15 October, 2018

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Introduction Of Fintech Regulatory Sandbox By Central Bank Is A Move In Correct Direction

By W A Wijewardena –

Dr. W.A Wijewardena

A regulatory sandbox

The Central Bank of Sri Lanka has recently announced its intention to create a sandbox for financial institutions to experiment with new financial technologies, without running the risk of getting caught for violating regulations pertaining to the sector.

This proposal is still at a nascent stage, and a lot more has to be done by the Bank to realise its full fruits. Yet, it will pave way for Sri Lanka to join the exclusive club of countries that have attempted to bring about a healthy marriage between regulators and innovators. Sri Lanka has joined the fray at a time when many countries in the world are racing to gain membership of this club.

That is because financial innovations are considered a must for cutting costs, giving better services to customers and remaining included in a world of advancing global financial technologies.

A lot more to be done by Central Bank

According to the Bank’s press notice, it has so far not determined the scope of the proposed regulatory sandbox. This is understandable, because there is no generally accepted model of regulatory sandboxes by its proponents, nor can such a general model exist due to the diversities in the financial systems in different countries in the world. Hence, at present, fintech regulatory sandboxes are custom-made and restricted to individual countries, implying that there is no scope for ‘cut and paste’ work. Hence, each country has to find its best model, though they can seek general guidance from those countries which have already implemented them.

Now UK proposes to go for a global regulatory sandbox 

However, there will be a generally accepted single model of a fintech regulatory sandbox when the world settles on a global fintech regulatory sandbox system one day. The pioneer of the local fintech regulatory sandbox, UK’s Financial Conduct Authority or FCA, has proposed a global model following the success of its local model introduced in 2016. But, it is still at the blueprint stage and therefore, the new entrants have to be content with local fintech regulatory sandbox frameworks.

Hence, in this initial exercise, the Bank proposes to consult those who are to introduce fintech innovations, so as to assure that the sandbox system is beneficial to them, and identify the requirements of the market. Such a participatory approach will help the Bank to eliminate shortcomings of the new system as and when it is implemented on the ground. The present exercise is thus limited to collecting expressions of interest by would-be fintech innovators, by means of a very short and simple questionnaire.

Sandbox comes from children’s learning game 

The term ‘sandbox’ has been borrowed from the children’s ‘learning game’ involving a box or a pit filled with sand.

Children are allowed to sit around the pit and use the sand for coming up with new creations. Some build castles, some statues and some simple roadways. They are watched from a distance by elders, but there is no interference or guidance by them in close range. Thus, the normal disciplinary code which is applied to children’s other work is taken out, and they have full freedom to do what they like to do within a given time space.

The objective of this learning game is to help children think creatively and do it in competition with others in the group. Sometimes, children who belong to a given pit could compete with children in other pits. They, therefore, learn not only creativity but also the value of competing with others. If this competitive spirit is continued to their adult life, they would be able to create things beneficial to others.

Only free minds can make inventions

The message given by the learning game exercise with children is that people will become creative, innovative and enterprising when they are free from regulations, rules and restrictive behavioural guidelines.

Creativity comes from the ability of persons to see beyond the frame set for them by society or its members. If one has the courage to break the barrier, one could bring about changes that are beneficial to others. If, in the opposite, one chooses not to challenge the barrier, there is complete conformity and loyalty and society will continue as it is. They would not shine in the environment.

The Buddha advised the Bhikkus in the Avasa Sobhana Sutta that if they wish to shine within the monasteries they live in, one of the prime qualities they have to cultivate in themselves is the ability to see beyond the numerous Dhammas they learn.

Seven step approach to sandbox by FCA, UK

UK is the pioneer in sandbox approach to innovation

The sandbox-type regulatory approach to promote financial technology and innovation was first proposed by the UK’s FCA in 2015, which also coined the term ‘sandbox’ to describe the methodology.

Since then, many countries around the globe have emulated the UK exercise. The leading users who have gone live in the project have been Holland, Canada, Singapore, Abu Dhabi, Australia, Malaysia and Hong Kong. In addition, a number of countries – as high as 40 – have proposed to setup a sandbox-type regulatory concession to new financial innovators. Sri Lanka, with its recent proposal, belongs to this latter category.

Popular demand for exempting from regulations to test innovations

According to the above report by FCA, the reason to go for a regulatory sandbox was the request made by many participants in its earlier innovative exercise, code-named robo-advice.

Those who had participated in this exercise had requested that they be given an opportunity to test their products – involving complex algorithms – in a regulation-free environment. It was thus felt by FCA that a regulatory sandbox was the best to meet this requirement due to four reasons: cutting time and cost to implement an innovative idea in the market; easy access to financing; ability to test more products; and opportunity to address consumer protection issues.

FCA also had to resolve three key issues when it pursued the establishment of a regulatory sandbox: the selection of barriers to be lifted; deciding on the safeguards for consumers and the financial system during testing; and, since the UK was within EU at that time, how the regulatory relaxation in the sandbox approach would compromise EU rules.

Stringent rules for selection potential innovators 

The UK sandbox went live in February, 2016. Not every firm that made requests was accepted to the sandbox project. According to the report, the following five criteria had to be satisfied by every such firm for acceptance:

  • First, is the firm in scope: is the planned new solution designed for or supports the financial services industry?
  • Second, is it a genuine innovation: is the new solution novel or significantly different to existing offerings?
  • Third, will the consumers benefit: does the innovation offer a good prospect of identifiable benefit to consumers? This criterion should continue to be met throughout the period of sandbox testing.
  • Fourth, is there a real need for sandbox: what is the objective of testing? Does the business have a genuine need for testing within the sandbox framework?
  • Fifth, have the applicants done sufficient background research: has the business invested appropriate resources in developing the new solution, understanding the applicable regulations, and mitigating the risks?

A quantum leap to beat competitors

These strict selection criteria eliminated amateurish firms and accommodated only those with genuine intention to support the industry and consumers. The objective of the FCA had been to take the UK financial market to the next world stage, through genuine and value-adding innovations.

The concern of FCA was that London, which remained the number one global financial market for centuries, was being threatened by new entrants like Singapore, Hong Kong and Abu Dhabi.

If it is to retain its position and remain as number one, it has to make what economists call a ‘quantum leap’ or a jump so high that its competitors would not be able to capture it. That quantum leap would be powered by innovations supported by competition, which would also ensure the best of everything, from excellence to market practices to product delivery to consumer satisfaction.

Thus, FCA had no choice but to promote fintech innovation on a grand scale. But its solace has been short-lived, since its competitors too have now followed it. As it is, the regulatory sandbox is a public good which can be copied and adopted by anyone in the globe. This is why the UK is now planning to propose a global sandbox, so that financial innovations in any part of the world would be made available to mankind in general, and not to people in a given national state.

Safeguards for customer protection

If the regulatory sandbox goes wrong, there are complications for the entire financial industry. It is like testing a new drug on human beings. If a new drug is discovered, it is first tested in vitro in a laboratory environment, and then on selected animals. It is tested on human beings only after the first two tests have shown conclusively positive results.

Even then, when it is tested on human beings, necessary safeguards have to be introduced to minimise – if not eliminate – the adverse side effects. The testing of financial innovation on live customers also involves similar risks. Given this background, the regulatory authority concerned has to take extraordinary measures to protect the rights of consumers who have now become live guinea-pigs.

Fourfold safeguard approaches in UK

UK’s FCA has suggested four different approaches to safeguard the consumers in the case of simple financial technologies as follows:

  • Approach 1: As in clinical trials, sandbox firms can only test their new solutions on customers who have given informed consent to be included in testing. Customers are notified of the potential risks and the available compensation.
  • Approach 2: FCA agrees on a case-by-case basis the disclosure, protection and compensation appropriate to the testing activity.
  • Approach 3: Customers have the same rights as customers who engage with other authorised firms (e.g. complain to firm, then to the Financial Ombudsman Service (FOS), and have access to the Financial Services Compensation Scheme (FSCS) if a firm fails).
  • Approach 4: Businesses undertaking sandbox trials are required to compensate any losses (including investment losses) to customers and must demonstrate that they have the resources (capital) to do that.

Caveat venditor: Let the seller beware

In the case of testing complex technologies like the blockchain – the ledger system in which many customers would participate on line to effect transactions – the sandbox firms should not only get the consent of the customers, but also do so only with sophisticated ones.

This requirement arises from the legal principle ‘caveat venditor’ or let the seller beware. It effectively passes the responsibility on the seller to educate the buyer on the complexities involved in the product he is going to buy.

This is specifically relevant to derivative products and high tech consumer products. In the case of financial markets, new innovations are sophisticated ones and therefore, not all customers could be expected to be knowledgeable of the potential risks involved. That is the reason for insisting that complex innovations should only be tested on customers who are aware of the market risks involved in sophisticated financial products.

Next move of Central Bank

The Central Bank should now come up with a detailed paper on how it is going to implement its regulatory sandbox proposal.

It should contain, among others: the selection criteria; how the innovating firms should be given a regulatory umbrella by the Bank; the legal implications in exempting them from regulations and how it should be sorted; and finally, how the firms should go to the market after they have successfully tested their innovation. This involves continuous education of market participants and customers. But this is not rocket science, and it can always follow the best practices adopted by other successful countries which have now gone live on the system. It is only a matter of customising what other countries have done to Sri Lanka’s specific case.

This will take time but the initial action taken by the Central Bank is commendable. Thus, the market is patiently waiting for Central Bank’s next move.

*W A Wijewardena, a former Deputy Governor of the Central Bank of Sri Lanka, can be reached at waw1949@gmail.com 

 

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Latest comments

  • 4
    1

    Dr. Wije,
    Thanks but Sandboxes and ‘innovation’ the buzzword of the decade, is a great deal of HYPE to distract us from the real problems of the fact that FINANCIAL CORRUPTION is Legalized in the global system today operated by IMF, WB and the Davos drag queens, and that this must be rolled back along with galloping income inequality – globally and nationally.

    Today we have Trickle up, not Trickle down because of sand boxes – 48 people own more than half the worlds wealth, because the global financial system owned and operated in London, Washington DC and NYC is gamed to benefit the global 1 percent..
    What happened to the UK and US corruption experts who were to go to Lanka to track down funds looted from the country and stored overseas, revealed in in Panama Papers and Paradise Papers leaks? Gone with the Wind – Into the Sand Box no doubt?!

  • 2
    2

    Was the CB Bondscam masterminded by Ranil Wickramasinghe also tested as a Sandbox operation?!

  • 2
    2

    Quite True Don Bottom line is, !London is struggling with BREXIT and it financial fall out has invented a new gimmick called the sandbox to stay relevant!

    The infantalization of the thinking public with gimmicks, buzzwords and Sandboxes in an era of post-facts and fake news, and legalized massive financial fraud, continues to obfuscate fundamental structural problems and the need for structural reforms of the global financial system and institutions to make it more equitable and accountable to the global South is clear.

    GDP is not a real reflector of well being and 25 percent of population live under 2 dollars a day in SL.. The urgent need for Central Bank is to trace and recover funds looted from Lanka to pay off some of the national debt that has put the rupee in Free fall with out fantasizing about sand boxes…

  • 1
    0

    When Maithripala Sirisena visited the Queen he was given a hand shake without the Glouses. So, they are harvesting the profits of tht hands shakes. Why do we need these financial products. The expenses for these, new software for these, computers to handle and maintain after that who bears the cost and bugs in software, maintennace costs. so the new edition coming. This is why Muslim financial method is good as there is no exploitation. who is pushing for this Mangala Samaraweera ? UK is proposing global sand box. USe money to earn money for bankrupt UK. Why we can not modify for our need. SINPLY WE DO NOT EXPLOIT THE PUBLIC FOR THE BENEFIT OF A FEW OR FOR FOREIGNERS. DO WE HAVE ANY POLICIES. UK AND USA ARE BANKRUPT AND WE ARE FILLING THEIR WALLETS. (ct has a sentence to delete this, saying publication policy).

  • 1
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    This looks like a very destructive idea to Sri lanka. If the Central bank is ideologically bankrupt, they should look at Japan. Japan is a country that started from the dust of the 2nd WW ashes, became a well developed vountry, people enjoyed and lived good lives and are even living it today. Japanese govt also asked people spend, have fun and do not care about tomorrow because we willbe like thsi for ever. Everything thing changed. Japense govt was struggliong to stay alive, but people had money in their pockets. so, the govt is saved. IT is good you say Central bank is thinking about it and not yet implemtned. Otherwise, we do not need. Sri lankans had very good lives even in the past without nay of these foreign help. Just thin how they build PArakaram Samudraya, KAvudulla, Kala wewa, Ruwanweli seya, Jethawana Ramaya and many more are all those from foreign aids, and ma ipulating the financial market. Why people can not think about other ways when there are methods available. the example I said Japan. China used their own methos china is better off than Japan. ITis not the people have a something like a RAJAANDU of the method in which the govt is the richest. So, they can distribute wealth for the poor.

  • 3
    1

    omg……just when we the Masses had started to freely play again with our own time-honored sand on our ancient beaches, Ranil (who is still crazy about his colonial inspired pre-school days) has to selfishly put it into elitist boxes of the elite, for the elite and by the elite .

  • 0
    0

    This comment was removed by a moderator because it didn’t abide by our Comment policy.For more detail see our Comment policy https://www.colombotelegraph.com/index.php/comments-policy-2/

  • 1
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    “The leading users who have gone live in the project have been Holland, Canada, Singapore, Abu Dhabi, Australia, Malaysia and Hong Kong. In addition, a number of countries”

    Wondering why Washington Missing there? We can’t have anything not-regulated. Wall Street smashed it in 2008, when regulated. So we stay out of any unregulated ideas. If unregulated we will do it again; if AG files the case blaming purposefully did it; our Lawyer will argue “non- regulated means non-regulated, All businesses are purposeful businesses; business is no kids’ sandbox game. What is the problem you have with my client?” He gets 33% of any financial cases. IRS won’t mind. Because that is how GDP grows-wealth distribution!

    But it is ok to Lankawe. It doesn’t make lot of sense regulating or not regulating. There, anyway we have 1000 ways to do the clean sweeps. If the Prime Minister plays sandbox game with Central Bank of Ceylon, then President will play with Central Bank of India. It is the title decides with which bank you can play the game. That is the only regulation Lankaweyans ever mind.

    If it is regulated, then Sinhala Jury Only Judges know it is the customer’s fault. He/she should know the law is they should not offer bribe to government officials.

    Nagananda opposed the Foreign Exchange Fraud Amnesty Act (2017). But his client brought in something. So he stood up and argued the law is freely allowing anybody to bring in declared, but my client didn’t declare, so what is the big deal? His hope is, if he argues like that & save a thief, somebody will repeal the law. Good Idea! If you talk about idea, it’s only come out of Lankaweyans’ heads.

    “Sandbox” may help to spray sand in the eyes of Customs Officials and get the stuff electronically to the appropriate accounts, without much hassle. I don’t know when Belarus, Seychelles, Dubai et al will be building their grounds for elite guys’ sandbox game.

  • 1
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    Reading the comments, it is clear that none of the commentators has any idea what a sandbox is. Blind men trying to describe a flower?

    • 1
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      “none of the commentators has any idea what a sandbox is “ Why do we have to know what the sandbox is when we know who has the keys to the safe box of Central Bank. Are you pretending like they are bringing this because they want to turn around things at CB? Absolute they want to make all their black into white and claim it’s all the software glitch.
      When New King got caught in India, he immediately announced the India’s proposal, which connecting East with Mannar and South will go ahead. That was sitting there for years on the EPs desk. It was only one week ago. Earlier China messed up the Southern highway. Yesterday’s news is China wants to lend$1 billion to another highway and wants its started right away. If Yahapalanaya doesn’t accept that loan all their computer system will go down and they will have to sell Srikotta and Rosemead Place to China. We know the sand box game SLFP played with China; we know the game Malik and other UNPyers played. If you don’t know, change your bigheaded attitude; read the international Media to come to know how much you are being bullied by China.

      Probably you are a tendering party to test the Chinese technology here in Lankawe? Are they paying you the commission too from Chinese companies to test in Lankawe? Do you know the Sand Box game cannot be played with Central Bank (People’s Bank) of China, but only with Lankawe Central Bank? They say “Aruthali Pillaiyilai Naavithan pazhakuwaan”. (The barber learns on only the fatherless child- because the mother’s voice is low). What the heck you are talking about Lankawe testing technology? Where are you hiding that so called thing technology that we never saw in Lankawe? Is that in your kitchen or bed room? Where did the Volkswagen go & Why?

      • 0
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        OK Mallungs, you seem to know what a sandbox is, or you looked it up. But do you need to write 3 columns to prove it?

    • 1
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      Britain didn’t name it “Sandbox” because it imitated Children games. But it is the buss word of the software industry, which calls the real-time testbeds as Sandboxes. They wanted to stay ahead on the technology. But it is not supposed give the absolute competitive advantage. Others also can get into the same techniques. Financial Market software is the most complex in the world now. Unless Britain has advantage in creating those, no real benefits will be achieved. Britain has no properly written constitution. It is still running with Magna Carta. But it is one of the most disciplined countries in the world. They know, not just Bank of England, they can open up anything, but their official will sincerely use it to Test, not to corrupt. Software is to cut down labor costs. Britain may save more because its labor cost is higher than others.
      Britain willingly encourages others coming into a common system. Probably it may hoping to register some patents and collect royalty
      When you have ankle pain would you buy soccer cleats? First fix the ankle seeing a doctor! Lankawe’s name is Thief. Lankawe listed as one with in the 18 money laundering heavens. It happened right after the Parliament played its sandbox game on exchange control. Without fixing that bad name Lankawe wants to play another game?
      Your problem is the exact symptom of the Sinhala Intellectuals’. The inferiority complex! Dreaming Lankawe has passed the Singapore!! The wonder of the Asia!!! High Esteem, holy Buddhism!!!!!
      Put somebody in prison. (Today’s news is the Prison Hospital rooms are rented at $300 per day. But Colombo 5 star hotels are going under $200 per day as per the news. And it has to be paid in currency notes.) Bring in some quality labor. Before you start brag a lot, come out with a way to fix the Central Bank. Then you can test the Chinese super technologies.

    • 0
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      Can men with eye-sight ever describe a flower that has not bloomed? Has it ever bloomed ; will it ever bloom? Wild flowers in the meadows bloom by themselves.

  • 2
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    Vital sand-box theme: Karl Marx pedagogy within each national border, after of which neo-creativism will naturally emerge from the bosom of the Masses

  • 0
    0

    The Sri Lankan Rupee fell further yesterday. When Dr Wijewardena voiced concern about this trend, I made the first comment, and promised to shut up since “I didn’t know Economics”:
    .
    https://www.colombotelegraph.com/index.php/rupees-sad-destiny-of-one-way-journey-to-depreciation/
    .
    I actually understood what he was saying there, but, valuing consistency, I said no more. My intention also was to draw attention to politicians knowingly impoverishing us, so that they as individuals benefitted.
    .
    This article is different. I read it a few days ago, but it has genuinely been too difficult to understand all its ramifications. Those who equate Economics with Accountancy ought to ponder why this is a disciple that is so complex that a Nobel Prize is awarded annually. I am grateful for what Dr W. has explained, but we are now in an area which is for experts; however, we must make an effort to keep abreast of what is being told here.
    .
    Two seem to have commented seriously, and with understanding. There can be little doubt that sandboxes are efforts by prosperous countries to stay ahead. The author says as much:
    .
    “London, . . . was being threatened by new entrants.”
    .
    As we are told here, it is good that we have decided to go for sandboxes and the like. There is an alternative, but obviously nobody is going to embrace it. The alternative is to remain locked out of all the innovations of technology. The most vocal critics are precisely those who relish consumerism.
    .
    What we can and must do is to act politically so that cooks are not the people who control those aspects of the Economy that we cannot possibly be masters of. So, again, the problem is that we know who the crooks are, but are too timid to act.

    • 0
      0

      What a curious state of thought and mannerism of our certain Lanknas…… Lol…!!!
      *
      Anyways,…………let’s say that capitalism is all about the crookery of the elite, before crafty respectability emerges. Therefore, we suggest that all money be equitably distributed in Sri Lanka, to the whole unsupervised beach till the neo-creativity is born from the sand-castles of the masses.
      *
      Best way forward for Sri Lanka as we haven’t exactly created innovations of technology for the rest of the world have we – cannot kill the natural heritage of the land, for that one innovation we hope will come up with one day? (not our fault of course as the colonists copied and assimilated all the knowledge they learned from lands they conquered). But the truth is once we care for our masses, intelligence and innovation of our own will emerge most honorably.

  • 0
    0

    Dear RTF,
    .
    I just don’t want to make comments on Economics. I know it’ll be much too complicated for me to handle. I only try to understand what is happening.
    .
    I think that we’ve all got to be aware when there is large scale swindling, and also when certain “populist” measures are introduced. For instance, I don’t think that I will waste my time reading Mahinda Rajapaksa’s “contribution” on petrol prices. After the “Yahapalana” victory of 2015, everybody who supported was willing to forego such things, for long term benefits. Other unnecessary things were the Rs 10K salary increase for all government employees (I got 1K extra a pensioner – I’m resigned to getting poorer until I depart). Of course, many still voted for Mahinda; they were defeated, and would have had to put up with anything.
    .
    What we really wanted was not done. I needn’t elaborate, need I?
    .
    With more money in our hands, we buy baubles. The possibilities of my four year old smart phone have not been explored – yet pressure is on us to go for something later. We’ve become part of the global throw-away society.
    .
    I’m not going to explore what “innovations” are expected. I wouldn’t expect it to be technological innovations. How can I possibly update my knowledge in such areas?
    .
    But lots of other things have to be investigated – huge Financial Frauds: especially about 2006 (let’s say), right up to today. Plus all killings and violations – including unnecessary brutality in the conduct of the war.
    .
    Even I’d want to keep in touch with the rest of the World, but without ostentation – which is part of human nature, but deliberately fuelled by various forces.

    • 0
      0

      “Ego – nonego – humilifying – before the final large ego spurt.” How very quaint. So much cleaner to go pure ego……. More honest…… Otherwise everything else you say has some merit S_M. Innovation for Lanka: return to the farmer and fisherman to their natural occupations. Trade and scientific innovation will naturally emerge for the most useful of things. Consolidate our money for these things. That’s our sandbox. As per the exponential undertakings of the rest of the world, they’d give it to us for free, just to balance out their inflationary excesses. Right now, we have mooc’s from the US.

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