of—pricing the risk. Similarly, regulations that impose strict limits on consumer borrowing can limit access to credit, making it harder for individuals and businesses to access the capital they need to grow and succeed. As a case in point, a regulatory change that has impacted consumer behaviour is the RBI's decision to cap the fees charged by banks for electronic fund transfers. This has led to increased competition among banks and payment service providers, which has in turn led to lower transaction fees for consumers. This has encouraged many consumers to shift away from cash transactions and towards digital payment methods.

Financial literacy

Financial inclusion and financial literacy go hand-in-hand. In India, this has relevance with the expansion of financial inclusion initiatives such as Pradhan Mantri Jan Dhan Yojana, which targets low-income individuals and families. There have been several regulatory changes in recent years aimed at promoting responsible financial behavior amongst consumers. As an illustration, the RBI has rules which require banks to report bad loans and other non-performing assets more transparently, in order to reduce the risk of fraudulent lending practices. Similarly, financial literacy has been given a push these last years. Consumer ads carry riders cautioning investors albeit with limited impact. Regulations aimed at protecting consumers, such as the Fair Lending Practices Code for banks and the Banking Ombudsman Scheme, have increased consumer confidence and encouraged them to engage with financial products and services. Moreover, the regulatory environment is also fostering innovation in the financial sector, with the introduction of policies such as the Regulatory Sandbox framework. This initiative has enabled fintech companies to test new products and services in a controlled environment, across banking,  insurance, asset management & market intermediaries amongst others, which can help to identify potential issues and risks before they are launched in the market. Moreover, regulations that encourage innovation in the financial sector, such as the introduction of regulatory sandboxes, can create new opportunities for consumers to access innovative financial products and services. This can lead to changes in consumer behaviour as consumers may be more likely to adopt new technologies and services.

The regulatory environment is also fostering innovation in the financial sector, with the introduction of policies such as the Regulatory Sandbox framework.

Despite this, there are also challenges in regulating consumer behaviour. For instance, regulating the informal sector and non-bank financial intermediaries such as microfinance institutions is a challenging task. Additionally, while regulations can promote financial inclusion, they can also have unintended consequences, such as limiting competition and innovation in the market. While there are challenges to be overcome, including the need for better execution mechanisms and more effective regulation of emerging technologies, the opportunities presented by India's large and youthful population are significant. Lastly, it is important to note that financial regulations are not the only factor that influences consumer behaviour. Consumer behaviour around financial products is also shaped by a variety of other factors that are beyond the scope of regulations. For example, social norms around debt and saving can influence how individuals approach financial decisions, as can their level of financial literacy and confidence. Economic conditions, such as inflation and unemployment, can also impact consumer behaviour, as can changes in technology or market trends. Overall, the relationship between financial regulations and behaviour is complex and multifaceted. The need for a balanced and flexible regulatory environment that can accommodate the changing needs of consumers while protecting their interests can never be overstated. This requires a collaborative effort between policymakers, regulators, and the financial industry, to ensure that regulations are effective and proportionate. It is crucial that regulations are flexible, proportionate, and effective, to ensure that they do not stifle innovation or limit competition in the market, and it keeps societal conduct safe for the long term.

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Dakshita Das is an expert on Infrastructure financing, Public Finance, and the Financial Sector and is currently heading a Government Committee on Gender Budgeting.

• International Affairs
• Economics and Finance
• Financial Markets
• Artificial Intelligence
• India
• AI
• Big Data
• Digital payment methods
• Economic
• financial market
• Financial regulations
• fintech
• GDP growth
• IMF

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