Expert Speak Digital Frontiers
Published on Nov 28, 2022
The emergence of Indian TechFin has posed regulatory challenges that need to be addressed
Indian TechFin: Are regulations sufficient enough? It’s common to have at least heard of, if not used, a FinTech in the Indian market. Even if one is not a FinTech consumer, one would have heard of their growth, challenges of scale, consumer engagement, and consumer convenience, as well as potential misuse. It is important not to confuse TechFins with FinTechs. TechFins are different from FinTechs, in the way their businesses are built, business models, revenue monetisation, technological capabilities, and ability to raise equity capital and core consumer offerings. Using their networks, technology, and platformised consumer access, they gather colossal amounts of granular data about the consumers, usually gathered from a non-financial relationship. They have the resources and ability to analyse those in real time to offer financial services. Theoretically, they can even further customise ‘solution for one’, a proposition that could appeal to every consumer. The popular global TechFin examples include Alibaba, Amazon, Apple, Baidu, Facebook, Google, and Tencent. TechFins’ consumers’ digital footprints could be used to provide financial solutions.

TechFins are different from FinTechs, in the way their businesses are built, business models, revenue monetisation, technological capabilities, and ability to raise equity capital and core consumer offerings.

When the Global Financial Crisis (GFC) occurred 15 years ago, private investors started betting on newer ways of solving consumers' finance issues. This is when the genesis and growth momentum of the FinTech space spurred ahead. It started as using technology in financial services to solve for consumer needs. After the FinTech revolution, we have seen many positive developments in the financial service space that solve for consumer conveniences, and with many more to come ahead. If one thought that FinTechs are challenging to supervise by the financial regulators, think hard. For now, we have India’s potentially first TechFin entity coming up—Jio Financial Services (JFS). An announcement made by Reliance Industries indicates that it would hive off its financial services operations into a new entity.

Embedded Finance

Despite the various complicated financial products that the market offers, consumers need financial products only for three needs: 1) Borrow for a reason (Lending industry) 2) Invest surplus funds (Investments sector) 3) Insure their life, property, health, etc. (Insurance sector) Within these needs, consumers behave differently when it comes to borrowing as compared to the other two. They are patient and willing to wait. It is difficult to get the consumer to invest even a nominal amount. Where traditional financiers missed the opportunity to serve the underbanked and the unbanked, FinTechs used newer credit scoring models using consumer digital data to serve those consumers. This is an area, especially the proprietary credit scoring algorithms and usage of various data sources, that seems to be still worrisome for the regulators. This is exactly where JFS seems focused on as their business focus, as they recently announced in their media release: “consumer and merchant lending business based on proprietary data analytics to complement and supplement the traditional credit bureau-based underwriting”. JFS has also indicated intent to increase its financial services offerings across payments, insurance, digital broking, and asset management. In such a scenario, the regulatory boundaries of these consumer offerings would extend to multiple financial regulators.

JFS has also indicated intent to increase its financial services offerings across payments, insurance, digital broking, and asset management.

Embedded finance is the integration of financial services into a non-financial platform. It can possibly increase formal financial services offerings to the unserved or new credit consumers. These consumers generally do not have the traditional data that banks use for credit scoring. Embedded finance addresses this by allowing alternative data-based underwriting, i.e., assessing borrowers with the data they actually have, such as mobile device data which includes apps, texts, device location, call logs and contacts which help lenders build strong decisioning systems that serve as proxies for creditworthiness apart from other forms of data such as transactions, etc. For example, embedded insurance is basically a bundled insurance product when the purchase of a product or service happens. For example, when consumers buy a TV or a washing machine, they don’t buy insurance coverage for it as it’s not a perceived need. But digital platforms generally are successful in bundling insurance products along with original product sales. The Reliance conglomerate has the power of having India’s largest retailer across multiple consumer and product categories—a data point that would equip them with granular consumer behaviour, especially when they also have integrated daily shopping with platformised services like WhatsApp. They also own the largest telecom company. Importantly it has some of these global platform giants, as its equity investors in its internet play. Furthermore, it has a payments bank already within its fold. It also has applied for the New Umbrella Entity (NUE) licence (pan India retail payment processing system). These add up to what TechFins typically offer: Non-financial consumer touchpoints and consumers’ digital footprint, as data-farming sources.

JFS implications in the finance market

Traditionally any large player, equipped with huge capital to invest in growing the market pie and consumer offerings, does bring positivity to the sector.
  • The FinTechs have so far lacked heft and standing in policy and polity circles, and have been used only as poster boys to showcase India’s digital prowess. They have not been able to strategically communicate their importance, versus the traditional incumbent financiers’ lobby. This could change the tide for them with the entry of the giant RIL in the digital finance space. The consumer market for digital finance would grow wider and deeper. One would assume that regulatory gates could expand with entry of large players into the space, and thus, allow for newer product offerings than what has been seen so far. Currently, the regulators are yet to have clear future roadmap for digital finance. The rules and regulations around digital finance have been slow in their evolution, and probably with a sense of distrust. The question remains will it even change how regulators navigated FinTech ideology so far.
  • The fierce competition that an entry like this would create could help consumers to avail financial products at a lower cost which the industry would be forced to offer. Also,incumbents would improve their service offerings.
  • FinTechs would face higher costs of competing in the sector. Factors such as employee attrition or being poached could increase. That would drive up the cost of talent retention.
  • With RIL entry, one possibility is that they might raise separate equity funding for this financial services play. Presumably, it would be at higher benchmark valuations. The successful FinTechs could benefit from using this benchmark valuation for their next round of funding or even divestments. Traditional financiers could also be the potential buyers of such stakes so it would allow them to stay competitive in the market. However, we might also see the weaker or run-of-the-mill FinTechs closing shop or selling out at distressed values.
  • JFS would have access to a huge debt line available—either as equity capital base or access to the cheaper cost of funding, or even both— thanks to the corporate strength of its owners. This could play out with them offering lowered lending rates in the market. Of course, depending on how much of the market share they are able to garner in the next three to five years, they might be able to influence how the consumer lending market shapes up.
  • Newer emerging technologies in the Artificial Intelligence (AI)/Machine Learning (ML) space would get tested in this TechFin run-up, and be commercially deployed for a wider range of usage. Thus, forcing financial regulators to unlearn older and learn newer ways to regulate and supervise the sector.

Regulating TechFins

So far, the Indian financial regulators have kept FinTechs away from banking license, and handed only access to the bits and pieces of the financial value chain. The banking regulator, RBI, has not allowed corporate houses to enter the universal banking sector. This is to prevent connected lending and exposures between the banks and other financial and non-financial group entities. Another critical reason is the need to strengthen the supervisory mechanism for large conglomerates, including consolidated supervision across their business operations. The current route is that corporate houses having a presence in the telecom sector have access to payments bank license. With the current convergence of telecom, finance and data, will we see the regulatory change of stance to allow for full-fledged banking operations by corporate houses?

Indian financial regulators have kept FinTechs away from banking license, and handed only access to the bits and pieces of the financial value chain.

Indian regulators, in general, have been encouraging industry innovation. However, they have to improve on their own tech usage capabilities, especially in the supervisory space and systems, and importantly their ability to work with other financial and other regulators. Most of them are yet to use digital tools to undergo real-time digital supervision of their regulated entities or marketplaces. It might be a bad idea for the regulators to outsource their technology efforts and digital expertise to third-party advisories who also end up advising the industry participants. The regulators have to think of regulatory development like apps, which offer regular upgrades. They can keep updating their regulations, guidelines, and circulars to keep pace with the convergence of technology and finance; there cannot be a perfect and final update in the digital era. TechFin regulation will be the one where our policy and regulatory circles will be tested for their true independence and their ability to govern regulatory systems for digital finance. If JFS were to behave as a TechFin, it will expose how much control the regulators would have over it. Of course, with this precedent, it could be a matter of time before other corporate houses or telecom or technology majors could aspire to get into financial services. Will this open up the regulator’s openness for ‘digital-only’ banks as a precursor? For FinTechs and TechFins serve consumers through digital touch points and might appeal to the younger consumer demographics who are digital-first or even digital-only consumers.
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