The emergence of technology-enabled financial services TOOLKIT FINTECH COMMONWEALTH (fintech) in the past two decades has profoundly impacted the production and delivery of financial services. The Commonwealth FinTech Toolkit provides technical guidance on fintech and fintech applications. It sets out a framework for creating enabling environments for fintech, through legislation, regulation, institutions and policies. It also aims to build fintech capacity among government staff. Part I considers the ways in which emerging technologies are transforming financial services. Part II explores how Commonwealth member countries can use those Helping Governments to technologies to achieve their development goals. Leverage Financial Innovation Commonwealth FinTech Toolkit
Helping Governments to Leverage Financial Innovation © Commonwealth Secretariat 2020
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Printed and published by the Commonwealth Secretariat. iii
Preface
The Commonwealth Secretariat has developed the Commonwealth FinTech Toolkit in response to a specific request from the Commonwealth Central Bank Governors (CCBGs). Recognising the growth and impact of technology-enabled financial services (fintech) in the Commonwealth, the Governors endorsed the development of a Commonwealth FinTech Toolkit at a meeting in October 2018.
The threefold aims of the Toolkit are to:
• provide technical guidance on fintech and fintech applications, including using fintech to achieve development outcomes;
• set out a framework for creating enabling environments for fintech, including with appropriate legislation, regulation, institutions and policies; and
• build fintech capacity among government staff.
With support from the Australian Government’s Department of Foreign Affairs and Trade, the Commonwealth Secretariat commissioned an expert group from Visionary Future LLC to help with this project.
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Contents
Preface iii Abbreviations and Acronyms ix Executive Summary xiii
Introduction 1
PART 1 Tech Topics 3 1 Digital Financial Services 5 1.1 Introduction 6 1.2 Context 6 1.3 Description 7 1.4 Key Considerations for Future Development 12 Endnotes 15 2 Artificial Intelligence 19 2.1 Introduction 20 2.2 Context 20 2.3 Description 20 2.4 Key Considerations for the Future 23 Endnote 24 3. Blockchain and Financial Services 25 3.1 Introduction 26 3.2 Context 28 3.3 Description 29 3.4 Key Considerations for Future Development 32 Endnotes 33 4 Digital Identity 35 4.1 Introduction 36 4.2 Context 37 4.3 Description 39 4.4 Key Considerations for Future Development 41 Endnotes 43 vi Contents
5 Big Data/Big Data Analytics 45 5.1 Introduction 46 5.2 Context 46 5.3 Description 48 5.4 Key Considerations for Future Development 49 Endnotes 50 6 Cybersecurity 53 6.1 Introduction 54 6.2 Context 54 6.3 Description 56 6.4 Key Considerations for Future Development 57 Endnotes 57
PART 2 Application and Action 59 7 Policy Interventions and Outcomes 61 7.1 Introduction 62 7.2 Financial Inclusion 63 7.3 Improved Cross-border Transactions and Trade 70 7.4 Improved Economic Growth 71 Endnotes 73 8 Considerations 75 8.1 Introduction 76 8.2 Diversity among Commonwealth Nations 76 8.3 Small States: Opportunity and Challenge 77 8.4 Advanced Economies and Legacy Systems 78 8.5 Developing Economies 78 8.6 Regional Considerations 80 8.7 Conclusion 81 Endnotes 82 9 Action Framework for Creating an Enabling Environment for Fintech 85 9.1 Introduction 86 9.2 Building an Effective Fintech Task Force 87 9.3 Creating an Enabling Environment for Fintech 89 9.4 Building on Success 99 Endnotes 100 vii
10 Case Studies 101 Case Study 10.1 The Journey of Emerging Technologies: Blockchain in Papua New Guinea 102 Case Study 10.2 Pioneering Mobile Money in Kenya 106 Case Study 10.3 Digital Assets Businesses in Bermuda 108 Case Study 10.4 Malta’s Support for Virtual Financial Assets 111 Endnotes 114 Appendix 1 Commonwealth Government Interviews 115 Appendix 2 Methodology 117 Appendix 3 Findings 119 Contributors and Acknowledgements 121
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Abbreviations and Acronyms
5AMLD Fifth Money Laundering Directive (EU) AAI applied artificial intelligence ADB Asian Development Bank AfDB African Development Bank AI artificial intelligence AML anti-money-laundering APEC Asia-Pacific Economic Cooperation ASEAN Association of Southeast Asian Nations ASIC Australian Securities and Investment Commission ATM automatic teller machine BATs Baidu, Ali Baba and Tencent BIS Bank for International Settlements BMA Bermuda Monetary Authority BPNG Bank of Papua New Guinea BSBD basic saving bank deposit CARICOM Caribbean Community CBB Central Bank of Bahrain CBDC central bank digital currency CBK Central Bank of Kenya CCBGs Commonwealth Central Bank Governors CCP central counterparty CDR consumer data right CFT countering the financing of terrorism CGAP Consultative Group to Assist the Poor CPMI Committee on Payments and Market Infrastructures (BIS) CSD central securities depository DABA Digital Assets Business Act 2018 (Bermuda) DFAT Department of Foreign Affairs (Australia) DfID Department for International Development (UK) DFS digital financial services DIT Department for International Trade (UK) DLT distributed ledger technology ECCB Eastern Caribbean Central Bank ECCU Eastern Caribbean Currency Union x Abbreviations and Acronyms
EMI e-money issuer ESMA European Securities and Markets Authority EU European Union FCA Financial Conduct Authority (UK) FCP financial consumer protection FDC Foundation for Development Cooperation FIAU Financial Intelligence Analysis Unit (Malta) FMI financial market infrastructure forex foreign exchange FSB Financial Stability Board GAI generalised artificial intelligence GDP gross domestic product GDPR General Data Protection Regulation (EU) GFIN Global Financial Innovation Network GNP gross national product GPS Global Positioning System GPSDD Global Partnership for Sustainable Development Data GSMA Global System for Mobile Communications HFT high-frequency trading HKMA Hong Kong Monetary Authority HMRC Her Majesty’s Revenue and Customs (UK) IADB Inter-American Development Bank ICO initial coin offering ICT information and communications technology ID identity IDB Inter-American Development Bank IFC international finance corporation IMF International Monetary Fund IOSCO International Organization of Securities Commissions IP Internet Protocol ITAS innovative technology arrangements and services KYC know your customer KYCC know your customer’s customer LEI Legal Entity Identifier MAS Monetary Authority of Singapore MDIA Malta Digital Innovation Authority MFSA Malta Financial Services Authority xi
NBFI non-bank financial institution NI National Insurance NMSE nano and micro sector enterprise NPS Net Promoter® Score OECD Organisation for Economic Co-operation and Development P2P peer-to-peer PBD privacy by design PCS payments, clearing and settlement PESTLE political, economic, social, technological, legal, environmental [analysis] PIN personal identification number PIRI Pacific Islands Regional Initiative PMJDY Pradhan Mantri Jan Dhan Yojana [National Mission for Financial Inclusion] (India) PMLFTR Prevention of Money Laundering and Funding of Terrorism Regulations 2018 (Malta) PNG Papua New Guinea PPP public–private partnership PRC People’s Republic of China PSD2 revised Payment Services Directive (EU) QOS quality of service SCI SEPA credit identifiers SDGs Sustainable Development Goals (UN) SEPA Single Euro Payments Area SMEs small and medium-sized enterprises SSS securities settlement system SWIFT Society for Worldwide Interbank Financial Telecommunication SWOT strengths, weaknesses, opportunities and threats UBO ultimate beneficial owner UN United Nations USAID US Agency for International Development VC virtual currency VFA virtual financial asset VFA Act Virtual Financial Assets Act 2018 (Malta) VFA Regulations Virtual Financial Assets Regulations 2018 (Malta) WEF World Economic Forum
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Executive Summary
At the 2018 meeting of the Commonwealth Central Bank Governors (CCBGs), member countries recognised the growth and impact of technology-enabled financial services (fintech) on Commonwealth populations, and endorsed the development of a Commonwealth FinTech Toolkit.
The Governors noted demand for PART I Tech Topics improved technical guidance regarding In Part I, we look at the ways in which the implementation of fintech—an area emerging technologies are transforming with which many member countries are financial services. grappling. Acknowledging that some states are more advanced in this area than Chapter 1 Digital Financial Services others, the Governors noted that it would • Digital financial services (DFS) can be extremely useful for future action in this unlock productivity and investment, area if states were to share the lessons they reduce poverty, empower women and had learned. help governments to build stronger institutions with less corruption—all This Commonwealth FinTech Toolkit while offering a profitable, sustainable therefore includes: business opportunity for financial services providers. • a resource bank of material that covers: • Digital financial services can include ºº tech topics, such as artificial mobile services and other kinds of intelligence (AI), blockchain and digital service. cybersecurity; and • As well as new opportunities, DFS open ºº anticipated outcomes, such as up new risks and involve consumer greater financial inclusion; protection issues, of which regulators need to be aware and which they must • discussion of issues impacting on small address. nations and large nations; Chapter 2 Artificial Intelligence • discussion of regional concerns • Artificial intelligence is the technology (spanning Africa, the Americas, Asia that helps a machine to think like a Pacific and Europe); person.
• a framework for creating enabling • Artificial intelligence is already environments for fintech; and being deployed both within banks, to interface with consumers and • case studies of four innovative fintech businesses, and within government initiatives. itself. xiv Executive Summary
• Machine learning—a particular type priority action with the potential to of AI—has offered new opportunities progress many of the United Nations in financial services and shaped new Sustainable Development Goals offerings. (SDGs), including aspects such as social protection, the empowerment • Inevitably, however, with new of women and girls, financial inclusion, opportunity comes new risks and governance, digital development and regulators need to address these humanitarian assistance. proactively. • Analogue, paper-based identity Chapter 3 Blockchain and Financial systems are siloed and inflexible, Services exacerbating financial exclusion. Digital • Blockchain is a type of peer-to-peer identity systems remedy many of these (P2P) database that uses data ‘blocks’, effects. all of which update one another automatically as they grow, to build an • Experiments with digital identity immutable (permanent) record. are being conducted across the Commonwealth, with an emphasis • It is both more secure than other forms on federated (versus centralised) of database (because it is harder to approaches. insert bad data) and more user-friendly (because it makes it easier to access • Public consultation prior to introducing that data). a new identity system is key to its success. It allows users to make • As a distributed ledger technology valuable comment on the system’s (DLT), blockchain allows parties who design, and it builds their trust and do not necessarily trust each other to confidence in the system, which can co-operate towards shared outcomes, help to drive its adoption. which is useful in a number of financial services applications. Chapter 5 Big Data/Big Data Analytics • Big data/big data analytics is the • Central banks have both proposed lifeblood of AI, because it is what fuels and trialled a range of blockchain AI algorithms. experiments, ranging from land registry to introducing their own • Big data is evaluated in terms of its central bank digital currencies volume, velocity, variety, veracity and (CBDCs).1 value.
Chapter 4 Digital Identity • Financial institutions use big data/big • Digital identity is a keystone issue data analytics for activities ranging in helping an additional 1.1 billion from marketing to credit assessment. people—mostly in Africa and Asia—to access financial services. The World • Big data/big data analytics introduce Bank has highlighted the introduction new risks in financial services if not of robust, inclusive and responsible partnered with digital identity systems digital identification systems as a (see above) because their widespread xv
adoption could otherwise exacerbate Recommended actions include promoting financial exclusion. financial education and the role of financial literacy in developing financial health Chapter 6 Cybersecurity among the underserved to increase pull • Cybersecurity is a serious and from the demand side, and developing widespread challenge for financial incentives or a facilitative regulatory services, with significant impact on environment that encourages private both consumers and businesses. sector actors to invest in supplying a broader range of products. • Commonwealth member countries must invest in both technology and training. Despite the significant social and economic imperatives for women’s economic inclusion, • A disciplined cybersecurity gender issues are rarely, if ever, factored approach will look at systems, into national development strategies, people and processes, and the 2018 including national financial inclusion Commonwealth Cyber Declaration strategies. In addition, then, the design and enshrines these key principles.2 implementation of all of these strategies should be assessed through a ‘gender lens’. PART II Application and Action Having explored six of the key technologies Likewise, improved cross-border that shape fintech, we look in Part II at how transactions and trade both result from and member countries can use those technologies result in: to achieve their development goals. • lowered costs of remittances; Chapter 7 Policy Interventions and Outcomes • lowered costs of AML/KYC compliance; Three common policy objectives readily and illustrate the relevance and applicability of fintech. • more robust cybersecurity. Financial inclusion is both a result of and can result in: Over the longer term, a more ambitious effort towards these ends would be to create • stronger consumer protection; supranational government-sponsored identity registries. • lowered costs of complying with anti- money-laundering (AML) and know Finally, improved economic growth will not your customer (KYC) rules; only result from and in quicker transactions, but also facilitate the financial support • increased levels of financial and data of small and medium-sized enterprises literacy; (SMEs).
• inclusion of those with historically Indeed, the financing of SMEs remains one of marginalised identities; and the mechanisms with the most far-reaching potential to effect change at a societal level • lower rates of identity theft. and should be a priority for all central banks. xvi Executive Summary
Chapter 8 Considerations grouped the member countries of the Several demographic, economic and Commonwealth into four basic regions: geographic considerations must be taken Africa, the Americas, Asia Pacific and Europe. into account in applying the Commonwealth FinTech Toolkit. Chapter 9 Action Framework for Creating an Enabling Environment for Fintech Notably, the Commonwealth member Through consultation with the countries are diverse in terms of population Commonwealth Central Bank Governors size. (CCBGs), academics and subject-matter experts from the private sector, the Small nations benefit from agility in that Commonwealth has devised an ‘action they are able to make decisions swiftly framework’ outlining: and hence several Commonwealth countries have already embraced fintech. • how to build an effective national or While smaller developing economies regional fintech task force; have historically been limited by resource constraints, a new paradigm suggests that • the steps that governments and that population size may not be a constraint task force can take to create an enabling to digital transformation, as evidenced by environment for fintech and fintech the activities of The Bahamas, Barbados, applications, from first establishing Bermuda, the Eastern Caribbean Central context right through to public launch; and Bank, Mauritius, Singapore and others detailed in this report. Imagination, agility • the ways in which governments and and aspiration all may allow small states to other stakeholders can support one leapfrog others and become leaders in a another to build on success. new digital economic order. Chapter 10 Case Studies In fact, larger and wealthier nations in the The Commonwealth FinTech Toolkit Commonwealth may benefit from more closes with four case studies of fintech resources and/or larger populations across interventions promoting growth and which to amortise the costs of investment development. In doing so, it aims to highlight in new technologies, but larger nations are the sensitivity with which governments typically slower to make decisions and to should apply fintech in their own distinct implement solutions. Indeed, wealthier contexts. nations are more likely to have ‘legacy’ systems—that is, older technology that will The case studies are as follows. need to be upgraded or replaced if the nation is to take advantage of fintech. • Case Study 10.1 The Journey of Emerging Technologies: Blockchain in In addition, the needs of countries that Papua New Guinea neighbour one another may be shared, while they may differ from the needs of countries • Case Study 10.2 Pioneering Mobile in other regions. Money in Kenya
In discussing the specific issues and • Case Study 10.3 Digital Assets opportunities in each of these, we have Businesses in Bermuda xvii
• Case Study 10.4 Malta’s Support for or monetary authorities, but also for Virtual Financial Assets educating a wider array of colleagues in multiple government departments on the Dissemination and Future Work issues, risks and opportunities that fintech There is a significant opportunity presents. to build fintech capacity among the Commonwealth central banks. Around Endnotes three-quarters of those surveyed 1 For more in-depth guidance on digital expressed interest in training on the currencies, see Commonwealth Working Commonwealth FinTech Toolkit in both Group on Virtual Currencies (2019). digital and in-person formats, noting Regulatory Guidance on Virtual Currencies. Retrieved from https://thecommonwealth. preference for a blended learning approach. org/sites/default/files/key_reform_pdfs/ D16999_GPD_Virtual_Currncs.pdf Some organisations expressed belief 2 The Commonwealth (2018). Commonwealth that the Toolkit could be useful not Cyber Declaration. Retrieved from only for building the capabilities of core https://thecommonwealth.org/ fintech groups within the central banks commonwealth-cyber-declaration
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Introduction
The emergence in the past two decades of consumers, new capabilities that serve technology-enabled financial services (fintech) both consumers and businesses alike, new has wrought profound changes to the ecosystems that generate high-paying, production and delivery of financial services. high-value jobs within developing economies, Global investment has soared in recent and new ways of ensuring financial stability. years, fuelling the rise of offerings ranging from mobile financial services to blockchain At the same time, the Commonwealth infrastructure. recognises that with this new technology come new risks and new issues of consumer At their 2018 meeting, the Commonwealth protection. With a single swipe or a few Central Bank Governors (CCBGs) endorsed keystrokes, cyber thieves can steal huge the development of a Commonwealth FinTech sums, while hackers can access the Toolkit. The Governors noted demand for irrevocable identity information (such as improved technical guidance regarding the fingerprints) of 1 billion people. Hackers implementation of fintech—an area with can even co-ordinate cyber attacks across which many member countries are grappling. dozens of countries simultaneously, Acknowledging that some states are more increasing systemic risk globally. advanced in this area than others, the Governors noted that it would be extremely This Commonwealth FinTech Toolkit useful for future action in this area if states therefore includes: were to share the lessons they had learned. • a resource bank of material that covers: This Commonwealth FinTech Toolkit is a response to that request and was developed ºº tech topics, such as artificial with feedback from central banks and other intelligence (AI), blockchain and relevant government officials, as well as cybersecurity; and industry experts. ºº anticipated outcomes, such as The Toolkit aims to build the capabilities of greater financial inclusion; senior leaders and their teams, helping them to identify which policy interventions may • discussion of issues impacting on small make sense in a given context and then to nations and large nations; implement that decision. • discussion of regional concerns In particular, the Commonwealth is seeking (spanning Africa, the Americas, Asia to build capacity and offer technical Pacific and Europe); assistance to governments aiming to foster an environment enabling fintech innovation • a framework for creating environments at the same time as securing consumer that enable the development of fintech protection and financial stability. Numerous and fintech applications; and governments around the world are seeking to engage with the potential of fintech • case studies of four innovative fintech to offer new choices and better prices to initiatives.
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PART 1 Tech Topics PART 1 Tech Topics 4
Part 1 of the Commonwealth FinTech Toolkit rise to the fore in the next three, five or ten introduces in brief six disruptive technologies years and that its impact will be such that a that are transforming financial services and future version of this Toolkit might explain impacting on the lives of Commonwealth its relevance and a government’s likely citizens. response.
If they are to effectively design and deploy The working group also applied filters on policy and other interventions that enable dimensions including, but not limited to, the the development and application of fintech, maturity of the technology, its relevance, its government officials must understand— scale, and its potential impact on consumers, at a summary level—the nature of key businesses and financial systems. technologies that are categorised as fintech, and they must appreciate the potential In Part 1, discussion therefore focuses risks and opportunities that each of these on the following six key areas that the technologies offers. expert working group determined to be most relevant to Commonwealth member In arriving at the topics included in the countries in the immediate term: Toolkit, a working group of experts drawn from the Commonwealth central banks, • digital financial services (DFS) (Chapter large global banks, start-up companies and 1); non-profits, as well as representatives of the Commonwealth Secretariat, narrowed • artificial intelligence (AI) (Chapter 2); a list of more than 24 potential areas for discussion. • blockchain (Chapter 3);
The group set aside immature technologies • digital identity (Chapter 4); that have not yet attained critical mass or which are not ready to be rolled out at scale • big data/big data analytics (Chapter 5); in the developing world, such as quantum and computing or augmented reality. It is possible that one of these technologies will • cybersecurity (Chapter 6).. 5
Chapter 1 Digital Financial Services PART 1 6 Digital Financial Services Digital Financial Services
Key points
• Digital financial services (DFS) can unlock productivity and investment, reduce poverty, empower women and help governments to build stronger institutions with less corruption— all while offering a profitable, sustainable business opportunity for financial services providers.
• Digital financial services can include mobile services and other kinds of digital service.
• As well as new opportunities, DFS open up new risks and involve consumer protection issues, of which regulators need to be aware and which they must address.
1.1 Introduction non-mobile technologies such as Paytm, Digital financial services (DFS) are a vehicle which is used in India.1 that can help providers to overcome the barriers that leave 3.5 billion people 1.2 Context underserved or unserved by financial Any type of financial services should be services today, including by lowering the considered in the context of the financial costs of compliance with international services ecosystem. Professors Peter laws and regulation. While many DFS Tufano (Saïd Business School, University are delivered through mobile devices of Oxford) and Robert Merton (MIT Sloan and hence may be referred to as ‘mobile School of Management) have developed financial services’, the Commonwealth a functional explanation of how the global prefers to use the more comprehensive financial services ecosystem works, as set ‘digital financial services’ to also capture out in Figure 1.1.
Figure 1.1 The global financial services ecosystem.
Moving money from Paying for goods Moving money from today to tomorrow Managing risk and services tomorrow to today (saving/investing)
Decision support
Infrastructure
Rules of the game (laws, contracts, regulations)
Source: Adapted from D B Crane et al. (1995). The Global Financial System: A Functional Perspective. Boston: Harvard Business School Press. 7
Broadening access to finance through Figure 1.2 The dimensions of digital digital means can unlock productivity and financial services. investment, reduce poverty, empower women, and help governments to build Transactions stronger institutions with less corruption— all while offering a profitable, sustainable business opportunity for financial services Identity providers. The benefits of DFS for individuals, businesses and governments Systems have the potential to transform the prospects of developing economies.2 Source: D Shrier (2019). Digital Financial Services. University of Oxford, Women’s World Banking and Digital financial services can fill a gap left by Alliance for Financial Inclusion (AFI) Leadership and banks that are unable or unwilling to service Diversity Program for Regulators [Webinar]. those at the bottom of the wealth and income scales. They are often driven by non- A second simplified functional model is bank financial institutions (NBFIs) aiming to useful as we consider the ways in which offer the financially excluded an alternative financial services can be digitised. Figure 1.2 to cash as a means of payment and transfer.3 sets out three specific dimensions of the digital realm, disaggregating these layers Few people and small businesses in today’s from the broader context of the functional developing economies fully participate in model set out in Figure 1.1. the formal financial system. They commonly transact exclusively in cash, have no safe way These three foundational layers can help a of saving or investing money, and cannot central banker to understand readily where a access credit other than through informal particular DFS offering fits into the financial lenders and personal networks. Even those services ‘stack’. with bank accounts may have only limited product choice and face high fees. In more 1.3 Description developed countries where participation 1.3.1 The Core Elements of Digital Financial is wider, the banking experience has left Services many feeling unhappy and many financial We will now examine the core elements institutions have a customer satisfaction of DFS within the simplified three-layer rating—expressed as a Net Promoter® Score framework. (NPS)—that is negative. • Transactions At this layer, we are looking at the movement of money Using digital channels rather than bricks- from one person to another, from a and-mortar branches dramatically person to an organisation (such as a reduces costs for providers and increases bank, a company or a government), convenience for users, opening up from an organisation to a person, or access to finance for people at all income from one organisation to another. levels and even in remote rural areas. For businesses, financial services providers and • Identity An identity, in the context governments, digital payments and DFS can of DFS, is a model that uniquely erase inefficiencies and unlock significant represents an individual person or an productivity gains. organisation. Identities can comprise PART 1 8 Digital Financial Services
government-issued documents or corporate-issued identifiers, such as Dun & Bradstreet’s D-U-N-S® Identity is a Number (a unique nine-digit identifier for businesses) or the keystone issue Legal Entity Identifier (LEI) of legal entities participating in financial for financial transactions, as well as biometric inclusion. Some data, financial data and/or myriad other types of data. 3.5 billion people • Systems This layer refers to the infra- are underserved structure that underpins all DFS activities and it encompasses communications or unserved by networks, hardware, software and a wide range of other technologies. today’s financial
At the level of transactions, DFS have revolu- services providers, tionised payments, remittances and trans- and approxi fers. Payment transactions are perhaps the most common financial activity of any indi- mately 1 billion vidual and hence the entry point into financial services for millions. By lowering costs, DFS (largely women have enormous potential to broaden financial and children) have inclusion. Private companies such as M-Pesa and Bitpesa, both based in sub-Saharan no legal identity Africa, are introducing lower-cost, higher- throughput transactions and reducing cross- at all—a barrier to border remittance rates from 12–15 per cent to 1 per cent or less by replacing antiquated access of financial systems that have historically demanded services. layers of manual labour and rent-extracting intermediaries. Bitpesa, for example, has replaced the activities of Western Union with Bitcoin technology to manage and track the Identity is a keystone issue for financial movement of money from one account to inclusion. Some 3.5 billion people are another. For other market providers, mobile underserved or unserved by today’s financial financial services have empowered consum- services providers,4 and approximately 1 ers to interact with a human agent in real billion (largely women and children) have time—a hybrid DFS model that has helped to no legal identity at all5—a barrier to access overcome some mistrust of digital systems of financial services. In addition, small and by giving technology a human face. Devolving medium-sized enterprises (SMEs) may lack financial services even further, DFS has adequate corporate identity, and hence enabled peer-to-peer (P2P) payments sys- some 65 million formal micro businesses tems that eliminate some of the conventional or SMEs are underbanked or unbanked.6 functions of the banking system and hence Access to credit for consumers and small lower costs. businesses is intimately linked with identity; 9
a credit profile is a subset of the individual’s At a systems level, digital technologies or business’s identity attributes. It is an are helping to modernise activities in enhanced set of data that derives from various banking environments. New digital the actions of the consumer or business technologies are enabling improved security and it is tied to other identifiers such as across all dimensions of infrastructure and an individual’s National Insurance (NI) are narrowing the gaps between nations’ number or a company’s business identifier. capabilities. In some cases, those gaps are By feeding new forms of credit modelling large: some developing economies lack driven by alternative data, digital data even basic process flow systems for loans streams—including steams of transactions- and continue to progress loan applications level data—are enabling lending to a in hard copy, with inevitable negative broader audience. At the same time, data implications for cost and speed. New portability—driven by new open banking digital platforms support a transition that, regulations7—empowers consumers by accompanied by blockchain (see Chapter giving them control over their identity-linked 3), is seeing the costs of interbank transfers data (see Chapter 4 on digital identity).8 dramatically reduced and speed increased.
Four building blocks for effective DFS regulation
Based on its work in ten countries in Africa and Asia, the Consultative Group to Assist the Poor (CGAP)—a non-profit think tank—has identified four basic building blocks for creating an enabling and safe DFS regulatory framework.
• E-money issuance by non-banks A basic precondition to effective DFS is the licensing of institutions other than banks as e-money issuers (EMIs).
• Use of retail agents Retail agents make inclusive DFS possible and are therefore a key focus of enabling regulation. Providers use agents—third parties such as shops—to provide customers with easy access to financial services close to where they live, thus expanding their reach at relatively low incremental cost.
• Risk-based customer due diligence Because DFS are offered within the contexts of anti- money-laundering (AML) regulations and other policy measures countering the financing of terrorism (CFT), providers must take care to implement proportionate AML/CFT frameworks. Such frameworks use a risk-based approach to protect the integrity of the system while minimising the constraints on DFS outreach.
• Consumer protection To drive financial inclusion, DFS providers must prove themselves reliable and cultivate trust, and this in turn depends on effective financial consumer prtection (FCP).
Source: CGAP (2018). Regulation for Inclusive Digital Finance. Retrieved from www.cgap.org/topics/ collections/regulation-inclusive-digital-finance PART 1 10 Digital Financial Services
While most DFS at the transactions and of service (QOS) and risk management; identity layers are delivered through mobile and platforms, some are not. For example, in India, the Paytm is a type of automatic teller • develop AML and know your customer machine (ATM) that allows a consumer who (KYC) policies for use within the has neither a mobile phone or smartphone financial sector. nor access to the internet to transfer money, make bill payments and engage in In some cases, it may also develop and other financial services activities without implement interoperability standards visiting a bank. As such, the Paytm—a and policies, which aim to support a DFS form of DFS—is a vehicle for the financial ‘ecosystem’. The central bank or regulator inclusion of some of the poorest individuals may build or facilitate the building of an among Commonwealth member states. interoperable platform at national level or otherwise take steps to integrate e-money- 1.3.2 The Role of Central Banks in Digital based financial services providers and agent Financial Services networks working with e-money with more Government bodies in general—and ‘traditional’ financial services, such as those central banks in particular—have a crucial involving ATMs and card networks.11 role to play in the success or failure of the implementation of DFS in a country. Businesses and government leaders will need to make a concerted effort if we are to see The local regulatory environment within the potential benefits of DFS realised. Three which DFS are provided is said to be structural prerequisites will underpin any ‘enabling’ or ‘non-enabling’—terms first enabling environment: used by the Global System for Mobile Communications (GSMA), the industry’s • a widespread mobile and digital non-profit trade association.9 An enabling infrastructure; environment is one in which non-banks can independently provide DFS without needing • a dynamic business environment for to partner with a licensed bank.10 financial services; and
In most jurisdictions, a country’s central bank • DFS products that meet the needs of is its lead regulator on DFS. At a minimum, it individuals and small businesses in ways will: that improve on the informal financial tools they use today. • define criteria for the licensing and authorisation of DFS providers and 1.3.3 Examples of Digital Financial Services EMIs, as well as standards for agents; Several Commonwealth nations have had significant success in deploying DFS. • establish consumer protection mechanisms, including schemes The Bahamas safeguarding pooled funds and In May 2019, the Central Bank of The customer accounts; Bahamas entered into an agreement to deliver the first national digital currency • set out guidelines on the safety and by 2020. Its key collaborator was NZIA. soundness of services, and on quality io, alongside Singapore-based software 11
development firm Zynesis. Named ‘Project 25 per cent of the adult population. The Sand Dollar’, the Bank said that it intended 2017 Global Findex released by the World the initiative to be an ‘integrated, affordable Bank in April 2018 highlights this remarkable electronic payment system for all businesses achievement. and residents’. The Bank confirmed that the project would comply with local financial The Reserve Bank of Malawi played an regulations and provide equal access to important role in creating an enabling digital payments for the residents of the regulatory environment that fostered island country, reducing the costs of cash innovation and growth led by the private transactions and other services.12 sector. The Bank permits both banks and NBFIs to offer DFS. Parliament passed India critical laws in 2016, including the Payment Paytm is a digital payments platform that Systems Act, E-Transactions Act and enables online payments, as well as cash Communications Act, which have guided deposits via select banks and partners, into further development of the DFS market. In an integrated virtual wallet. Customers can September 2017, the Bank issued a directive then use the Paytm wallet to pay for goods mandating DFS interoperability and hence and services such as travel fares and hotel Malawi has now delivered a reality for bookings, cinema visits, recharging a mobile multinational organisations of which many phone and paying utility bills, as well as online countries can still only dream.15 shopping. The funds held in the wallet are protected under escrow—a type of account Nigeria from which funds are released only once an According to the World Bank’s World agreement is fulfilled.13 Development Report 2016, Nigeria’s 2012 Growth Enhancement Support Scheme Kenya introduced mobile technology to transfer M-Pesa and similar DFS are indicative fertiliser subsidies directly to farmers, of a mobile banking revolution in Kenya: taking the government out of the business financial institutions have embraced M-Pesa of procuring and distributing fertiliser. as a platform on which to manage micro The Scheme now helps up to twice as accounts, to build customer deposits and to many farmers at a sixth the cost of the broaden their customer networks. Kenya has government’s former mechanisms. The therefore emerged as a leader in financial transfer system relies on a database of more inclusion in sub-Saharan Africa. In 2006, than 10.5 million farmers, who, as registered just before the launch of M-Pesa, only 26.7 recipients of the subsidies, now have a better per cent of Kenyans had access to formal chance of accessing formal or regulated financial services (such as bank accounts and financial services. Based on this initial money transfers); this figure now exceeds 80 success, the system is expanding, with the per cent (see Case Study 10.2).14 help of a digital identity system and biometric signatures, to extend the reach of financial Malawi services into Nigeria’s more remote rural Since launching its first mobile money pilot in areas.16 2012, Malawi has seen the number of people using DFS as of June 2018 leapfrog from United Kingdom 1,000 active users to 2.3 million (measured in At digital bank Monzo, chief executive officer a period of 90 days)—a figure that represents Tom Blomfield and his team are harnessing PART 1 12 Digital Financial Services
technology to authenticate and provide basic bank accounts for people who have been granted asylum in the UK. Blomfield has To advance suggested that better digital identification in the UK could help to reduce the cost of inclusive policy providing financial services to disadvantaged groups. outcomes, we must take a holistic At OakNorth Bank, co-founder Rishi Khosla is using machine learning to apply lending systems view of techniques formerly limited to large business to underserved SMEs. By drawing on shared DFS that spans public data (with permission), such as tax and supports returns, OakNorth is helping to unlock savings for small businesses.17 interdependent
Zambia technologies and The Zambia National Commercial Bank (Zanaco) has invested in a distinctive brand services. for financial inclusion. In 2008, the Bank successfully launched Zambia’s first mobile banking service, Xapit. Opening a Xapit includes access to information and communi- account takes only minutes, and it allows cations technology (ICT) among its targets.19 consumers to access credit and other Even though every 10 per cent increase in banking services over a mobile phone. internet penetration sees gross domestic Targeting Zambia’s underbanked markets, product (GDP) increase by 1.35 per cent,20 the Xapit now serves more than 200,000 world seems stuck at around 54.8 per cent customers and conducts more than 1 million connectivity, with a slowing growth rate (2.9 transactions per month. Xapit users include per cent in 201921) inhibiting the potential for other Zanaco customers that have easy financial inclusion. Some 3.8 billion people still access to the product through their savings lack access to fast and/or reliable internet, and current accounts.18 making it difficult to deliver financial services digitally.22 And the issue is gendered, with the 1.4 Key Considerations for Future GSMA finding that 313 million fewer women Development than men are using mobile internet in low- and 1.4.1 Critical Issues in and Obstacles to middle-income countries.23 Digital Financial Services Several critical issues have arisen in the past To advance inclusive policy outcomes, we several years as DFS have been adopted must take a holistic systems view of DFS more widely. that spans and supports interdependent technologies and services. For example, Digital Inclusion Africa should be home to more than 700 Digital inclusion drives financial inclusion, but million smartphones by 2025—up from 302 digital exclusion remains so significant a prob- million in 201824—but if access to power and lem globally that one of the United Nations access to bandwidth remain limiting factors, Sustainable Development Goals (SDG 9) DFS efforts will fail. 13
Rising Usury of identifying an individual that actively Despite these lofty goals, DFS platforms improve on current methods and which are have come under criticism as imposing a more secure. Governments are exploring ‘poor tax’ in the form of the high interest these and alternative methods of identifying rates charged to people with low incomes individuals digitally. in comparison with those granted to the wealthy and financially secure. In an era of Privacy historically low (in some cases, negative) Importantly, the ability to access alternative interest rates in developed nations, why data opens up new issues of digital privacy, is it that developing economies and with personal data stripping citizens of underbanked/unbanked populations remain anonymity. Telecommunications and able to access only high-cost loans? Yet, bank datasets may even be misused, in some countries, policy initiatives aiming breaching personal privacy or targeting to cap interest rates have had unintended groups negatively on the basis of protected consequences, limiting the capacity of characteristics, such as race, gender or companies to compete and leading several religion. In recent years, we have heard players to abandon those markets as much about the part that analysis of this unsustainable economically. type of data has played in manipulating voters during elections, and while Economists argue over solutions. A 2018 supranational data protection legislation study of developing nations found that, of such as the European Union’s General the 69 studied, 51 had imposed interest rate Data Protection Regulation (GDPR) aims caps.25 The rationale offered is typically to to secure personal data and model best protect consumers from usury, to improve practices for its use, domestic regulators access to credit and to reduce costs to may struggle to apply it.27 consumers. Leora Klapper of the World Bank points out the unintended adverse Cybersecurity consequences of interest rate caps and In Figure 1.3, we look at the simplified three- instead advocates for policy tools such as layer model of the DFS realm that we set out fostering competition, reducing the cost in Figure 1.2 through a cybersecurity lens. of funds to lenders and so on, echoing sentiments dating back to Milton Friedman.26 At each layer of the DFS stack, new vulnerabilities arise. Know Your Customer (KYC) One challenge that links with identity relates • At the level of transactions, we see the to KYC regulations. The rules currently risk of transaction fraud. require that a customer be tied to a physical address—but even those who have no • The identity layer is exposed to the risk fixed address may need to access financial of identity theft. services. • Interoperable and easily accessed In a positive step towards financial inclusion, digital systems can be subjected to new technologies delivered by mobile phone systems hacks. can partner Global Positioning System (GPS) co-ordinates with device-acquired The downstream impacts should biometrics to provide high-resolution means cybersecurity risks manifest can be serious. PART 1 14 Digital Financial Services
Figure 1.3 The cybersecurity risks of digital financial services.
Transactions Fraud Transactions
Identity Theft Identity
Systems Hacks Systems
Source: D Shrier (2019). Digital Financial Services. University of Oxford, Women’s World Banking and Alliance for Financial Inclusion (AFI) Leadership and Diversity Program for Regulators [Webinar].
At a personal level, rising fraud and identity • invest in modern technology theft rates can reverse rising financial inclusion. infrastructure; For example, false decline rates are highest in emerging markets such as Bangladesh, • shape policy interventions that engage sub-Saharan Africa, Colombia and Mexico: 50 and empower the private sector; and per cent or more of transactions are declined simply because fraud systems are unable to • protect consumers in light of the determine whether the transaction originates sophisticated effects of different DFS with a legitimate customer or a hacker. At a offerings. systemic level, hackers undermine confidence in the banking system. (See Chapter 6 on The rise of non-traditional providers of cybersecurity for more detail.) services such as money transfers, savings and lending is a characteristic of DFS that Financial Literacy gives rise to some concerns.28 Limited levels of financial literacy may limit the adoption of DFS. In interviews, One concern is that traditional financial central banks revealed that consumers regulation does not always cover these in their countries commonly questioned companies or holds them to a different new offerings. Some of those currently (reduced) standard, even though they can underserved or unserved simply do not scale up quickly. To some extent, these understand the benefit of a savings account problems mimic the ‘shadow banking or a credit facility—and the necessary problem’ that preceded the global financial remedy is investment in financial literacy. crisis and hence regulators are exploring a shift from regulating entities to regulating 1.4.2 Future Opportunities for Digital activities. Financial Services Digital financial services have the potential to Another concern is that digital finance is be a powerful tool for inclusion and improved drawing large numbers of people into the economic velocity. A systems view of DFS financial system for the first time. This should include efforts to: has consequences should they not be financially literate, and hence DFS efforts • improve financial literacy; must be partnered by consumer education 15
and consumer protection, including the processing electronic financial transactions promotion of fraud prevention, dispute have been exposed to cyber attacks. resolution mechanisms and data privacy. The theft of credit card information from retailers at scale has highlighted the stakes A third concern is that financial innovation and banks have been at the forefront of could pose a systemic risk to a country’s efforts to develop secure transaction banking sector, involving any and all of credit, processes. Larger financial institutions have liquidity, operational and consumer risk. the resources and knowhow to upgrade Prudential regulation of DFS reduces these online and mobile security continuously, risks, but it may involve high compliance with tools such as encryption or strong costs that are barriers to entry and thus to authentication, but smaller banks and NBFIs competition. For example, concerns were may be more at risk. raised about the risks that Bitcoin posed to the banking system, but the Bank of Perhaps the most significant concern to be England’s analysis suggested that most digital overcome is that systemic risk—the risk of a currencies play too small a role (at present) loss of trust in digital financial systems—may to threaten financial stability.29 A greater hinder further innovation in the sector. concern may be that financial innovations create distortions in financial markets that Endnotes could have larger implications. For example, 1 Sharma R (2016). ‘What Is Paytm, and How to if automation and ‘big data’ approaches were Use Paytm Wallet?’ Gadgets360, 13 December to make it easier to issue consumer credit [online]. Retrieved from: https://gadgets.ndtv. but not commercial credit, then financial com/apps/features/what-is-paytm-and-how- institutions might over-allocate to the former, to-use-paytm-wallet-1625271 potentially creating a credit bubble and 2 McKinsey & Co. (2016). Digital Finance for reducing the credit available to investments All: Powering Inclusive Growth in Emerging that increase productivity. Economies [online]. Retrieved from: www.mckinsey.com/~/media/McKinsey/ Featured%20Insights/Employment%20 Moreover, while the Bank of England may and%20Growth/How%20digital%20 have dismissed the systemic risks posed finance%20could%20boost%20growth%20 by Bitcoin, it was more concerned by the in%20emerging%20economies/MGI- advent of multinational digital currency Digital-Finance-For-All-Executive-summary- Libra, proposed by a private consortium September-2016.ashx of companies led by Facebook, and by the 3 Perlman L, Wechsler M (2019). ‘Mobile digital yuan, or e-RMB, issued by the People’s Coverage and Its Impact on Digital Financial Bank of China. In August 2019, outgoing Services’. SSRN Electronic Journal [online]. Bank of England Governor Mark Carney Retrieved from: https://dfsobservatory.com/ called for a digital currency backed by several sites/default/files/Mobile%20Coverage%20 countries that would address rising concerns and%20its%20Impact%20on%20 Digital%20Financial%20Services%20-%20 around these two digital currencies and the PUBLIC.pdf hegemony of the US dollar.30 4 Aggarwal R et al. (2017). Blockchain and Financial Inclusion: The Role Blockchain Finally, the spread of DFS gives rise to Technology Can Play in Accelerating Financial concerns about increased fraud in the Inclusion [online]. Retrieved from: https:// financial system. As financial institutions digitalchamber.org/assets/blockchain-and- have digitised, they and other sectors financial-inclusion.pdf PART 1 16 Digital Financial Services
5 World Bank (2018). Global ID4D Dataset what-is-paytm-and-how-to-use-paytm- [online]. Retrieved from: https://id4d. wallet-1625271 worldbank.org/global-dataset 14 Ndung’u N (2017). ‘M-Pesa: A Success 6 International Finance Corporation (2017). Story of Digital Financial Inclusion’ [online]. MSME Finance Gap: Assessment of the Retrieved from: www.geg.ox.ac.uk/sites/geg. Shortfalls and Opportunities in Financing bsg.ox.ac.uk/files/M-Pesa%20-%20a%20 Micro, Small and Medium Enterprises in success%20story%20of%20digital%20 Emerging Markets [online]. Retrieved from: financial%20inclusion%20-%20Njuguna%20 www.ifc.org/wps/wcm/connect/03522e90- Ndung%E2%80%99u.pdf a13d-4a02-87cd-9ee9a297b311/121264- 15 United Nations (2018). ‘Exciting WP-PUBLIC-MSMEReportFINAL. Changes in Malawi DFS Market’. UNCDF pdf?MOD=AJPERES&CVID=m5SwAQA Blog, 28 December [online]. Retrieved 7 Zachariadis M, Ozcan P (2017). ‘The API from: www.uncdf.org/article/4270/ Economy and Digital Transformation in exciting-changes-in-malawi-dfs-market Financial Services: The Case of Open 16 World Bank (2016) World Development Report Banking’. SWIFT Institute Working Paper 2016: Digital Dividends [online]. Retrieved No. 2016-001 [online]. Retrieved from: from: www.worldbank.org/en/publication/ https://papers.ssrn.com/sol3/papers. wdr2016 cfm?abstract_id=2975199 17 Van Steenis H (2019). Future of Finance: 8 Chakravorti B (2020). ‘Why It’s So Hard for Review on the Outlook for the UK Financial Users to Control Their Data’. Harvard Business System—What It Means for the Bank of England Review, 30 January [online]. Retrieved from: [online]. Retrieved from: www.bankofengland. https://hbr.org/2020/01/why-companies- co.uk/-/media/boe/files/report/2019/ make-it-so-hard-for-users-to-control-their- future-of-finance-report data. See also Hardjono T, Shrier D L, Pentland 18 Accenture, CARE International (2015). Within A (2019). Trusted Data: A New Framework for Reach: How Banks in Emerging Economies Identity and Data Sharing. MIT Press. Can Grow Profitably by Being More Inclusive 9 For the GSMA view, see di Castri, S (2013). [online]. Retrieved from: www.accenture. Mobile Money: Enabling Regulatory Solutions com/_acnmedia/accenture/conversion- [online]. Retrieved from: www.gsma.com/ assets/dotcom/documents/global/pdf/ publicpolicy/wp-content/uploads/2013/02/ dualpub_23/accenture-banking-withinreach. GSMA2013_Report_Mobile-Money- pdf#zoom=50 EnablingRegulatorySolutions.pdf 19 United Nations (2015). Sustainable 10 Perlman, L (2015). An Introduction to Development Goal 9 [online]. Retrieved from: Digital Financial Services [online]. Retrieved https://sustainabledevelopment.un.org/sdg9 from: www.academia.edu/39099268/An_ 20 Minges M (2016). ‘Exploring the Relationship Introduction_To_Digital_Financial_Services between Broadband and Economic Growth’. 11 Ibid. World Development Report 2016 Digital 12 Partz, H (2019). ‘Bahamas Central Bank Dividends Background Paper [online]. Enters Agreement to Deliver First National Retrieved from: http://pubdocs.worldbank.org/ Digital Currency by 2020’. Cointelegraph, en/391452529895999/WDR16-BP-Exploring- 29 May [online]. Retrieved from: https:// the-Relationship-between-Broadband-and- cointelegraph.com/news/bahamas-central- Economic-Growth-Minges.pdf bank-enters-agreement-to-deliver-first- 21 ITU (2019). ‘Global Internet Growth Stalls national-digital-currency-by-2020 and Focus Shifts to “Meaningful Universal 13 Sharma R (2016). ‘What Is Paytm, and Connectivity” to Drive Global Development’. How to Use Paytm Wallet?’ Gadgets360, Press release, 22 September [online]. 13 December [online]. Retrieved from: Retrieved from: www.itu.int/en/mediacentre/ https://gadgets.ndtv.com/apps/features/ Pages/2019-PR16.aspx 17
22 United Nations (2017). The State of on the protection of natural persons with regard Broadband: Broadband Catalyzing Sustainable to the processing of personal data and on the Development [online]. Retrieved from: www. free movement of such data, and repealing itu.int/dms_pub/itu-s/opb/pol/S-POL- Directive 95/46/EC, 4 May 2016, OJ L 119/1. BROADBAND.18-2017-PDF-E.pdf 28 World Bank (2016). ‘Enabling Digital 23 GSMA Connected Women (2019). The Development: Digital Finance’. In World Mobile Gender Gap Report 2019 [online]. Development Report 2016 [online]. Retrieved Retrieved from: www.gsma.com/ from: http://documents.worldbank.org/ mobilefordevelopment/wp-content/ curated/en/896971468194972881/31043636 uploads/2019/02/GSMA-The-Mobile- 0_20160263021313/additional/102725-PUB- Gender-Gap-Report-2019.pdf Replacement-PUBLIC.pdf 24 GSMA Intelligence (2019). The Mobile 29 Canadian Press (2018). ‘Bank of England’s Economy: Sub-Saharan Africa 2019 [online]. Mark Carney Says Cryptocurrencies Retrieved from: www.gsmaintelligence.com/ Aren’t Financial State Risk, But research/?file=36b5ca079193fa82332d0906 Likely to Be Regulated’. The Star, 12 3d3595b5&download April [online]. Retrieved from: www. 25 Ferrari A, Oliver M, Ren J (2018). Interest Rate thestar.com/business/2018/04/12/ Caps: The Theory and the Practice. World Bank bank-of-englands-mark-carney-says- Policy Research Working Paper 8398 [online]. cryptocurrencies-arent-financial- Retrieved from: http://documents.worldbank. state-risk-but-likely-to-be-regulated.html org/curated/en/244551522770775674/pdf/ 30 Inman P (2019). ‘Mark Carney: Dollar Is Too WPS8398.pdf Dominant and Could Be Replaced by Digital 26 See, e.g., Friedman M (1980). Free to Choose: A Currency’. The Guardian, 23 August [online]. Personal Statement. New York: Harcourt. Retrieved from: www.theguardian.com/ 27 Regulation (EU) 2016/679 of the European business/2019/aug/23/mark-carney-dollar- Parliament and of the Council of 27 April 2016 dominant-replaced-digital-currency
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Chapter 2 Artificial Intelligence
4860_Ch02.indd 19 18-09-2020 20:46:14 PART 1 20 Artificial Intelligence Artificial Intelligence
Key points
• Artificial intelligence (AI) is the technology that helps a machine to think like a person.
• Artificial intelligence is already being deployed within banks, to interface with consumers and businesses, and within government itself.
• Machine learning—a particular type of AI—has offered new opportunities in financial services and shaped new offerings.
• Inevitably, however, with new opportunity comes new risks, and regulators need to address these proactively.
2.1 Introduction From a regulatory standpoint, it is helpful to Commercially scalable artificial intelligence think of major deployments of AI within: (AI) has become widespread over the past decade. The financial services sector • a supervised bank or non-bank financial adopted it quickly, and it has since created institution (NBFI); both opportunities and risks that central banks need to consider. There are several • the market (whether consumer- or implications for the use of AI within a business-facing); and central bank and for the adoption of AI by financial services institutions and in other • government, including the central bank. industries. We will look at these in brief, before considering the future of AI in digital financial 2.2 Context services (DFS). Artificial intelligence is a term we use to describe machines that can think in highly 2.3 Description sophisticated ways—ways that aim to imitate 2.3.1 Artificial Intelligence, Machine (or surpass) human cognition. Some notable Learning and Deep Learning examples of AI are Google’s DeepMind, IBM’s Machine learning is a subset of AI that Watson, Amazon’s Echo and Apple’s Siri. involves supplying machines with enough data that they can learn what it means or While AI is the superset, subsets of AI that learn to interpret it. This contrasts with we might hear discussed in relation to traditional computer programming, which financial services include applied AI (AAI), involves giving a computer a discrete set of generalised AI (GAI), deep learning and instructions that it simply follows (a ‘rules- machine learning. We will look closely at the based system’). The terms ‘AI’ and ‘machine last of these in the next section. learning’ can be confusing because they are
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often (incorrectly) used interchangeably. team approached its research by combining When banks or entrepreneurs, for example, machine learning with systems neuroscience talk about AI, they are usually talking about (a discipline that involves understanding how machine learning. neurons form networks). Unlike many other ‘guided’ AI systems, DeepMind is said to One example of machine learning is the natural learn only from experience and not to follow language processing that powers applications predefined paths, relying instead on general- such as Apple’s Siri, Amazon’s Echo, Google purpose learning algorithms. DeepMind and Home or Tesla’s Autopilot. By integrating vast other efforts such as Watson are starting to quantities of data about what people say and find their way towards broader applications. how they say it, the devices are able to interpret meaning and, for example, order a pizza when Figure 2.1 explains the relationships and we say the words ‘Order me a pizza’. differences between deep learning, machine learning and AI, and the evolution over time of By contrast, an example of a rules-based these different systems. system is the system underpinning self- driving vehicles. As Figure 2.1 explains:
Machine learning is something that we already • AI is the broadest possible category, encounter in a number of applications today. encompassing all efforts to make a Generalised AI, meanwhile, is still several machine imitate human thinking; years away, although great strides have been made. DeepMind, for example, grew out of a • machine learning is a subset, focused research effort at University College London’s on computers that can learn to Computational Neuroscience Unit. The imitate human thinking without being Unit’s goal was to ‘solve intelligence’ and the programmed specifically to do so
Figure 2.1 The relationship between AI, machine learning and deep learning.
ARTIFICIAL INTELLIGENCE Developing machines that emulate human behavior MACHINE LEARNING Computers that learn from data, without having to be speci cally programmed.
DEEP LEARNING AI that learns through layers of computation, typically in a neural network, which structurally resembles human cognition.
1950s 1960s 1970s 1980s 1990s 2000s 2010s 2020s
Source: D Shrier (2021). ‘The Convergence Revolution’. In D Shrier and A Pentland (eds). Global Fintech. Cambridge, MA, and London: MIT Press. Reproduced with permission of the author.
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(rather like how a human child learns extend credit responsibly to first-time language); and borrowers.
• deep learning is a special kind of If not properly trained or supervised, machine learning that can address however, machine learning systems can end more sophisticated types of problem up configured such that they further exclude and its work is much more accurate already-marginalised groups on the basis of if it has access to sufficiently large characteristics such as race or low incomes, 1 quantities of data. so deepening the divide that they have the potential to bridge. To militate against this 2.3.2 How is AI (Primarily Machine Learning) risk, regulators may require banks to submit Being Applied in Financial Services? to an annual algorithm audit, certified by We can examine the main applications a third-party firm, which should examine of AI in financial services and how those particular areas of compliance and risk. applications relate to the concerns of regulators by considering them in relation to the areas in which they are deployed. Within the Market (Consumer- or Business-facing) Within a Supervised Bank or NBFI Artificial intelligence systems offer Artificial intelligence—particularly machine numerous opportunities for inclusive learning—is streamlining financial services consumer and business financial services. infrastructures. Banks and NBFIs can use it For example, in Bangladesh, an effort is to assess risk, to monitor transaction flow, to under way to implement voice-enabled implement cybersecurity and even to make technologies, opening up access to financial critical decisions rapidly. Inevitably, however, services to that portion of the population each of these new applications involves whose literacy is poor. Teaching the machine potential new risks. Since, historically, many learning system to recognise numerous AI systems have operated as ‘black boxes’ local dialects and accents therefore means within which where and how they make training it in a local context. A speech decisions is obscure to the average human recognition engine trained only in received being, it can be difficult to audit those British English pronunciation, for example, decisions and attest to their compliance. would fail to meet local needs.
Some financial institutions have begun Large tech companies may lay digital to use algorithmic models to make identification and biometrics over AI pattern core lending decisions such as credit recognition systems, and this can create underwriting. If applied with care, this type issues in implementation. For example, of model creates an opportunity for the Google initially trained its facial recognition 3.5 billion people who are underbanked or algorithms—an expression of machine unbanked because machine learning can learning—largely on pictures of people of help to break the ‘credit trap’—that is, the European descent. When confronted with fact that an individual or business has to a photo of a person of colour, the systems demonstrate a credit history to get credit produced errors that did reputational in the first place. New models based on damage to the company—and unfortunately human behaviour and alternative datasets the steps it took to remedy the issue were are now making it possible for a bank to likewise controversial.
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When deciding on policy that will guide AI applications in DFS, it is therefore essential that regulators understand both the Artificial principles and the implementation of such systems. intelligence
Within Government, Including the Central systems could Bank help government The technology that financial services regulators use to manage processes such as regulators and monitoring compliance is known as regtech. Regtech has been lagging behind the fintech policy-makers to industry in several ways, but efforts are collect revenue, now being made to address this. Artificial intelligence systems could help government to monitor the regulators and policy-makers to collect revenue, to monitor the financial system, financial system, to to highlight or predict risk events, and in other ways to more readily accomplish their highlight or predict mission. risk events, and One area in which governments have been ... to more readily successful is in using large-scale datasets (including financial data) to develop and accomplish their implement government policy through efforts such as Data for Development and, mission. more recently, the Global Partnership for Sustainable Development Data (GPSDD). These initiatives saw government ministries assemble and sandbox large-scale datasets. Similarly, newer AI systems (whether They then invited hundreds of academic for credit or for other applications) will research groups from around the world to require a regulator to understand how develop insights into issues ranging from the algorithm arrives at its decisions inclusion to public health based on these if that regulator is to ensure that the datasets. application complies with relevant law and regulation. In fact, this form of ‘explainable 2.4 Key Considerations for the Future AI’ is a growing subset of the broader AI It is increasingly important to align the use commercial world. of AI with the values and cultural norms of any given country. Certain intrinsic Central banks and regulators will want to bias is built into any such systems, so it is increase the sophistication with which important to understand what this bias they approach AI. They should appoint is and how it intersects with legislative working groups to ensure that they stay and regulatory priorities. For example, all up to date with developments in the field, credit underwriting contains known bias and they should ideally train and employ that the regulator has deemed acceptable. in-house experts who know how to evaluate
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and monitor AI systems. There are also Endnote opportunities for governments to support 1 Mahapatra S (2018). ‘Why Deep Learning economic development and to stimulate over Traditional Machine Learning?’. Towards or focus industry activity in particular areas Data Science, 21 March [online]. Retrieved to encourage private industry to apply AI from: https://towardsdatascience.com/why- towards desired policy outcomes. deep-learning-is-needed-over-traditional- machine-learning-1b6a99177063
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Chapter 3 Blockchain and Financial Services PART 1 26 Blockchain and Financial Services Blockchain and Financial Services
Key points
• Blockchain is a type of peer-to-peer (P2P) database that uses data ‘blocks’, all of which update one another automatically as they grow, to build an immutable (permanent) record.
• It is both more secure than other forms of database (because it is harder to insert bad data) and more user-friendly (because it makes it easier to access that data).
• As a distributed ledger technology (DLT), blockchain allows parties who do not necessarily trust each other to co-operate towards shared outcomes, which is useful in a number of financial services applications.
• Central banks have both proposed and trialled a range of blockchain experiments, ranging from land registry to introducing their own central bank digital currencies (CBDCs).1
3.1 Introduction on Virtual Currencies in 2019, paying specific Disruption is rife in the financial services attention to issues of enforcement relating to sector. Nimble market entrants and rapidly criminal activity, taxation, financial products, penetrating technologies are challenging consumer protection and financial inclusion.2 consumer expectations of financial services delivery. As they gradually adopt blockchain In this chapter, we will use real-world technology, large financial institutions will examples to describe how the core features experience dramatic efficiency gains— of blockchain technology—such as security, and equally dramatic cost reductions and transparency, auditability and immutability reduced risk. on a peer-to-peer (P2P) network—are driving its adoption in the financial services Banks and central banks are the dominant sector and are likely to change the ways in players in exploring the potential of blockchain which we manage the recording, storage and to drive major institutional change in the transfer of digital assets. financial services sector. Blockchain can We will look at how blockchain technology eliminate redundant systems, automate is maturing alongside complementary processes, introduce new modes of technologies, such as artificial intelligence contracting and open business models, drive (AI) (see Chapter 2), the Internet of Things3 radical institutional cost reductions and capital and big data/big data analytics (see Chapter market restructuring, reduce risk, and ensure 5), to reach beyond financial processes alone. stable economic performance and compliance with international regulation. Recognising In the short-to-medium term, we can expect the value of these opportunities in relation to see blockchain applied to influence to digital currencies, the Commonwealth domestic and international monetary policy Secretariat published its Regulatory Guidance and to introduce new payment channels, 27
shifting financial services away from the dominant central bank model and helping to restructure debt burdens. With blockchain Some cash technologies providing secure data transfer and surveillance, the integration of will always remain complementary technology will provide new modes of identification, data structures and in circulation, management protocols, boosting investor but the concept and market confidence and reducing risk. Data that are more reliable will lead to more of ‘money’ in sustainable lending decisions and—with enforcement automated—improved debt the future will recovery, reducing debt-related costs and be very different burdens. from money as In the medium-to-long term, we can expect blockchain to facilitate a hyper-personalised we conceive of digital payments ecosystem, comprising programmable money—a vast suite of digital it now. currencies—underpinned by central bank digital currencies (CBDCs). While we might anticipate that some cash will always remain in circulation, the concept of ‘money’ in the • know your customer (KYC) and anti- future will be very different from money as money-laundering (AML) processes; we conceive of it now. • wholesale and retail CBDCs; and Since 2016, more than 200 banks and 40 central banks worldwide have experimented • improved data management and with blockchain. Also known as distributed information sharing. ledger technology (DLT), cases in point include applications targeting: The primary motivation behind efforts to develop and deploy DLT is its potential to reduce or even eliminate the operational • financial inclusion; and financial inefficiencies—or to smooth • payments efficiency; the other frictions—that result from current methods of storing, recording • payment system operations; and transferring digital assets throughout financial markets. • cyber resilience; Banks with experience of blockchain cite • trade finance; benefits such as: • the provision of Single Euro Payments • wide-ranging oversight of trade Area (SEPA) credit identifiers (SCIs); transactions, from trade to settlement; • bond issue and management; • reduced risks of discrepancy and • interbank securities settlement; delayed settlement; PART 1 28 Blockchain and Financial Services
• real-time access to a shared ledger among multiple stakeholders; Blockchain • automation of traditionally manual processes; is a secure,
• reduced reliance on external decentralised settlement networks; digital ledger of • efficiency gains in capital velocity; and data, organised into • reduced counterparty, market and blocks and linked credit risks. across a public, Blockchain is a secure, decentralised digital ledger of data, organised into blocks and private or federated linked across a public, private or federated cloud-hosted cloud-hosted network. A public blockchain (such as Bitcoin or Ethereum) may have network. millions of nodes authorising transactions on the network; a private or federated network may have as few as three nodes on the network. The number of nodes on others believe that effective real-world the network affects the transaction speed. applications of blockchain technologies are Public blockchains may consequently be still years away, the financial services sector criticised for slow throughput, because has already witnessed several significant potentially millions of computers on the early-stage developments. Indeed, while network must be co-ordinated. Instances of traditionally cautious, banking institutions institutional application therefore increasingly have been early adopters of blockchain centre on private and federated networks. technologies, incentivised by potential Popular blockchains in the financial services operational cost savings, competitive sector include Hyperledger, AWS, IBM, market positioning (particularly among Multichain, R3’s Corda, the Linux Foundation’s emergent and disruptive fintech start-ups), Hyperledger Fabric, J P Morgan’s Quorum and the potential for efficiency gains in or private configurations of the Ethereum capital markets. blockchain.
Blockchain’s proponents posit that DLT 3.2 Context could help to foster a more efficient and The transfer, trade and settlement of safer payments system, affect the way in payments, securities, commodities or which payment, clearing and settlement derivatives involves time-consuming (PCS) activities are conducted, and steps that are facilitated and overseen change the roles that financial institutions by financial intermediaries—also known and infrastructures play in the financial as financial market infrastructures services market—or even fundamentally (FMIs)—such as payment systems, change that market’s structure. While securities settlement systems (SSSs), 29
central securities depositories (CSDs) • settling high-value securities and central counterparties (CCPs). These transactions in minutes by reducing intermediaries provide services, manage paper-based processes; financial, operational and legal risks, and are responsible for good governance • reducing bond issuance and settlement structures for themselves, their customers from days to minutes; and the markets they serve. End users, • mutualising KYC servicing to reduce such as households and businesses, compliance costs; typically trust intermediaries such as banks and broker-dealers to store and maintain • efficiency gains in cross-border records of the users’ assets and then to transactions and verification; transfer those assets on the users’ behalf. • simplifying and improving foreign- When a user initiates a transaction, their exchange balance-sheet reconciliation; bank or broker-dealer will interact with one of these FMIs. • creating back-office business management efficiencies by using As transaction volumes have risen and smart contracts (i.e., self-executing market participants have become more computer programs with defined complex, frictions have emerged and business logics) to automate increased both the costs and the risks processes; and of transacting in financial markets. Such frictions, including operational and financial • providing secure interbank letters of inefficiencies, have prompted market credit efficiently using smart contracts, participants to seek solutions in areas such addressing issuesof data forgery.4 as payments, the transfer of money, cross- In any case, introducing new technology border trade and the trading of securities. in financial services often requires the Thus far, these solutions have comprised restructuring of markets (consider, either developing technology or changing for example, the radical difference the market structures, or a combination of both. internet has made to previously paper- The availability and maturity of technology based processes such as stock issue). The are key factors in determining which of the functionality of blockchain is therefore likely two will best address a particular friction or to reshape the architecture of financial inefficiency. markets by facilitating disintermediation and To date, blockchain—a nascent eliminating redundant processes. technology—has been piloted in cross- border transactions. Research by the World 3.3 Description Economic Forum also indicates proof of We can organise the applications of concept for forthcoming deployments in blockchain into three broad categories: financial services contexts, including: • the storage of digital records (identities, assets or voting rights); • establishing syndicated loan joint ventures to reduce transaction times; • the exchange of digital assets (via • providing utility settlement coins to direct P2P transactions that eliminate make clearing and settlement efficient; intermediaries); and PART 1 30 Blockchain and Financial Services
• the recording and execution of smart promotes reduced counterparty and market contracts. risk, and it supports efficient capital markets. If a shared, transparent ledger is populated The structure and functionality of the automatically with real-time financial data, blockchain network offers multiple investors can be assured of a prospect’s opportunities for cost savings in the creditworthiness and overall organisational financial services sector. The P2P network financial performance, enabling a swift disintermediates numerous parties response to collateral performance and responsible for processing and approving economic stability. Smart contracts and the registration and transfer of assets, and permissioned ledgers can thus provide the use of smart contracts automates these investors and creditors with unprecedented processes. confidence in data reporting and accuracy by enabling more accurate forecasting, Smart contracts are lines of code that execute improved risk management and sustainable automatically when certain conditions are financing, the impact of which contributes to met, which can eliminate time-consuming efficient securitisations and ratings. and costly manual processes, for example, by paying on a derivative when a financial Automated collection and reconciliation instrument meets a certain benchmark or of information, the reduced potential resetting the interest rate on a debt when it for human error and secure network reaches a certain balance. Smart contracts integrity can all increase stakeholder are already digital, yet Oracle’s external data faith in blockchain technology. In financial warehouses could automate them further, services, we see this trust emerging as even more transparently, for example, the technology matures from nothing by automatically calculating an interest more than a way of managing financial rate reset on a floating-rate mortgage. processes to become a way of resolving Accordingly, blockchain would reduce the economic policy concerns. In May 2019, associated costs of human resources and the Monetary Authority of Singapore— third-party professional support. It would Singapore’s central bank—and the Bank of reduce the need for financial analysts and Canada piloted a currency swap: the first lawyers, because blockchain-enabled smart successful trial between two central banks. contracts can assess delinquency rates, This activity repositioned DLT as not only compile monthly repayment reports and a reliable method of facilitating a near- trigger enforcement action where required instantaneous currency swap, but also a automatically. Indeed, in a 2017 report, tool with which to ensure that central banks Accenture found that repointed operational, inside and outside of the G20 can trust one risk and finance systems represent long- another. term return on investment in blockchain: investment banks report up to 70 per cent Blockchain also builds stakeholder trust in savings on central finance reporting and 50 collection and recovery. The immutability per cent in business operations such as trade of the data allows loan pools to be audited support, middle office, clearance, settlement and independently verified, using the digital and investigations.5 signature of the source provider as proof of authenticity and confirming compliance with In addition to these radical cost reductions underwriting guidelines. In the event that a for financial services firms, blockchain delinquency trigger is tripped, custody of a loan 31
on blockchain facilitates outreach to borrowers with smart contracts using a private in default and ensures that subsequent special Ethereum implementation. servicing complies with servicing guidelines. Furthermore, blockchain simplifies the • The People’s Bank of China announced enforcement of investors’ rights and protects the launch of a yuan-denominated asset values by immutably recording on blockchain-based CBDC in 2019, chain the beneficial owners of assets in every shortly after Facebook launched Libra. transaction—including ownership transfers— and hence building a comprehensive and Banking institutions are adopting blockchain secure ownership registry that ensures deals not only to drive interbank efficiency, but can be credit-positive. also to raise levels of financial inclusion. The National Bank of Cambodia, for example, Existing market participants, including large has implemented blockchain to provide financial institutions, are using blockchain access to retail banking for Cambodia’s to achieve these effects and to leverage underbanked, supporting interoperable retail competitive advantage. payments between citizens and businesses. By encouraging citizens to adopt bank • Provenance.io is the first blockchain accounts, the government is supporting to support the successful origination, individual savings, promoting financial financing and servicing of loan assets stability and supporting economic growth. on chain, permitting evaluation of real- time financial performance. Moreover, this rare instance of a national rollout of blockchain technology • The National Bank of Cambodia demonstrates the ability of technology to will use blockchain technology in its leapfrog traditional wholesale interbank national payments system in a full- processes, providing a highly efficient PCS scale deployment across 12 banks by process that other, similar countries in the the end of 2020. Association of Southeast Asian Nations (ASEAN) could easily replicate. The Bank • Globacap offers investment in of Thailand has launched its Scripless tokenised assets. The token’s smart Bond project: in a successful trial using contract automatically fulfils all legal HyperLedger Fabric, Thailand reduced to just and administrative requirements for 2 days a bond registration and issuance that the registration and transfer of assets. has traditionally taken 15 days.6
• The Commonwealth Bank of Australia, The Government of the People’s Republic in partnership with the World Bank, of China (PRC), meanwhile, caused both created Project BOND-I in 2018— interest and alarm in governmental, public the world’s first bond to be created, and private sector circles when it announced allocated, transferred and managed its digital yuan. To some extent, it was a through its life cycle using blockchain response to launch of the Facebook-backed technology. Libra project a few months previously7 and, with one of the world’s largest economies • In France, Project MADRE has now supporting a CBDC, we can expect replaced the centralised process for other governments to accelerate their own the provisioning and sharing of SCIs efforts in the near future. PART 1 32 Blockchain and Financial Services
3.4 Key Considerations for Future Because pilots often occur in countries Development whose domestic interbank payment With consumers becoming more digitally systems are already efficient, however, early aware and questions being asked about conclusions are that there is no significant the future of cash, new market entrants value in centring a CBDC on this goal alone— are challenging traditional expectations as the Bank of Canada’s Project Jasper, of bank-based service delivery. So-called the South African Reserve Bank’s Project programmable money may diversify the Khokha, and the European Central Bank range of currencies and shift the focus away and Bank of Japan’s joint Project Stella all from stalwarts such as the US, Canadian demonstrate. In a 2017 report, for example, or Australian dollar; CBDCs may become Dansmarks Nationalbank (Denmark’s central familiar as part of the financial services bank) explicitly noted its uncertainty that a ecosystem. CBDC would be of any benefit to Denmark’s existing payment solutions.8 Where Central bank digital currencies offer domestic interbank payment systems are benefits such as a resilient payment system not yet highly efficient, however, such as in and the potential to improve AML/KYC some developing economies, a CBDC has functionalities while reducing illicit activities. positive potential. There are, however, equally significant risks to CBDCs, including financial exclusion More broadly, some experts believe that we should populations not bridge the digital may see forms of CBDC facilitate alternative divide, financial instability as a consequence or bilateral international payments systems of bank disintermediation and new risks that operate outside the current dominant that may yet be unknown. There has models. A blockchain-based state currency consequently been a lot of research into could supersede the Society for Worldwide CBDCs and most early-stage pilots have Interbank Financial Telecommunication focused on their domestic use. (SWIFT) system, diversifying and moving international payment processes and Some of the central banks currently monetary systems away from the US dollar. considering digital currencies include:
• the Bank of Thailand, whose Project Inthanon is exploring how a CBDC can make interbank payments and liquidity Banking institutions management more efficient; are adopting • the Eastern Caribbean Central Bank, blockchain not only which is exploring DLT in the context of economic growth, payments system to drive interbank resilience and financial inclusion; and efficiency, but also • Sveriges Riksbank (Sweden’s to raise levels of central bank), which is investigating a blockchain-based digital krona as an financial inclusion. alternative to cash as the use of cash in Sweden declines. 33
In this way, a CBDC might offer states 2 Commonwealth Secretariat (2019). and financial actors more autonomy over Regulatory Guidance on Virtual Currencies international payments. For example, in [online]. Retrieved from: https:// February 2018, Venezuela allegedly issued thecommonwealth.org/sites/default/files/ its petromoneda (or petro) digital currency key_reform_pdfs/D16999_GPD_Virtual_ Currncs.pdf on NEM’s blockchain platform in a bid to 3 By the ‘Internet of Things’, we mean the attract government financing during rapidly informal network of connected electronic deteriorating domestic economic conditions devices that helps to provide us with and a plummeting bolívar, while China’s ubiquitous data about the world around us. digital yuan, today focused on M0 money 4 World Economic Forum (2019). Central Banks supply, could readily be expanded. Given and Distributed Ledger Technology: How Are China’s global importance as an economic Central Banks Exploring Blockchain Today? superpower, the digital yuan could be a ready [online]. Retrieved from: www3.weforum. vehicle to facilitate trade. org/docs/WEF_Central_Bank_Activity_in_ Blockchain_DLT.pdf Blockchain technology is therefore 5 Accenture (2017). Banking on Blockchain: A an ecosystem enabler—but it is not a Value Analysis for Investment Banks [online]. panacea: as it is implemented more widely, Retrieved from: www.accenture.com/_ complementary technologies will mature, acnmedia/accenture/conversion-assets/ dotcom/documents/global/pdf/consulting/ and blockchain will come to be only one accenture-banking-on-blockchain.pdf element in blended technology. 6 Bank of Thailand (2018). Project DLT Scripless Bond: Investing in Thailand’s Endnotes Future—Transforming the Securities Markets 1 For more in-depth guidance on digital Infrastructure with Blockchain [online]. currencies, see Commonwealth Working Retrieved from: www.bot.or.th/English/ Group on Virtual Currencies (2019). Regulatory DebtSecurities/Documents/DLT%20 Guidance on Virtual Currencies [online]. Scripless%20Bond.pdf Retrieved from https://thecommonwealth. 7 Baker P (2019). ‘Unlike Libra, Digital Yuan Will org/sites/default/files/key_reform_pdfs/ Not Need Currency Reserves to Support D16999_GPD_Virtual_Currncs.pdf; Boar C, Value: PBOC Official’.Coindesk , 23 December Holden H, Wadsworth A (2020). ‘Impending [online]. Retrieved from: www.coindesk. Arrival: A Sequel to the Survey on Central com/unlike-libra-digital-yuan-will-not-need- Bank Digital Currency’. Bank for International currency-reserves-to-support-value-pboc- Settlements (BIS) Papers No. 107 [online]. official Retrieved from www.bis.org/publ/bppdf/ 8 Danmark’s Nationalbank (2017). ‘Central bispap107.pdf; Ye C, Desouza K (2019). Bank Digital Currency in Denmark’. Analysis, ‘The Current Landscape of Central Bank 15 December [online]. Retrieved from: Digital Currencies’. Brookings, 13 December www.nationalbanken.dk/en/publications/ [online]. Retrieved from: www.brookings.edu/ Documents/2017/12/Analysis%20- blog/techtank/2019/12/13/the-current- %20Central%20bank%20digital%20 landscape-of-central-bank-digital-currencies/ currency%20in%2Denmark.pdf
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Chapter 4 Digital Identity PART 1 36 Digital Identity Digital Identity
Key points
• Digital identity is a keystone issue in helping an additional 1.1 billion people—mostly in Africa and Asia—to access financial services.
• Analogue, paper-based identity systems are siloed and inflexible, exacerbating financial exclusion. Digital identity systems remedy many of these effects.
• Experiments with digital identity are being conducted across the Commonwealth, with an emphasis on federated (versus centralised) approaches.
• Public consultation prior to introducing a new identity system is key to its success. This allows users to make valuable comment on the system’s design, and it builds their trust and confidence in the system, which can help to drive its adoption.
4.1 Introduction The World Bank estimates that there are more than 1.1 billion people globally who are unable to prove their identity with official documentation. As a result, they Digital identity lack access to financial services, health systems care, education and social services. Most of these people are in Africa and Asia.1 Global have the potential consulting firm McKinsey & Co. estimates that another 1 billion people have formal identity to allow more documentation (often referred to simply as ID) people to but cannot use it on digital channels, locking them out of the digital economy, while 45 per access basic cent of women over the age of 15 in low- income countries lack ID compared to 30 per services, cent of men.2 including financial The World Bank has highlighted the services, fuelling introduction of robust, inclusive and responsible digital identity systems as a economic growth priority action with the potential to progress many of the United Nations Sustainable and reducing Development Goals (SDGs), including human rights aspects such as social protection, the empowerment of women and girls, financial abuses. inclusion, governance, health care, digital development and humanitarian assistance.3 37
Global challenges such as the refugee other similar forms of ID can be, at the very crisis in Latin America, Europe and other least, inaccurate; at worst, it might be forged. regions, as well as the 3.5 billion people who There are also limitations to any form of are underbanked or unbanked because ID that relies on an address as evidence of financial services institutions cannot verify identity—especially in many developing their identity or assess their credit profile (an economies and rural areas, where people attribute of their identity), highlight the need with the same or similar names may live at for a viable identity solution.4 the same address.
These challenges inevitably result in the In the modern electronic era, it is becoming exploitation of those without legal ID and the increasingly difficult to prove that we are economic exclusion of those without legal who we say we are, even if we have ID. While ID. Moreover, the value that people add to some simple transactions do not require the an economy is lost when they have no ID or parties to verify each other’s identities, if a have ID but cannot use it on digital channels, person is to participate in modern society— giving the government no way of tracking and especially if they are to access financial their contributions. services—they need a verifiable form of identity. Digital identity systems have the potential to address these wide-reaching implications, 4.2.1 The Basic Functions of an Identity allowing more people to access basic System services, including financial services, fuelling The implications of today’s legacy ID economic growth and reducing human rights systems are wide-ranging, with differing abuses. McKinsey & Co. estimates that impacts on those who have no ID and those digital or electronic ID has the potential to who have ID that they cannot use digitally. add economic value of at least 3 per cent and potentially as much as 13 per cent of gross As Figure 4.1 outlines, an ID is one domestic product (GDP) by 2030.5 component of a system that:
4.2 Context • identifies an individual; In its simplest form, ID is supporting evidence that an individual is who they say they are. • authenticates that identity; and It has been suggested that the very first government-issued form of ID were the • grants (or withholds) access depending letters with which ancient Persian king on whether that individual is authorised Artaxerxes guaranteed prophet Nehemiah or eligible to participate in the activity safe passage to Jerusalem in 450bce. Later, they are requesting.7 in 1414, King Henry V granted ‘safe conduct’ documents in what is believed to be the first 4.2.2 The Flaws in Legacy Identity Systems form of ‘passport’.6 It is evident that current identity systems are broadly inefficient and often ineffective. The As the passport has developed, it has design of legacy systems is: continued—even in its most advanced form—to centre on evidencing identity in • document-based, making them face-to-face transactions. Moreover, it is cumbersome, as well as prone to human common knowledge that a passport and error and exploitation; PART 1 38 Digital Identity
Figure 4.1 The basic roles of an ID system.
Who are you? Are you who you claim to be? Are you authorised or eligible?
123
Identi cation AuthenticationAuthorisation
Checking speci c attributes to Establishing a person’s identity by Checking that a person is who they con rm whether or not a person is gathering and checking relevant claim to be based on evidence of authorised or eligible to identity information one or more personal details participate
Source: Adapted from World Bank (2019). ID4D Practitioner’s Guide [online]. Retrieved from: http://documents. worldbank.org/curated/en/248371559325561562/pdf/ID4D-Practitioner-s-Guide.pdf • siloed, storing identity information businesses cannot deliver to individuals discretely; and and populations;
• inflexible, with current forms of identity • compromised national safety and codified in documents that cannot security when nation-states are unable easily be adapted to meet modern to identity and manage the people transaction requirements.8 crossing their borders; and
Any new identity system, digital or otherwise, • issues of regulatory compliance for should address these shortfalls and their financial services and other businesses implications. that are required to adhere to anti- money-laundering (AML) or know your More specifically, inefficient and ineffective customer (KYC) rules. legacy systems leave behind those who have no formal ID, with profound impacts, Even those who have an ID but cannot including: use it digitally experience some of these impacts, including: • the economic exclusion of individuals and (sometimes large) groups of • exclusion from digital services when people; those services fail to recognise formal ID; • the exclusion of individuals and groups of people from basic services such as • exclusion from financial services where health care and social services; their ID does not meet AML/KYC requirements, which also strips the • the exclusion of refugees who often economy of the value that individual cannot relocate without formal ID; would otherwise add; and
• constraints on economic development • the costs of compromised or forged when financial services and other ID, which represent both personal 39
and financial risks for individuals and and it has been shown to be a unique, can render a cost to financial services reliable means of identifying an institutions and public services should, individual. This type of data includes for example, false ID be used to claim details such as locations visited and social services benefits. spending patterns, and using this data as part of identity is part of a growing 4.3 Description field known as behavioural biometrics.9 4.3.1 What is Identity in the Modern Era? We can conceive of identity as a series of It is now widely accepted that legal attributes attributes—physical, legal, electronic and and traditional forms of ID are flawed and behavioural—that combine to form a unique are open to abuse. While each of the above picture of an individual. attributes can be used individually to identify a person, they are more powerful and reliable • Physical attributes are the features when used in combination—and advances that identify an individual uniquely and in technology have allowed actors to explore are harder to forge or manipulate than their potential in relation to a new form of others. They include a person’s DNA, digital identity. as well as physical biometrics such as fingerprints and facial features. Recent 4.3.2 Digital Identity technological advances based on facial A digital identity can be defined as a set of recognition and scanning fingerprints digital records that verify that an individual have, however, proved to be easily is who they say they are and allow them to hacked. engage in transactions in the modern— digital—world.10 McKinsey & Co. benchmarks • Legal attributes are those associated with a ‘good’ digital identity as being: the ‘traditional’ forms of ID that are widely used globally, such as a driver’s licence • verifiable to a high degree of assurance; or passport. Increasingly, these forms of ID are now supplanted or augmented by • unique; and physical biometrics (see above). • established with an individual’s • Electronic attributes are those that consent. relate to the increasing amount of time individuals are spending online Digital identity systems have been trialled and on their mobile or smartphones. and implemented in, for example, India, They include details such as a person’s Estonia, the Nordic regions, Singapore and email address, social media accounts, Canada. India created the Aadhaar project online actions and Internet Protocol in 2009, which now covers an estimated (IP) address. Increasingly, advertisers 89 per cent of its population, while the and other parties are using individuals’ others have also all deployed formats of an IP addresses to track and trace electronic identity—or e-ID—system (see their online actions, which data the later in this chapter). advertisers then commercialise. 4.3.3 Digital Identity Technologies • Using behavioural attributes as a form The proliferation of mobile phone of identification is a recent technology technology is one of the most significant PART 1 40 Digital Identity
contributory factors in the development centres the user in the administration of their of digital identity. Among the data that our identity. Historically, an oligopolistic, corporate mobile phones gather is biometric identity entity might have expected to hold a user’s data. Biometric identity systems use facial personal data in a central database or data recognition, fingerprints, heartbeats, repository; now, a decentralised identity system speech patterns, walking patterns and will give the user absolute control over their own hand movements to build a picture of an identity data and the benefits to the consumer individual’s unique biometric attributes with are numerous. Not only is an individual granted which they can be identified.11 more insight into who is using or reviewing their personal information, but also they can The volume of data that is collected, exercise control over the financial or health available and shared through our mobile data that allows them to access better financial phones is vast, and the value of that data or health-care services, and they can even is growing—to such an extent that the take advantage of the ‘right to be forgotten’ World Economic Forum (WEF) considers enshrined in the General Data Protection personal data is be an emerging asset class.12 Regulation (GDPR) in the European Union While traditional identity attributes are (EU).15 commonly gathered in large databases that are vulnerable to hackers, as this sensitive personal data accumulates and new models aim to monetise identity data for the benefit, rather than the detriment, of individuals, The volume of data new technologies are solving new problems. Encryption secures that identity data, for that is collected, example, and tokenisation organises the available and shared attributes so that they can be managed and monetised more readily.13 through our mobile
We encrypt (encode) data by inputting it— phones is vast. together with another parameter (or ‘key’)— into an encryption algorithm (or ‘cipher’). The value of that There are two basic methods of encryption data is growing for securing data transmission: to such an extent • symmetric encryption, whereby a single key—a shared secret—is used to both that the World encrypt (encode) and decrypt (decode) Economic Forum information; and (WEF) considers • asymmetric encryption (also known as public key encryption), whereby a pair of personal data to be related keys are used—one to encrypt an emerging asset the data and the other to decrypt it.14 class. In that context and in light of data protection principles, self-sovereign ID is a model that 41
4.3.4 Introducing Digital Identity Systems adds complexity. Examples of this While it is clear that digital identity has the approach include SecureKey Concierge potential to remedy gaps in current legacy in Canada and NemID in Denmark (both systems, digital identity systems are not led by financial institutions), gov.uk’s without their risks. Such risks can include, Verify (launched by the public sector), among others: and Sweden’s BankId (a public–private partnership, or PPP). • stakeholders rejecting the technology because they do not trust it and they • Decentralised approach This type have been consulted only inadequately of entity would be part of an open— on its introduction; potentially blockchain (see Chapter 3)—network with no institutional • the technology being ineffective owners. The benefits of this approach because of inadequate planning; include centring the user’s control over • insufficient technical support or public the data and a minimised risk of abuse education to drive widespread adoption or manipulation by a central managing and facilitate efficient use; authority. However, such models remain in the early stages and have not yet been • unsustainable operations because of tested at scale, while there are security inefficient systems design and/or high challenges inherent to such a system. costs; and Examples include TUPAS in Finland • policy changes at a governmental level. (a private sector solution) and Solid, launched by Tim Berners-Lee in 2018.16 To mitigate these risks, large-scale digital identity projects may take one of three main With each of these approaches, the more approaches to governance. centralised the approach, the more cost- effective and easy it is to implement, but • Centralised approach Identity is the higher the degree of trust that the handled by a single (usually public) data-holding party must command.17 entity. This approach allows for streamlined decision-making and 4.4 Key Considerations for Future implementation, as well as high data Development aggregation capability, but positioning In looking to the future of digital identity the system with only one entity has and digital identity policy, some of the implications for risk, liability and cost. issues include stakeholder consultation and Examples of this type of approach are regulation. the digital ID programmes launched by India and Estonia. 4.4.1 Stakeholder Consultation Governments must take the needs of all • Federated approach In this stakeholders into account when developing model, a few entities establish a a digital identity policy. Public consultation formal digital identity network. This at the very outset of the project will be key approach spreads the cost and to building trust and buy-in, which user input mitigates the potential for abuse, on the system’s design can help to drive its but it does introduce the need for adoption and improve the overall success of co-ordinated decision-making, which the project. PART 1 42 Digital Identity
Among the parties with which government More broadly, legislation and regulation— must consult are citizens, private sector the legal framework at both national and stakeholders, civil society representatives supranational levels—is likely to prescribe and stakeholders within government itself. behaviours relating to digital identity that will include, for example, rules of issuance 4.4.2 Regulation and AML/KYC requirements in financial Given that a range of different attributes services. Remaining up to date with these constitutes digital identity, when developing and ensuring that any digital identity policies a digital identity policy it is also imperative and systems are compliant will be crucial to to consider how that personal information their success.22 is managed and how much control the user is given of that information. The GDPR is In the regulatory context and others, when the high-water mark of data protection and it comes to designing any digital identity privacy regulation, and policies covering data policy and system, interoperability—that protection and privacy should be measured is, how digital identity and aspects of digital against it.18 identity will be generated, managed and combined—is important. One example of an A useful tool in policy-making around digital effort to increase interoperability is the EU’s identity is privacy by design (PBD), which sets eIDAS Regulation, which ensures that people out seven foundational principles for user and businesses can use their e-IDs to access 19 privacy. Any public or private actor making public services across borders.23 policy or building digital identity systems should: 4.4.3 The Guiding Principles for Robust Digital Identity Policies and Systems 1. be proactive not reactive; The WEF outlines the following 2. lead with privacy; guiding principles to inform decision- making when developing robust and 3. embed privacy; value-adding systems and, in this case, policies. 4. retain full functionality;
5. ensure end-to-end security; • Social good The system should be available to all users and designed 6. maintain visibility and transparency; and to deliver maximum benefit to the widest possible range of stakeholders. 7. respect user privacy. It should be non-discriminatory and inclusive. In relation to the fifth principle, cybersecurity (see Chapter 6) is a key factor in developing • Privacy-enhancing User information a digital identity policy and system, and must be exposed to and shared with should underpin any new (and indeed legacy) only the right entities under the right security and legal frameworks.20 Encryption circumstances. is a critical aspect of cybersecurity in any system containing sensitive information.21 • User-centric Users must have We should assume that any system storing control over their own information and personal information will be subject to cyber be able to determine who holds and attack and encrypt that data accordingly. accesses it. 43
• Viable and sustainable The system 5 White O et al. (2019). ‘Digital Identification: must be economically sustainable and A Key to Inclusive Growth’. McKinsey.com, 1 resilient to shifting political priorities. April [online]. Retrieved from: www.mckinsey. com/business-functions/digital-mckinsey/ • Open and flexible The system must our-insights/digital-identification-a-key-to- inclusive-growth be built on open and flexible standards 6 Benedictus L (2006). ‘A Brief History of to allow scaling and development, and the Passport’. The Guardian, 17 November those standards and guidelines must [online]. Retrieved from: www.theguardian. 24 be transparent to stakeholders. com/travel/2006/nov/17/travelnews 7 World Bank (2019). ID4D Practitioner’s In all of this, one thing is very clear: capturing Guide [online]. Retrieved from: http:// the potential value of digital identity documents.worldbank.org/curated/ will demand careful system design and en/248371559325561562/pdf/ID4D- deliberate government policies if we are to Practitioner-s-Guide.pdf mitigate the risks.25 8 World Economic Forum (2016). A Blueprint for Digital Identity [online]. Retrieved from: www3. weforum.org/docs/WEF_A_Blueprint_for_ Endnotes Digital_Identity.pdf 1 World Bank (2017). ‘1.1 Billion “Invisible” 9 Schukai R, Chadwick S, Baker T (2017). People without ID Are Priority for New High ‘Who Are You? Defining Digital Identity Level Advisory Council on Identification for and Authentication Technologies’. Development’. Press release, 12 October Thomson Reuters, 28 June [online]. [online]. Retrieved from: www.worldbank. Retrieved from: https://blogs. org/en/news/press-release/2017/10/12/11- thomsonreuters.com/answerson/ billion-invisible-people-without-id-are- digital-identity-authentication-technologies/ priority-for-new-high-level-advisory-council- 10 World Economic Forum (2016). A Blueprint on-identification-for-development for Digital Identity [online]. Retrieved 2 McKinsey & Co. (2019). Digital Identification: from: www3.weforum.org/docs/WEF_A_ A Key to Inclusive Growth [online]. Retrieved Blueprint_for_Digital_Identity.pdf from: www.mckinsey.com/~/media/McKinsey/ 11 Glaser A (2016). ‘Biometrics Are Coming, Featured%20Insights/Innovation/The%20 Along With Serious Security Concerns’. Wired. value%20of%20digital%20ID%20for%20 com, 9 March [online]. Retrieved from: www. the%20global%20economy%20and%20 wired.com/2016/03/biometrics-coming- society/MGI-Digital-identification-A-key-to- along-serious-security-concerns/ inclusive-growth.ashx 12 World Economic Forum (2011). Personal 3 World Bank (2017). ‘1.1 Billion “Invisible” Data: The Emergence of a New Asset Class People without ID Are Priority for New High [online]. Retrieved from: www3.weforum.org/ Level Advisory Council on Identification for docs/WEF_ITTC_PersonalDataNewAsset_ Development’. Press release, 12 October Report_2011.pdf [online]. Retrieved from: www.worldbank. 13 World Bank (2019). ID4D Practitioner’s org/en/news/press-release/2017/10/12/11- Guide [online]. Retrieved from: http:// billion-invisible-people-without-id-are- documents.worldbank.org/curated/ priority-for-new-high-level-advisory-council- en/248371559325561562/pdf/ID4D- on-identification-for-development Practitioner-s-Guide.pdf 4 Chamber of Digital Commerce (2017). 14 Ibid. Blockchain and Financial Inclusion [online]. 15 Allen C (2016). ‘The Path to Self-sovereign Retrieved from: https://digitalchamber.org/ Identity’. Coindesk, 27 April [online]. Retrieved assets/blockchain-and-financial-inclusion. from: www.coindesk.com/path-self- pdf sovereign-identity; Regulation (EU) 2016/679 PART 1 44 Digital Identity
of the European Parliament and of the Council 21 World Bank (2019). ID4D Practitioner’s of 27 April 2016 on the protection of natural Guide [online]. Retrieved from: http:// persons with regard to the processing of documents.worldbank.org/curated/ personal data and on the free movement of en/248371559325561562/pdf/ID4D- such data, and repealing Directive 95/46/EC, Practitioner-s-Guide.pdf 4 May 2016, OJ L 119/1. 22 GSMA (2016). Regulatory and Policy Trends 16 McKinsey & Co. (2019). Digital Identification: Impacting Digital Identity and the Role of A Key to Inclusive Growth [online]. Retrieved Mobile: Considerations for Emerging Markets from: www.mckinsey.com/~/media/McKinsey/ [online]. Retrieved from: www.gsma.com/ Featured%20Insights/Innovation/The%20 mobilefordevelopment/wp-content/ value%20of%20digital%20ID%20for%20 uploads/2016/10/Regulatory-and-policy- the%20global%20economy%20and%20 trends-impacting-Digital-Identity-and-the- society/MGI-Digital-identification-A-key-to- role-of-mobile.pdf inclusive-growth.ashx 23 Commission Implementing Regulation (EU) 17 Ibid. 2015/1501 of 8 September 2015 on the 18 European Commission (2020). ‘Complete interoperability framework pursuant to Article Guide to GDPR Compliance’ [online]. 12(8) of Regulation (EU) No 910/2014 of the Retrieved from: https://gdpr.eu/ European Parliament and of the Council on 19 Deloitte, Ryerson University (2016). Privacy electronic identification and trust services for by Design: Setting a New Standard for Privacy electronic transactions in the internal market, Certification [online]. Retrieved from: www2. 9 September 2015, OJ L 235/1. deloitte.com/content/dam/Deloitte/ca/ 24 World Economic Forum (2016). A Blueprint for Documents/risk/ca-en-ers-privacy-by-design- Digital Identity [online]. Retrieved from: www3. brochure.PDF; Cavoukian A (2011). ‘Privacy by weforum.org/docs/WEF_A_Blueprint_for_ Design: The 7 Foundational Principles’. Internet Digital_Identity.pdf Architecture Board, March [online]. Retrieved 25 McKinsey & Co. (2019). Digital Identification: from: https://iab.org/wp-content/IAB- A Key to Inclusive Growth [online]. Retrieved uploads/2011/03/fred_carter.pdf from: www.mckinsey.com/~/media/McKinsey/ 20 GSMA (2016). ‘Digital Identity: Regulatory Featured%20Insights/Innovation/The%20 Trends and the Role of Mobile’. 3 November value%20of%20digital%20ID%20for%20 [online]. Retrieved from: www.gsma.com/ the%20global%20economy%20and%20 mobilefordevelopment/programme/digital- society/MGI-Digital-identification-A-key-to- identity/digital-identity-regulatory-trends- inclusive-growth.ashx and-the-role-of-mobile/ 45
Chapter 5 Big Data/Big Data Analytics PART 1 46 Big Data/Big Data Analytics Big Data/Big Data Analytics
Key points
• Big data/big data analytics is the lifeblood of AI, because it is what fuels AI algorithms.
• Big data is evaluated in terms of its volume, velocity, variety, veracity and value.
• Financial institutions use big data/big data analytics for activities ranging from marketing to credit assessment.
• Big data/big data analytics introduce new risks in financial services if not partnered with digital identification systems, because their widespread adoption could otherwise exacerbate financial exclusion.
5.1 Introduction are to ensure it is used only for positive ends, In all walks of life, individuals, organisations to enhance decision-making and to protect and governments rely on data to help them individuals’ rights. to make good decisions.1 In the last 30 years, vast amounts of data have come to 5.2 Context be collected on every possible aspect of The history of data analytics goes back to modern life and these large datasets are 18,000bce, with evidence that Palaeolithic now known as ‘big data’—a phrase that many peoples marked notches into sticks or people began to use a decade or two ago bones to keep track of and compare trading without fully understanding what it meant. activity and supplies. In 1663, John Graunt conducted what is believed to be the first While the amount of data collected and statistical analyses in trying to develop stored has increased exponentially, an early warning system for the bubonic development of the skills and technology plague.2 that allow us to analyse and use this data has gathered momentum more recently. Big In 1928, the method for storing information data is the lifeblood of artificial intelligence magnetically on tape was invented, which led (AI), for example. Without large datasets, AI later, in 1965, to the first large data centres. models and algorithms cannot be refined These were limited, however, by the fact that and function effectively or accurately. data was at that time recorded and stored in physical form. In 1996, shortly after the birth of With detailed data that touches on almost the internet, electronic storage became more every aspect of our lives never more cost-effective than paper storage, and in the readily available, we must be cautious early 2000s—as the capacity to store data of its potential to fuel both positive and skyrocketed and the need to adapt analysis to negative outcomes. Solid governance of the suit its volume and scope become obvious— collection and use of that data is critical if we the term ‘big data’ was coined.3 47
In 2010, chair of Google Eric Schmidt told compared with 4.4 zettabytes in 2013.5 A a conference that as much data was now zettabyte is a difficult measure to visualise: created every two days as had been created it is 270 bytes—or as much data as can be between the beginning of human civilisation stored on 250 billion DVDs. A gigabyte—1 and 2010.4 million bytes—is a common unit in measuring computing memory: it has been said that if In 2014, consultancy IDC projected that, each gigabyte in a single zettabyte were a globally, there would be more than 44 brick, those bricks would be enough to build zettabytes of data generated by 2020 258 Great Walls of China.6
As our ability to generate, collect and store information has grown, so has the potential for us to generate richer insights from this data. It has been clear that holding large and rich datasets alone are not an end in itself; the key to the value of data lies in its analysis.
There are three key terms that we can define meaningful insights and inform here. good business decisions.9
• Big data is used in many different • Data science is the field of studying ways—to refer to large datasets, and data. The goal of data science is to to refer to the exponential increase of improve decision-making through the data and availability of data in the world analysis of data.10 today.7 Big data is said to display the following ‘5Vs’. • Data analytics is the multidimensional field that uses mathematics, statistical ºº Volume Big data—the size of modelling and machine learning to find the dataset—has to be large. meaningful patterns in data.11 There is no set agreement on how large ‘large’ is; it is relative and it is As technology evolves, so does our ability ever increasing. to collect, store and analyse data—but all of these processes are dependent on advances ºº Velocity This refers to the speed in hardware and software development, at which data is collected and which act as the key enablers in a big data analysed. ecosystem.
ºº Variety With increasing volume While the positive implications of big data and velocity comes increased are vast, including enhanced decision- variety. A dataset with wider making, predictive technology and increased variety can lead to richer insights. profitability, the potential for abuse is equally apparent. One instance emerged when ºº Veracity This refers to the political consulting firm Cambridge Analytica quality of the data: is it ‘clean’ and was found to have misused individual data, accurate?8 mined from Facebook, during the 2016 US presidential elections.12 It is therefore ºº Value By this, we mean whether essential that any big data ecosystem also the data and its analysis lead to include measures to prevent such abuse. PART 1 48 Big Data/Big Data Analytics
5.3 Description The rise of behavioural analytics and social The application of big data across financial physics has fuelled a more robust approach services touches many aspects of our to alternative modelling based on big lives, ranging from payments, through data indicators to assess the likelihood of lending and investment decisions, to someone defaulting or repaying a loan. impact more broadly on how financial services markets function. This section will • Behavioural analytics is the study of present an overview of some of the relevant human behavioural data to identify technologies and applications that support meaningful patterns and draw the use of big data in these contexts. inferences or make predictions based on those patterns.16 5.3.1 Customer Segmentation and Personalised Marketing • Social physics applies the principles Big data offers financial and other services of physical sciences to study of how providers the ability to refine their customer groups of people make decisions by segmentation at a more granular detail than analysing how information and ideas 17 was previously possible. This allows them to flow from person to person. understand in detail what different customer segments need and it allows financial Both of these can be applied to improve not services organisations, such as credit card only credit scoring, but also fraud detection, companies, to offer personalised marketing identity verification, regulatory compliance and tailored discounts to their users.13 and enforcement, predictions of consumer behaviour, and stock trading and investing 5.3.2 Credit Assessment decisions. Big data has given rise to alternative credit models aiming to address the role of existing 5.3.3 Stock and Commodity Trading credit models in financial exclusion.14 Credit Big data and machine learning have assessment procedures have long relied significantly influenced stock and on regression analysis, which assumes that commodity trading. Not only does big one behaviour predicts another, such as data improve the likely outcomes of that companies and individuals who do not financial services for individuals, but also pay their loans on time will continue not to the application of AI technology to capital pay their loans on time. Alternative credit markets reduces the barriers to entry for assessment models are now emerging that many individuals and widens participation are based on an individual’s education level or in the market.18 These types of new trading the reputation of their school as an indicator technology have fuelled adoption of of whether or not they will default on a loan, electronic trading platforms and virtualised while others use social media analysis. trading environments19—although this is not without risk. For example, algorithmic These new models are not, however, without and high-frequency trading (HFT) have been their challenges. Not all data is reliable for known to cause flash crashes in the market, credit scoring, for example, and there are such as the 2010 US flash crash. currently gaps in the law governing these new models to ensure that they are, and In foreign exchange (forex) brokerage, are used in ways that are, accurate, fair and assessing risk is essential to successful transparent.15 operations. The broker must be able to see 49
data in real time and be alerted to specific minimise social loss by analysing a local preferences, market statuses, profit and property market to determine the most loss, exposure and market volatility. The marketable price at which a property will unified data that we can now gather from a sell quickly, allowing a debtor to avoid wide spectrum of resources (Web, mobile, insolvency.23 social, customer relationship management, affiliates, etc.) is the key to a holistic overview Big data also has the potential to underpin of platform performance on which managers productivity and release consumer surplus. can base their decisions.20 For example, McKinsey & Co. estimates that a retailer using big data can increase its 5.3.4 Regulatory Compliance and Fraud operating margin by more than 60 per cent, Detection while services enabled by personal-location For financial services organisations, data can allow consumers to capture regulatory compliance is a key priority that US$600 billion in economic surplus.24 typically involves significant amounts of paperwork, resulting in millions of user 5.4 Key Considerations for Future records. Machine learning and other AI Development technologies analyse this big data to It is important to view big data not in isolation detect compliance irregularities and even but as an ecosystem that includes the fraud more accurately and efficiently than various sources from which data is gathered, ever before. In some cases, it can detect the spaces in which this data is traded, the instances that would be beyond human analysis of that data and the decisions that capacity. For example, in 2017 Credit Suisse the analytics inform. reported a 45-fold increase in productive alerts resulting from its predictive Among the key considerations in these monitoring of transactions compared to the regards is data protection. While effective year before, and it measured resolution of AI systems of this type are dependent on the alerts as 60 per cent faster at a fraction personal data, users’ rights must remain of the historical cost.21 at the forefront of any policy governing big data. The leading example of regulation in Some large financial services providers, such this context is the General Data Protection as JP Morgan Chase, use big data/big data Regulation (GDPR) of the European Union analytics to detect fraud by analysing the (EU): a benchmark against which policies activities of their own staff, including not only covering data protection and privacy should internet search histories, but also personal be measured.25 Its basic principles include data including emails and call history. JP user control of their own personal data, the Morgan also applied big data in an optimised requirement that users explicitly consent real-estate price-determination model for to others using their data and a right to be use when selling property the bank acquired ‘forgotten’ (i.e., to request deletion of data).26 as collateral on loans that are now in default (see below).22 Policy considerations should also reinforce corporate responsibility for data 5.3.5 Other Contexts governance. Businesses that are collecting Other contexts in which big data can be data of any sort, but personal data in valuable include real-estate markets. With particular, are responsible—and should be big data/big data analytics, lenders can held accountable—for the security and PART 1 50 Big Data/Big Data Analytics
professionals is consequently a fundamental component of the big data ecosystem and Big data has an effective digital economy. the potential Finally, while availability and types of data vary from country to country and personal data to underpin varies according to demographics including age groups, income brackets, gender and productivity and geographic locations, any policies focused release consumer on big data in financial services or elsewhere must take care to bridge the digital divide. surplus. It is We must take care to ensure that big data applications and solutions do not exclude any estimated that a one or more groups, nor should we assume retailer using big that our findings are universally applicable unless proved to be so.30 data can increase its operating margin Endnotes 1 United Nations (2020). ‘Big Data for by more than 60 per Sustainable Development’ [online]. Retrieved from: www.un.org/en/sections/issues-depth/ cent. big-data-sustainable-development/index. html 2 World Economic Forum (2015). ‘A Brief History of Big Data Everyone Should Read’. legitimate use of this data. Any organisation 25 February [online]. Retrieved from: www. gathering, storing and/or managing data weforum.org/agenda/2015/02/a-brief- must therefore put sound data governance history-of-big-data-everyone-should-read/ 27 structures in place. 3 Ibid. 4 Ibid. Open data can therefore be contrasted 5 Adshead A (2014). ‘Data Set to Grow 10-fold with personal data. Open data is (a) publicly by 2020 as Internet of Things Takes off’. available and (b) licensed for reuse, and it ComputerWeekly.com, 9 April [online]. is ideally relatively easy to (re)use.28 Open Retrieved from: www.computerweekly.com/ data is available to researchers and other news/2240217788/Data-set-to-grow-10- organisations who will analyse it to extract fold-by-2020-as-internet-of-things-takes-off the most value. Clearly, therefore, this type 6 Barnett T Jr (2016). ‘The Zettabyte Era of data does not include personal data Officially Begins (How Much Is That?)’. Cisco and data scientists must take care when Blogs, 9 September [online]. Retrieved from: https://blogs.cisco.com/sp/the-zettabyte- selecting their sources. era-officially-begins-how-much-is-that 7 University of Wisconsin Data Science (2020). In fact, in 2019 it was estimated that while ‘What Is Big Data?’ [online]. Retrieved from: the number of trained data scientists https://datasciencedegree.wisconsin.edu/ was increasing, demand for these skills data-science/what-is-big-data/ 29 was growing even more rapidly. From 8 BBVA (2017). ‘The Five V’s of Big Data’. 8 May a policy perspective, the recruitment [online]. Retrieved from: www.bbva.com/en/ and development of skilled data science five-vs-big-data/ 51
9 Jain A (2016). ‘The 5 V’s of Big Data’. Watson 19 Deutsche Börse AG, Celent (2016). Future Health Perspectives, 17 September [online]. of Fintech in Capital Markets [online]. Retrieved from: www.ibm.com/blogs/ Retrieved from: www.deutsche-boerse. watson-health/the-5-vs-of-big-data/ com/resource/blob/37024/ed05521 10 Kelleher J D, Tierney B (2018). Data Science. 9caeb553f43950609d29e1bb3/data/ Cambridge, MA: MIT Press. future-of-fintech-in-capital-markets_en.pdf 11 SAS (2020). ‘Analytics: What It Is and Why 20 Levy T L (2017). ‘How Trading Companies It Matters’ [online]. Retrieved from: www. are Leveraging Behavioral Analytics to Win sas.com/en_us/insights/analytics/what-is- Conversions and Retention’. Datafloq, 20 July analytics.html [online]. Retrieved from: https://datafloq. 12 Malan D (2018). ‘The Law Can’t Keep com/read/trading-companies-leveraging- up with New Tech: Here’s How to Close behavioral-analytics/3442 the Gap’. World Economic Forum, 21 21 Credit Suisse (2017). ‘How Big Data Analytics June [online]. Retrieved from: www. Is Transforming Regulatory Compliance’. weforum.org/agenda/2018/06/ 30 November [online]. Retrieved from: law-too-slow-for-new-tech-how-keep-up/ www.credit-suisse.com/about-us-news/ 13 Kim S (2016). ‘Big Data Use Cases in Finance’. en/articles/news-and-expertise/how-big- Samsung.com, 6 September [online]. data-analytics-is-transforming-regulatory- Retrieved from: www.samsungsds.com/ compliance-201711.html global/en/support/insights/090617_Eng_ 22 Kim S (2016). ‘Big Data Use Cases in Finance’. BigData1.htm Samsung.com, 6 September [online]. 14 Pan W, Aharony N, Pentland A (2011). Retrieved from: www.samsungsds.com/ ‘Composite Social Network for Predicting global/en/support/insights/090617_Eng_ Mobile Apps Installation’. arXiv.org, 2 June BigData1.htm [online]. Retrieved from: https://arxiv.org/ 23 Ibid. abs/1106.0359 24 Manyika J et al. (2011). ‘Big Data: The Next 15 Hurley M, Adebayo J (2017). ‘Credit Scoring Frontier for Innovation, Competition, in the Era of Big Data’. Yale Journal of Law and and Productivity’. McKinsey.com, 1 Technology, 18(1) [online]. Retrieved from: May [online]. Retrieved from: www. https://digitalcommons.law.yale.edu/cgi/ mckinsey.com/business-functions/ viewcontent.cgi?article=1122&context=yjolt digital-mckinsey/our-insights/ 16 Biddle S (2019). ‘Thanks to Facebook, Your big-data-the-next-frontier-for-innovation Cellphone Company Is Watching You More 25 Allen C (2016). ‘The Path to Self- Closely than Ever’. The Intercept, 20 May sovereign Identity’. Coindesk, 27 April [online]. Retrieved from: https://theintercept. [online]. Retrieved from: www.coindesk. com/2019/05/20/facebook-data-phone- com/path-self-sovereign-identity; carriers-ads-credit-score/ Regulation (EU) 2016/679 of the European 17 Wladawsky-Berger I (2018). ‘Social Physics: Parliament and of the Council of 27 April Reinventing Analytics to Better Predict 2016 on the protection of natural persons Human Behaviors’. Wall Street Journal, 14 with regard to the processing of personal September [online]. Retrieved from: https:// data and on the free movement of such blogs.wsj.com/cio/2018/09/14/social- data, and repealing Directive 95/46/EC, 4 physics-reinventing-analytics-to-better- May 2016, OJ L 119/1. predict-human-behaviors/ 26 European Commission (2020). ‘Complete 18 Cuen L (2017). ‘Fintech is Rebuilding Capital Guide to GDPR Compliance’ [online]. Markets, from AI to Crowdfunding Startups’. Retrieved from: https://gdpr.eu/; Violino B International Business Times, 20 October (2019). ‘Get Ready for More Data Privacy [online]. Retrieved from: www.ibtimes.com/ Regulations’. ZDNet, 12 March [online]. fintech-rebuilding-capital-markets-ai- Retrieved from: www.zdnet.com/article/get- crowdfunding-startups-2559398 ready-for-more-data-privacy-regulations/ PART 1 52 Big Data/Big Data Analytics
27 Sohail O, Sharma P, Ciric B (2018). ‘4 Pillars to 29 LinkedIn (2018). LinkedIn Workforce Guide Data Governance for New Platforms’. Report: United States—August 2018 Wall Street Journal, 10 October [online]. [online]. Retrieved from: https:// Retrieved from: https://deloitte.wsj.com/ economicgraph.linkedin.com/resources/ cio/2018/10/10/4-data-governance-pillars- linkedin-workforce-report-august-2018 for-modern-data-platforms/ 30 Maaroof A (2015). Big Data and the 2030 28 Maaroof A (2015). Big Data and the 2030 Agenda for Sustainable Development Agenda for Sustainable Development [online]. Retrieved from: www.unescap.org/ [online]. Retrieved from: www.unescap.org/ sites/default/files/Final%20Draft_%20 sites/default/files/Final%20Draft_%20 stock-taking%20report_For%20 stock-taking%20report_For%20 Comment_301115.pdf Comment_301115.pdf 53
Chapter 6 Cybersecurity PART 1 54 Cybersecurity Cybersecurity
Key points
• Cybersecurity is a serious and widespread challenge for financial services, with significant impact on both consumers and businesses.
• Commonwealth member countries must invest in both technology and training.
• A disciplined cybersecurity approach will look at systems, people and processes, and the 2018 Commonwealth Cyber Declaration enshrines these key principles.1
6.1 Introduction • invest in better cyber solutions; Cybersecurity remains one of the major challenges for financial institutions around • regulate to protect consumer and the world. A lack of digital literacy and business data and assets, without underinvestment in technology systems has unduly restricting access; resulted in a weak cyber infrastructure that has • adopt harmonised, interoperable, seen not only hundreds of millions of pounds global standards; and stolen, but also billions of people’s personal information (including irreplaceable biometric • extend the rights of citizens offline into data files). their online experiences. The Commonwealth Secretariat issued 6.2 Context a Cyber Declaration at its Heads of More than 60 per cent of cyber breaches Government meeting in April 2018, result from human action, whether it be committing to a series of principles and accidental or malicious. Cybersecurity actions around cybersecurity. The major weakness is often a consequence of human thematic components of the Declaration error. were developing ‘[a] cyberspace that supports economic and social development Numerous Commonwealth countries have and rights online … [b]uild[ing] the experienced large-scale and significant foundations of an effective national cyber incidents in recent years, and the cybersecurity response … [and p]romot[ing] trend will accelerate as independent stability in cyberspace through international (criminal) cyber thieves and state-sponsored co-operation’.2 cyberterrorism and espionage become To address issues of cybersecurity, more sophisticated. Cyber attackers are governments must: taking advantage of advances in artificial intelligence (AI) and big data/big data • improve the digital capacities of analytics that rapidly outstrip the capabilities all government executives and of national systems. Highly sophisticated professionals; personality profiling and even ‘humint’ 55
(According to cyber expert Howard Shrobe of MIT, many devices still use old, unpatched More than 60 versions of Linux software—meaning that hackers can exploit a series of well-known per cent of cyber issues.) At the national level, some countries have failed to invest in upgrading computer breaches result systems within the financial services sector from human itself, which exposes core banking functions to serious risk and has resulted in attacks in action, whether which tens of millions of pounds are stolen in a matter of minutes. it be accidental or malicious. 6.2.2 Access Control When we speak of ‘access control’, we are Cybersecurity talking about controlling access by using aspects of identity. The three components weakness is often of access control are validation, verification a consequence of and authentication. human error. • Validation means making sure that the identity data given is real data, for example, that the National Insurance (NI) number given for an individual is not (i.e., human intelligence) on key targets have that of someone who is dead, or that an increased the level of risk. account number refers to a live account and not a closed account. Efforts to mitigate cyber risk have at times done more harm than good. For • Verification involves making sure that example, fingerprint and facial recognition the information given is genuinely are biometric forms of data that are associated with a specific person, for often perceived to be ‘stronger’ than example, that the date of birth and others—and yet they introduce new risks. home address given actually belong to If someone steals our password, we can that person, or that the account they change that password; if someone steals are trying to access is an account in our fingerprint file, we can do nothing to that name or to which that person has change our fingertips—and a hacker can legal access. use a 3D printer to recreate that print in minutes. • Authentication is the process whereby we determine that a particular 6.2.1 Device- and System-level Security individual is who they claim to be. Some hackers take advantage of poor discipline in relation to updating operating All three of these components are systems or implementing firewalls. As required for a secure identity scheme. low-cost internet devices proliferate, often Traditional access control—the type of with minimal or no cybersecurity, new security we commonly use to access our vulnerabilities are entering the system. accounts or computer systems—uses PART 1 56 Cybersecurity
elements such as a user name, a password annual basis, to identify vulnerabilities and/or a personal identification number and recommend remedies. (PIN) code. In the modern world, if people were to use a different password for every • Monitoring and intrusion account or system that they needed detection Systems focused on both to access, they would typically need to technology and processes must be remember 140–160 distinct passwords— put in place to trigger early alert of any and so the likelihood is that most cyber incident and swift response. For individuals will reuse passwords, set weak example, AI systems should be the first passwords or in other ways compromise line of defence and they should begin their online security. to manage risk as soon as an incident is detected. This might involve throttling 6.3 Description or controlling the pace of transactions, We can think through the elements of or requiring additional approvals before effective cybersecurity in terms of three key significant transactions or transaction factors: systems, people and processes. patterns can be processed. At all times, day and night, a responsible 6.3.1 Systems individual must be on hand to make On a systems level, cybersecurity decisions during a cyber incident. More architects will examine the various sophisticated systems can alert a bank components of a computer system and employee if they are looking at types of determine how each can be ‘hardened’ data, or at patterns of data, that could against breach or misuse. For example, be worthy of investigation. some breaches have seen large companies such as Facebook storing passwords • Penetration testing ‘White hat’ in plain text form. Encryption, which hackers should be engaged, ideally uses maths to make plain text or data monthly, to test government and unreadable, is one part of a robust private sector systems. They cybersecurity scheme and central should use both electronic tools banks can, for example, require that and software, as well as ‘social the commercial, retail and institutional engineering’, to identifyweaknesses banks under their oversight follow and suggest remedies. industry best practices. This will include encrypting data at rest and data in flight, 6.3.2 People including passwords and PIN codes, and Increased cybersecurity at a systems level annual certification by third-party firms, must be partnered with efforts to raise such as EY (formerly Ernst & Young), levels of digital literacy among central bank Deloitte, Accenture, IBM, TCS or other officials, as well as banking professionals consultancies. in the private sector. Cyber risk can be mitigated if professionals are more Good cybersecurity hygiene will also include aware, better disciplined and change their the following elements. behaviours when it comes to handling data. Given that human error is often at the root of • Vulnerability assessment An breaches of cybersecurity, ongoing training inventory of the core financial system is essential to instil good cyber hygiene should be conducted on at least an across all institutions. 57
6.3.3 Processes Tied to the culture shift needed among people is the design and implementation of Given that human better cyber processes that align behaviours with outcomes. This includes: error is often at the • identifying and eliminating redundant root of breaches processes; of cybersecurity, • regularly repeating activities to identify and remedy vulnerabilities; ongoing training
• steps to identify and manage areas is essential to vulnerable to human error; and instil good cyber • establishing formal mechanisms to hygiene across all identify new cyber threats and new cybersecurity technologies, and to institutions. rapidly respond to each.
6.4 Key Considerations for Future Development systems and facilitating financial inclusion via Commonwealth countries need to invest identity inclusion. significantly more in cybersecurity, given how vulnerable to attack the financial services One barrier to the broader implementation sector is, not only within the Commonwealth of improved cybersecurity is the absence but also globally. Cybersecurity is an area of standards in a number of mission-critical of technology in which we commonly areas. A consultative, multistakeholder underinvest, paying attention to it only process will help us to shape, implement and after the fact of an incident. With financial uphold such standards. services systems so highly interconnected, the risk that a breach in a country outside the Likewise, given that more than 60 per cent of Commonwealth would nonetheless impact cybersecurity breaches result from human on member countries is high. error or action, investing in digital literacy will help consumers and institutions, both We need approaches that are more private and public, to mitigate the risks. sophisticated. Strong cybersecurity can unlock meaningful opportunities for Endnotes countries, including financial inclusion and 1 The Commonwealth (2018). Commonwealth economic development, and it is inextricably Cyber Declaration. Retrieved from https:// linked with, for example, issues of digital thecommon identity. For example, verification and wealth.org/commonwealth-cyber-declaration authentication are critical to both securing 2 Ibid.
59
PART 2 Application and Action PART 12 Application and Action 60
People do not invest in technologies; services can help to promote they invest in solutions to their problems. development outcomes. Understanding the technologies is an important first step, but understanding how • Chapter 8 highlights the nuanced we can use those technologies to support considerations to which countries must development is how we complete the pay attention depending on their size journey. and/or region.
Having explored six of the key technologies • Chapter 9 outlines an action framework that shape fintech in Part I, this Toolkit for governments seeking to create an looks in Part 2 at how countries can use enabling environment for fintech and those technologies to achieve development fintech applications. goals. • Chapter 10 highlights case studies • Chapter 7 explores how disruptive from four countries of fintech technologies such as artificial initiatives successfully applied to tackle intelligence (AI) and/or digital financial development challenges. 61
Chapter 7 Policy Interventions and Outcomes PART 2 62 Policy Interventions and Outcomes Policy Interventions and Outcomes
Key points
• Financial inclusion is a result of and also can result in:
ºº stronger consumer protection;
ºº lowered costs of complying with anti-money-laundering (AML) and know your customer (KYC) rules;
ºº increased levels of financial and data literacy;
ºº inclusion of those with historically marginalised identities; and
ºº lower rates of identity theft.
• Improved cross-border transactions and trade both result from and result in:
ºº lowered costs of remittances;
ºº lowered costs of AML/KYC compliance; and
ºº more robust cybersecurity.
• Improved economic growth will not only result from and in quicker transactions, but also facilitate the financial support of small and medium-sized enterprises (SMEs).
7.1 Introduction • stronger consumer protection; In taking steps to create an enabling environment for fintech, governments can • lowered costs of complying with anti- take strides towards commonly key policy money-laundering (AML) and know interventions and outcomes. your customer (KYC) rules;
This chapter will look at how disruptive • increased levels of financial and data technologies such as artificial intelligence literacy; (AI) and/or digital financial services (DFS) can help to promote three specific policy areas • inclusion of those with historically as examples. In this way, this Toolkit aims to marginalised identities; and equip countries with the principles that will • lower rates of identity theft. allow them to use fintech to tackle a broader range of development goals. We look at improvements that can be In this chapter, we therefore look at financial delivered in cross-border transactions and inclusion and its capacity to result in: trade, resulting in: 63
• lowered costs of remittances; development and reduce poverty4—one of the United Nations Sustainable Development • lowered costs of AML/KYC compliance; Goals (SDGs).5 Among other global voices, and the World Bank, the G20, the US Agency for International Development (USAID), the Bill • more robust cybersecurity. & Melinda Gates Foundation, Citibank and MasterCard have all equally advocated for Finally, we consider the economic growth the potential of fintech to facilitate financial that can result from and in quicker inclusion.6 transactions, while also facilitating the financial support of small and medium-sized 7.2.1 Key Policy Interventions enterprises (SMEs). Research findings confirm that growing access to financial instruments has a positive 7.2 Financial Inclusion impact on self-employment, business 1 Financial inclusion is one of the key tools activities and household consumption, with which governments can reduce poverty among other things.7 and bolster prosperity.2 Despite this fact, approximately 1.7 billion adults globally There are several successful examples of remain unbanked—that is, without access government-level policies and programmes to an account at any financial institution or established to increase financial inclusion. to mobile banking services. In developing In 2007, the M-Pesa programme—a phone- economies, in particular, few people and based money transfer programme— small businesses fully participate in the formal launched in Kenya (see Case Study 10.2). In financial system. Instead, they transact 2006, Kenyan stakeholders had launched exclusively in cash, have no safe way of saving FinAccess: a national household survey or investing money, and cannot access credit programme dedicated to improving financial other than through informal lenders and access in the country, which has been personal networks. Even those with financial updated several times since then. The accounts may have only limited product initiatives have contributed to a significant choice and face high fees. As a result, a rise from 26.3 per cent to 83 per cent in significant amount of wealth is stored outside formal financial inclusion,8 and by 2019, 24.5 the financial system, and credit is scarce million Kenyans were using M-Pesa.9 and expensive. This prevents individuals from engaging in economic activities that Another example is found in India, where the could transform their lives, which impacts Government of India and the Reserve Bank 3 negatively on economic growth. of India have positioned the National Mission for Financial Inclusion (Pradhan Mantri Jan The rapid digitalisation of services, along Dhan Yojana, or PMJDY) as one of their with the rapid spread of digital technologies, most important objectives. Measures have offers institutions the opportunity to provide included: financial services at much lower cost, which has the potential to result in financial inclusion • all banks opening basic saving bank and large productivity gains across the deposit (BSBD) accounts with minimum economy. In 2016, consulting firm McKinsey common facilities, such as no minimum & Co. positioned fintech as one of the key balance, the ability to deposit and tools with which we can drive local economic withdraw cash at bank branches and PART 2 64 Policy Interventions and Outcomes
by card through an automatic teller finance has the potential to reach more than machine (ATM), and the ability to receive 1.6 billion new retail customers in developing or send money through electronic economies and to increase the volume of loans payment channels; extended to individuals and businesses by US$2.1 trillion.13 • relaxed and simplified know your customer (KYC) rules to make opening Because digital payments allow people bank accounts easier for individuals to transact in small amounts, known whom traditional identity requirements as micropayments, they create new might otherwise exclude (see Chapter opportunities based on pay-per-service, 4 on digital identity); and or pay-as-you-go, models. Businesses such as low-cost private school Bridge • a simplified branch authorisation International Academies in Kenya, Uganda, policy, to address the uneven spread Nigeria and India rely on technology of bank branches across the country, enabling them to receive school fees and and a compulsory requirement to open pay teacher salaries digitally as part of their branches in unbanked villages. cost-efficient business models.14 Digital payments also facilitate new business When the programme launched in India, models such as e-commerce and the financial inclusion was at 53 per cent, but this gig economy, with new ride-sharing and figure has since soared to 80 per cent.10 employment-matching service providers among them.15 Ironically, those developing economies in which large population segments are Atlas is a start-up with teams in Ghana and unserved or underserved by traditional Senegal that provides a mobile peer-to-peer financial services represent opportunity for (P2P) application, Access Network, aiming fintech such as blockchain. Shallow banking to give to communities in the developing infrastructure in developing economies world access to savings and credit through a lessens the ‘technology debt’ involved when decentralised solution that lets the unbanked legacy infrastructure has to be replaced, ‘bank with each other’.16 The app creates a and it can mean that there is less social network of people from local communities, and institutional resistance to the new which cultivates trust while building financial technology. In addition, while blockchain may inclusion. In addition, the Atlas platform offers be a disruptive technology in established access to capital through savings accounts markets, regulators and providers in and loans. The blockchain underpinning the emerging financial services markets are platform evidences proof of origin for the less likely to resist blockchain-based new money and all transactions, ensuring that entrants, who will not significantly disrupt users know exactly where their money is existing market conditions.11 and can see the latest transactions on their accounts.17 In 2015, Accenture said that, with a scalable proof of concept for a viable mobile banking Indeed, lending more broadly is an area in business model, blockchain could advance which blockchain applications can open up financial inclusion by serving previously opportunity by allowing lenders to verify a unprofitable customers and SMEs to generate person’s financial or personal history digitally US$380 billion in additional revenues.12 Digital and to assess whether they are looking to 65
finance a viable business or other prospect, eliminating much of the traditional process of securing credit.18 Digital payments The merits and the scale of the opportunity allow people that mobile finance represents are clear. Research by McKinsey & Co. indicates that to transact in the success of mobile money providers small amounts, in emerging markets is predicated on preparation for the long term, adopting known as new methods of collaborative working— including with regulators—and investing to micropayments, support scale until the benefits of network which create effects begin to show.19 Kenya’s Capital Markets Authority has also proposed that it new opportunities joins with the Central Bank of Kenya (CBK) to create a special unit that will monitor and based on pay-per- facilitate a path for the adoption of digital currencies.20 service or pay-as- you-go models. In 2018, the Asia-Pacific Economic Cooperation (APEC) recommended a series of policy initiatives, aiming to promote financial inclusion. Its first recommendation The second recommendation was that was that central banks should prioritise reforms should include developing and structural and regulatory reforms towards: supplying a broader range of products and services, towards: • Aiding the poor to accumulate productive assets and build greater • Promoting financial education, and long-term wealth and financial security. its role in developing financial health, among the underserved to increase • Enabling the poor to participate in pull from the demand side and creating the formal economy as represented incentives, or a more enabling regulatory by employment, wage growth, health environment, to encourage greater insurance and pension schemes. private sector investment into the supply of a broader range of products. • Promoting investment in the NMSE [nano and micro sector enterprise] • Targeting the ability for financial sector and providing pathways for institutions to develop and test informal enterprises to become innovative solutions involving new formalised. technology, which could assist them to diversify their product offerings. • Increasing the ability of women and other vulnerable populations to • Regulators need to consider methods participate in economic activity in safe and policies, which can be introduced and effective ways.21 to help encourage the creation and use PART 2 66 Policy Interventions and Outcomes
of savings products that allow people throughout implementation—it is to build assets and resilience. The important that this engagement is not lack of disposable incomes makes it added on later during implementation difficult for the poor to absorb shocks, (i.e. as an afterthought) but is treated which often makes them more reliant as a core component of the overall on credit and susceptible to over strategy from the design phase. indebtedness. Products which mix long-term saving with the ability to • Identifying and prioritising reforms, access in the event of emergencies can which reduce inequalities and be particularly effective in helping the support the ability of women to poor develop assets. actively and meaningfully engage in economic activity. This should • Remittances (both domestic and include considerations for technology international) have the potential to be and infrastructure, which has the a major driver of inclusive growth. By potential to enhance women’s access combining remittance services with to essential services such as financial other complementary services such services, health care or education.23 as savings, insurance or payments, migrants and their families can increase Governments can promote the rights and their opportunities to accumulate entitlements of women in this context by: assets and build wealth. Governments need to understand this potential and • Reviewing legal frameworks, ensure that regulatory frameworks infrastructure and economic are conducive towards enabling the structures to identify factors which underserved to access a broader range may be creating inequalities and of products and services through limiting women’s access to economic remittance channels.22 opportunity. …
Setting out these recommendations in • Identifying cultural elements which 2019, the Foundation for Development deepen inequalities and work[ing] with Cooperation (FDC) goes on to note that the private and civil society sectors gender issues are not often considered to promote attitude changes through in national financial inclusion strategies. media campaigns and community- It recommends as a third point that a based interventions. Working with ‘gender lens’ should be applied across the private sector to leverage the all components of financial inclusion influence of businesses on consumers strategies. This might involve: is particularly important.
• Including plans to collect and analyse • Promoting financial literacy and sex-disaggregated data to inform and education to increase levels of improve development policies. financial health among women and enhance their economic • Ensuring that development strategies empowerment.24 are truly inclusive of women by engaging with them as part of The FDC introduces into discussion the design stage and continually the idea of the regulatory sandbox: a 67
regulator-controlled environment in which create an effective entry point for fintech and other innovative start-ups can the poorest to gain access to other test their ideas under market conditions. beneficial digital financial services. Regulatory sandboxes are an effective way in which governments can keep pace with • Regulation which allows for the creation innovation and ensure that their regulatory of digital identification systems that frameworks are effective, while limiting their are secure and reliable can have a risk exposure. significant impact on the lives of the underserved. …25 By applying the concept to cross-border issues such as trade or remittances, multi- Focusing next on the informal economy, economy regulatory sandboxes can be an the FDC notes that governments often effective way in which governments can respond to the issue as being about social co-operate on technology solutions. One welfare rather than economic opportunity. government can also potentially leverage Yet significantly, more people are employed another’s infrastructure to help to focus within the informal economy than the development of its own. formal economy; by officially recognising it—with initiatives that address the needs of In its seventh recommendation, the FDC stakeholders such as NMSEs—governments sets out some examples of areas in which can realise those opportunities. governments could focus efforts to realise the benefits of technology for inclusive This will involve formulating policy development, including: frameworks that address the critical challenges facing such stakeholders, • Developing and testing digital finance, including: or Fintech, solutions which enable the underserved to access to a broader • Lack of credit history or formal range of digitally enabled products/ identification, which limits access to services (i.e. insurance, pensions, formal financial services—A potential savings, remittances, payments, etc). solution may include the use of The creation of regulatory sandboxes unstructured data to make credit is an important method of testing decisions. and developing such innovations with the involvement of a broad range of • Lack of customised financial stakeholders. products and services which meet the unique needs of the informal • Social transfers represent one of the sector—Attempts to serve the NMSE most important opportunities for digital markets often incorrectly assume that financial services, including payments products and services designed for and ID systems, to directly impact the formal enterprises will also address lives of the poor. In many cases, social the needs of informal enterprises. transfers are the only way to reach the Products and services designed for poorest of the poor (lower 30%) and the informal economy also need to provide them with access to formal have a particular focus on women who financial systems. By digitising social make up the majority of nano and micro transfer accounts governments can entrepreneurs. PART 2 68 Policy Interventions and Outcomes
• The need for access to non-financial Stronger Consumer Protection services such as micro-medical Consumer protection remains front and insurance, school fee savings products, centre when looking at fintech. On the one financial literacy or vocational hand, AI audit tools can help a regulator training—Access to finance should to determine that a particular institution’s be complimented [sic] with access to lending practices are legally compliant; appropriate non-financial services to on the other hand, loan decision engines help translate financial inclusion into driven by machine learning might begin to economic opportunity. exclude in practice the very disadvantaged individuals whom government is seeking to • The need for more diverse financing include in theory. resources for smallholders— Examples may include specialised Regulatory perimeter is another issue that community-owned finance companies arises in relation to fintech and consumer or co-operatives which can provide protection. Some digital financial services financing services to those unable to are delivered by providers or channels access credit from commercial banks.26 that may fall beyond the reach of the conventional regulator, for example, a mobile Finally, we look here at the ninth communications company or an app on a recommendation, which advocates for smartphone. It is consequently essential, policies that facilitate cross-border trade. as new technologies and other innovations For example, NMSEs might be allowed emerge to engage new customers, that to settle cross-border payments in local governments regularly evaluate the scope and currency, as is the case in Thailand, thereby focus of their regulatory agencies. dismantling a major barrier for many NMSEs across the region. By relaxing Lowered Costs of Complying with AML/ regulations, governments can increase the KYC Rules opportunities for these enterprises.27 Current AML systems tend to have an error rate of 85–95 per cent false positives (meaning 7.2.2 Key Policy Outcomes that they incorrectly flag activity as suspicious), Key policy outcomes for Commonwealth demanding manual reconciliation efforts on governments include: a massive scale. One ‘top ten’ global bank has dedicated more than 4,000 highly paid • stronger consumer protection; professionals to cleaning up false positives.28
• lowered costs of complying with AML/ Complying with KYC rules can be equally labour- KYC rules; intensive. Policy-makers in regions in which the unbanked dominate should adopt strategies • increased levels of financial and data such as correspondent banking, savings groups, literacy; mobile branches and extending the reach of bank branches to the doorstep of the ordinary • inclusion of those with historically citizen. Another tool with which governments marginalised identities; and might ease the burden is a nationwide digital identity system such as Aadhaar in India (see • lower rates of identity theft. Chapter 4). 69
FINTECH AND FINANCIAL INCLUSION The number of people with bank accounts across the Commonwealth has increased.
BANK
BANK 86.6 556 million million mobile mobile accounts accounts population with population with 38% bank accounts 69% bank accounts 2011 2017
However, 500 million Commonwealth adults still do not have bank accounts
T O E T O IV OO AY EXPENS FAR AW NO ID
BANK
500 MILLION ADULTS Fintech helps by
P E R L L O L I E ID O T M V V W S IN A ID AL ERING CO ATING TR ING DIGIT PART 2 70 Policy Interventions and Outcomes
Increased Levels of Financial and Data empowering citizens to control their own Literacy records, governments can establish the As potential consumers begin to access new foundations for many areas of digital products and services, their financial literacy innovation and fast-track financial inclusion will begin to improve, and policy initiatives goals. The underserved can set up bank aiming to accelerate that improvement accounts, start businesses and move will see take-up escalate. Likewise, efforts money. Banks and microfinance providers to develop consumers’ data literacy can can lend with more confidence and, in help them to recognise their rights and time, they may come to provide more appreciate the benefits of government sophisticated financial products such as interventions such as data privacy insurance and investment services. The regulations or open banking legislation. correlation of digital identity with digital tax systems will increase government revenue, Inclusion of Those with Historically while governments will be able to distribute Marginalised Identities/Lower Rates of aid and services more efficiently and more Identity Theft fairly. Among those rights is the right to a legal identity—a prerequisite to financial inclusion. 7.3 Improved Cross-border Transactions Yet many millions of people worldwide—most and Trade commonly women and children—remain Disruptive technologies hold significant unable to document their identities and promise for improving cross-border hence may be denied access to government transactions and trade, by reducing friction services, financial services and health care. and unlocking trapped capital, resulting in:
Coupling blockchain with biometrics offers us • lowered costs of remittances; an alternative. The independent computers that run on a blockchain’s decentralised • lowered costs of AML/KYC compliance; network can update and maintain an ever- and growing public ledger of transactions. They repeatedly reach a consensus on changes and • more robust cybersecurity. thus are constantly vouching for the ledger’s integrity. Information on new transactions 7.3.1 Lowered Costs of Remittances is built on top of all preceding records in a Cross-border transactions and trade precise, time-stamped, interlinked manner, have been reliant on antiquated systems which means that anyone who tampers with and interfaces. From both costs and past data will distort all later records and so cybersecurity standpoints, this has expose their fraud. It is this permanence and generated a number of risks and issues. incorruptibility, combined with the fact that Fintechs have aggressively pursued the it is completely open and uncontrolled, that remittance market, going after fees that, makes blockchain so valuable to governments in developing economies, can reach 15 per and so attractive to citizens, offering cent, and exponential reductions in cost opportunity to transform identity digitally and and improvements to speed and service. to lower rates of identity theft. Digital financial services was instrumental in the first wave of such companies, while By establishing a secure, reliable national blockchain resulted in a second wave of identity system of unique identifiers and remittance innovators. 71
Trade finance also enjoys significant time the Commonwealth itself would be a logical and cost advantages when better data sponsor of such efforts. systems and blockchain are implemented. Many of the world’s trade corridors rely 7.3.3 More Robust Cybersecurity on manual, paper-based processes, from Cybersecurity issues commonly arise the transfer of ship manifests and bills of in domain spaces within the financial lading from ship captain to port office, to ecosystem. Attacks on government the management of letters of credit for systems have resulted in the theft of tens of goods in transit on a container ship. This is millions of dollars, which have been rapidly doubly true of commodities: more than 60 transferred and hidden throughout the per cent of the costs of commodities result global financial services infrastructure.30 from middle- and back-office functions Other issues connected with regulating for (primarily paperwork); commodities giant cbersecurity mean that it can be difficult Louis Dreyfus was able to use blockchain to to navigate correspondent banking or decrease transaction time by 80 per cent.29 to penetrate cross-border remittances Such systems can put more money into the markets. hands of suppliers such as farmers faster, and AI-enabled analytics of demand fore- Among the tools that can help to reduce casting and weather forecasting can better friction and costs are policy interventions manage volatility and risk. aiming to:
In these contexts, the regulator’s challenge • raise digital literacy and awareness is in ensuring equitable access to data of cyber crime among regulators and and analytics, such that smaller or newer policy-makers; entrants to a market are not disadvantaged, and embedding compliance into new • harmonise and elevate cybersecurity systems, such that the risk of fraud and requirements across financial services abuse is mitigated. and systems providers and central banks; and 7.3.2 Lowered Costs of AML/KYC Compliance • digitally identify known ‘bad actors’ and In the realm of cross-border trade and share that information across borders. transactions, AML/KYC is a significant pain point. If central banks can eliminate duplication of effort by encouraging 7.4 Improved Economic Growth federated identity registries within their A proactive regulatory stance can facilitate jurisdictions, they may see a resulting economic growth within a given country or reduction in cost. Longer-term and region. Growth fuelled by fintech can result more ambitious efforts would see the from and in quicker transactions, while also creation of supranational government- facilitating the financial support of SMEs. sponsored identity registries to help to lower AML compliance costs. Multinational 7.4.1 Transaction Speed and Cost bodies such as the African Union and Transaction speed and cost are rate-limiting Organisation for Economic Co-operation factors of economic development. High- and Development (OECD) have already speed transactions reduce financing costs and undertaken exploratory work in this area; improve the turnover of money through an PART 2 72 Policy Interventions and Outcomes
services. More than 95 per cent of the world’s small businesses are underbanked The inevitable con- or unbanked—a figure that is troubling. It is all the more so when partnered with sequence of all the fact that small businesses create four out of five new jobs—jobs badly needed of this increased in Africa and Asia, where 600 million new speed, of course, is jobs need to be created in little more than a decade to stave off poverty and improve increased risk. people’s lives.31
While SME finance is one of the most wide- reaching mechanisms with the most far- economic system, accelerating working capital reaching potential to drive societal change cycles and offering opportunities for greater and economic growth, there are barriers economic value added. Digital currencies and to its success. Credit underwriting and blockchain have the potential to speed up analysis of small businesses is challenging, transactions exponentially—particularly for for example, with few alternative data P2P payments—but they also may be more sources and poor-quality credit modelling. opaque than other kinds of digital transactions. Among questions remaining are the following: The inevitable consequence of all of this increased speed, of course, is increased risk. • How can we ensure equal access? Fraud or cybercrime can now occur more quickly than law enforcement and other • How can we manage risk across a authorities can react, with tens or hundreds portfolio of small business loans? of millions of pounds moving in minutes—or even seconds—while investigations after the • What securitisation opportunities exist fact can take weeks, months or even years. to free up more liquidity to expand the loan book more rapidly while limiting 7.4.2 Financial Support for Small and risk exposure? Medium-sized Enterprises For our purposes, we can segment SMEs as: • How do we determine the ultimate beneficial owner (UBO) of any • sole proprietors; SME or in any given transaction and ensure that we comply with • micro businesses (2–20 employees); AML/KYC rules? (With even fewer reliable methodologies to ensure • small businesses (21–100 employees); data quality, the identity challenges and described elsewhere in this Toolkit are compounded in relation to SMEs.) • medium-sized businesses (101–1,000 employees). Central banks should therefore be encouraging further investment and These businesses are conventionally experimentation, while regulators and underserved by traditional financial policy-makers can address SME finance in 73
collaboration with private industry through 8 Central Bank of Kenya, Kenya National Bureau a variety of mechanisms, from offering of Statistics, FSD Kenya (2019). Inclusive attractive rates through the discount Finance? Headline Findings from FinAccess window to sandboxing new lending models. 2019 [online]. Retrieved from: https://s3-eu- central-1.amazonaws.com/fsd-circle/ Endnotes wp-content/uploads/2019/07/24171523/19- 1 Much of the content of this section on financial 07-26-FinAccessPolicy-Document-Web.pdf inclusion was first published in Thomason 9 Bright J (2020). ‘Visa and Kenya’s Safaricom J, Bernhardt S, Kansara T, Cooper N (2019). partner on M-Pesa, payments and tech’. Blockchain Technology for Global Social Change Techcrunch, 30 April [online]. Retrieved from: (Hershey, PA: IGI Global) and is reprinted https://techcrunch.com/2020/04/30/visa- with permission. See: www.igi-global.com/ and-kenyas-safaricom-partner-on-m-pesa- book/blockchain-technology-global-social- payments-and-tech/ change/221876#table-of-contents 10 Demirgüç-Kunt A, Klapper L, Singer D, Ansar 2 Demirgüç-Kunt A, Klapper L, Singer D, Ansar S, Hess J (2018). The Global Findex Database S, Hess J (2018). The Global Findex Database 2017: Measuring Financial Inclusion and the 2017: Measuring Financial Inclusion and the Fintech Revolution [online]. Retrieved from: Fintech Revolution [online]. Retrieved from: http://documents.worldbank.org/curated/ http://documents.worldbank.org/curated/ en/332881525873182837/pdf/126033-PUB- en/332881525873182837/pdf/126033-PUB- PUBLIC-pubdate-4-19-2018.pdf PUBLIC-pubdate-4-19-2018.pdf 11 International Finance Corporation 3 Ibid. (2019). Blockchain: Opportunities for 4 McKinsey & Co. (2016). Digital Finance for Private Enterprises in Emerging Markets All: Powering Inclusive Growth in Emerging [online]. Retrieved from: www.ifc.org/ Economies [online]. Retrieved from: wps/wcm/connect/2106d1c6-5361- www.mckinsey.com/~/media/McKinsey/ 41cd-86c2-f7d16c510e9f/201901- Featured%20Insights/Employment%20 IFC-EMCompass-Blockchain-Report. and%20Growth/How%20digital%20 pdf?MOD=AJPERES&CVID=mxYj-sA finance%20could%20boost%20growth%20 12 Accenture, CARE International (2015). Within in%20emerging%20economies/MGI- Reach: How Banks in Emerging Economies Digital-Finance-For-All-Executive-summary- Can Grow Profitably by Being More Inclusive September-2016.ashx [online]. Retrieved from: www.accenture. 5 UN General Assembly (2015). Transforming com/_acnmedia/accenture/conversion- Our World: The 2030 Agenda for Sustainable assets/dotcom/documents/global/pdf/ Development. A/RES/70/1, 21 October dualpub_23/accenture-banking-withinreach. [online]. Retrieved from: www.refworld.org/ pdf#zoom=50 docid/57b6e3e44.html 13 McKinsey & Co. (2016). Digital Finance for 6 Häring N (2017). ‘Modi, Yunus and the All: Powering Inclusive Growth in Emerging Financial Inclusion Mafia’. Money and More, Economies [online]. Retrieved from: 26 March [online]. Retrieved from: https:// www.mckinsey.com/~/media/McKinsey/ norberthaering.de/en/war-on-cash/ Featured%20Insights/Employment%20 modi-yunus/ and%20Growth/How%20digital%20 7 Bauchet J, Marshall C, Starita L, Thomas finance%20could%20boost%20growth%20 J, Yalouris A (2011). Latest Findings from in%20emerging%20economies/MGI- Randomized Evaluations of Microfinance Digital-Finance-For-All-Executive-summary- [online]. Retrieved from: www.cgap.org/ September-2016.ashx sites/default/files/CGAP-Forum-Latest- 14 Bridge (undated). ‘What We Do: Findings-from-Randomized-Evaluations-of- Tech’ [online]. Retrieved from: www. Microfinance-Dec-2011.pdf bridgeinternationalacademies.com/ PART 2 74 Policy Interventions and Outcomes
15 Osafo-Kwaako P, Singer M, White O, Zouaoui Action [online]. Retrieved from: www.ada- Y (2018). Mobile Money in Emerging Markets: microfinance.org/download/5530/fdc-the- The Case for Financial Inclusion [online]. inclusion-imperative-a-call-to-action.pdf Retrieved from: www.mckinsey.com/ 22 Ibid. industries/financial-services/our-insights/ 23 Ibid. mobile-money-in-emerging-markets-the- 24 Ibid. business-case-for-financial-inclusion 25 Ibid. 16 Costa M (2016). ‘Economies shared’. 26 Ibid. Medium, 20 June [online]. Retrieved from: 27 Ibid. https://medium.com/atlas-together/ 28 ING (2018). ‘Know Your Customer and Anti economies-shared-4e14a6e93d0f Money Laundering Measures at ING’. Press 17 Atlas (2018). About [online]. Retrieved from: release, 4 September [online]. Retrieved https://atlas.money/about from: www.ing.com/About-us/Compliance/ 18 Knowledge@Wharton (2018). ‘How the KYC-and-anti-money-laundering-measures. Blockchain Brings Social Benefits to Emerging htm Economies’, 28 November [online]. Retrieved 29 Hoffman A, Munsterman R (2018). ‘Dreyfus from: https://knowledge.wharton.upenn.edu/ Teams with Banks for First Agriculture article/blockchain-brings-social-benefits- Blockchain Trade’. Bloomberg, 22 January emerging-economies/ [online]. Retrieved from: www.bloomberg. 19 Osafo-Kwaako P, Singer M, White O, Zouaoui com/news/articles/2018-01-22/dreyfus- Y (2018). Mobile Money in Emerging Markets: teams-with-banks-for-first-agriculture- The Case for Financial Inclusion [online]. blockchain-trade Retrieved from: www.mckinsey.com/ 30 See, e.g., Al Jazeera (2018). ‘Hacked: The industries/financial-services/our-insights/ Bangladesh Bank Heist’. 24 May [online]. mobile-money-in-emerging-markets-the- Retrieved from: www.aljazeera.com/ business-case-for-financial-inclusion programmes/101east/2018/05/hacked- 20 Pande S, Medikepura Anil A [2018]. ‘South Asia bangladesh-bank-heist-180523070038069. Can Become an Innovation Hub: Here’s How’. html Qrius.com, 20 November [online]. Retrieved 31 Van Trotsenburg A (2018). ‘More and Better from: https://qrius.com/south-asia-can- Jobs for Developing Nations’. World Bank, 11 become-an-innovation-hub-heres-how/ May [online]. Retrieved from: www.worldbank. 21 Foundation for Development Cooperation org/en/news/opinion/2018/05/11/more-and- (2019). The Inclusion Imperative: A Call to better-jobs-for-developing-nations 75
Chapter 8 Considerations PART 2 76 Considerations Considerations
Key points
• Commonwealth member countries are diverse in terms of population size.
• Small states benefit from agility in that they are able to make decisions swiftly and hence several Commonwealth countries have already embraced fintech. While smaller developing economies have historically been limited by resource constraints, a new paradigm suggests that population size may not be a constraint to digital transformation—as evidenced by the actions of countries including Bermuda, Dubai and Mauritius. Imagination, agility and aspiration all may allow small states to leapfrog others and become leaders in a new digital economic order.
• Larger and wealthier countries may benefit from more resources and/or larger populations across which to amortise the costs of investment in new technologies, but larger nations are typically slower to make decisions and to implement solutions. Indeed, wealthier nations are more likely to have ‘legacy’ systems—that is, older technology that will need to be upgraded or replaced if the nation is to take advantage of fintech.
• In addition, the needs of countries that neighbour one another may be shared, while they may differ from the needs of countries in other regions.
8.1 Introduction a third of the world’s people. Population In any effort to develop policy interventions sizes are diverse within the Commonwealth, for Commonwealth nations, it is necessary however, ranging from India at more than to evaluate their diverse needs. While 1 billion, Pakistan, Nigeria and Bangladesh there are small nations with abundant with more than 100 million, 33 countries with resources (e.g., Singapore) and there are fewer than 10 million and 26 at fewer than larger countries that are yet developing 1 million. Economic development is also economically (e.g., Nigeria), it is generally uneven in Commonwealth economies, with helpful to understand the constraints financial inclusion remaining a major problem and opportunities offered by countries in many countries. segmented by size. Indeed, among Commonwealth states, island nations Developed economies in the Commonwealth have been particularly progressive in feature large, well-established, traditional experimenting with and adopting fintech enterprises filling business and consumer and fintech-related policies, and this may needs in markets with sound infrastructure be because of their small size, whereby a and well-developed regulatory regimes. handful of decision-makers can rapidly reach In Commonwealth emerging markets, by consensus. contrast, growth is often fast, but needs may be unmet, infrastructure poor and 8.2 Diversity among Commonwealth compliance patchy—to the benefit of Nations innovation enabled by digital technologies. The Commonwealth countries have a Characterised by a lack of legacy systems, combined population of 2.4 billion—almost emerging markets are more likely to embrace 77
new technologies. In emerging markets, • Estonia has already established itself as digital technologies enable entrepreneurial a world leader in digitisation; businesses to overcome long-standing barriers and reach new potential customers. • Switzerland and Singapore are early Fintech and the digital economy can adopters and leaders in blockchain; enable small businesses, women and other • Dubai is implementing a mandate for disadvantaged groups to take part in trade government services to go paperless and connect around the world. For some on blockchain; Commonwealth economies, then, disruptive change may deliver a unique opportunity to • in February 2018, the Government of ‘leapfrog’ the legacy issues that advanced Gibraltar announced its intention to economies confront—and the rewards can be proceed with token regulation; transformative. • on 4 July 2018, the Maltese 8.3 Small States: Opportunity and Parliament officially passed three Challenge bills into law—reportedly, the first Thirty-three of the Commonwealth member regulatory framework for blockchain, countries have populations of fewer than 10 cryptocurrency and distributed ledger million and have traditionally been hampered technology (DLT); and economically by size, talent and geography. Digital technologies provide these small • the East African island nation of states with a transformative opportunity. Mauritius is seeking to brand itself as a regional haven for blockchain innovation. Artificial intelligence (AI) and blockchain allow small states to overcome the barriers of While not a comprehensive list, this clearly distance, talent and isolation. They are more points towards a new paradigm whereby agile and can be more responsive; they are small populations are not a constraining often less inhibited by legacy systems and, in factor for digital transformation; rather, many, the pressure to meet people’s needs imagination, agility and aspiration may is more acute. While larger states are still enable small states to leapfrog others and debating the promise of new technologies, take the lead in a new digital economic order. many smaller jurisdictions are already embracing them. Small states will nonetheless also face a number of challenges—notably, costs Small states are moving quickly: and access to talent—and may need to • Bermuda announced its new collaborate with other countries to access regulations on initial coin offerings the resources and capital that they require. (ICOs) on 13 July 2018, describing Regional collaboration can help countries to minimum required information for ICO address regulation and standards, examine projects and establishing compliance the regulatory fitness of legislation for a measures for companies to conduct an digital economy, and support the sharing ICO; of best practices in areas such as change management. • Jersey’s Financial Services Commission launched Jersey’s ICO guidelines on 12 To build capacity, regional platforms July 2018; could support the sharing of experiences, PART 2 78 Considerations
moving slowly to implement new technology systems because changing legacy systems Artificial at the institutional and structural levels is a massive undertaking that can take years—or intelligence (AI) even decades.
and blockchain 8.5 Developing Economies allow small states In developing economies,4 the lack of trusted and effective infrastructure means that new to overcome technologies are a welcome arrival: they do not demand change to the status quo, but the barriers of signal the arrival of a functional resolution distance, talent and to a long-standing problem. Developing economies are almost exclusively cash- isolation. based: nearly 90 per cent of economic activity is conducted traditionally, because trust in local financial institutions is poor, and because an average of 40 per cent of trigger collaboration and joint investments people do not have bank accounts.5 Few with relevant partners, explore common people and small businesses in developing approaches to regulatory problems, and economies fully participate in the formal facilitate workforce reskilling and recruitment financial system; some 2 billion individuals to allow small states to meet the needs of the and 200 million small businesses lack access digital age. to formal savings and credit.6 Thus emerging markets are constantly innovating in the 8.4 Advanced Economies and Legacy field of payments, promoting an increasing Systems shift to digital services.7 The lack of trust in There is evidence that integrating digital local financial institutions means, however, technology into the design and delivery that preference for cash prevails and indeed of public services yields efficiency and continues to increase. productivity gains for both government and industry, increasing public value and By 2016, the amount of cash in circulation driving broad public sector modernisation, had increased to 9 per cent of gross as well as promoting greater openness, domestic product (GDP) compared with 7 transparency, public engagement and trust per cent in 2000, yet digital payments were in government.1 In 2016, the UK government expected to reach a record 726 billion by estimated that introducing digital tools into 2020, with emerging markets leading this government service delivery could save trend at a rate three times that of developed between £1.3 billion and £2 billion annually economies.8 Digital payments in developing as quickly as by 2020.2 Similarly, in a 2015 markets were expected to have a compound report commissioned by Adobe, Deloitte annual growth rate of 23.5 per cent between found that the cost savings for the Australian 2017 and 2022, compared to an expected government of digitising consumer 7.1 per cent rise in mature markets over transactions could be as much as AU$17.9 the same time period.9 In 2017, non-cash billion per annum by 2025.3 Despite this payments in Asian emerging markets evidence, many advanced economies are were projected to grow by almost a third 79
(30.9 per cent) over the coming decade, The global mobile industry connected more led by China and India.10 Accordingly, there than 5 billion people in 2017.12 The Global is likely to be rapid change in the payments System for Mobile Communications (GSMA), landscape, building on accelerating growth in the industry’s non-profit trade association, electronic payments and the advent of new predicts that the number of unique mobile and disruptive markets. subscribers will reach 5.9 billion by 2025— equivalent to 71 per cent of the world’s Developing economies will be at the population.13 Developing countries will drive forefront of this transformation, for they that growth—particularly India, Pakistan and are currently the locus where demand Bangladesh, as well as sub-Saharan Africa. meets the ability to supply: millennials respond well to digital-first service To overcome the preference for traditional delivery and desire financial inclusion, cash-based transacting while supporting and the legislative environment supports rapid growth, it is especially important for the introduction of a wider array of economic structures in emerging markets financial services. Concerted efforts are to integrate with local culture. The large being directed towards introducing and financial services institutions that are promoting innovative retail e-payment common in mature markets are incongruous instruments and systems including here and therefore likely to be ineffective. e-wallets, mobile payments and one-click Small—sometimes homegrown— payments. For example, in Nigeria, the collectives achieve social traction because use of mobile-based payment systems they adopt systems of operation that are has increased as access to mobile phones locally trusted. For example, CrowdForce has become more widespread, both for Solution is an Africa-based start-up that customer and merchant processes. In uses Ethereum to incentivise trusted India, the central automatic teller machine local and community retailers to act as (ATM) switch that processes all retail banks and offer financial services.14 It ATM transactions has been revamped in offers utility payments, cash deposit and preparation for expected demand increase. withdrawal accounts, cryptocurrency exchange, and crypto-fiat exchanges on a One of the most commonly cited examples PayForceMobileApp. This means there is of leapfrogging is the Safaricom M-Pesa no need for a banking structure; the only mobile payment system in Kenya and start-up capital required is for agent retailers Tanzania, launched by Vodafone in 2007, to fund their wallet, with agents earning which enabled phone-based banking in the commission on transactions.15 national currency, abandoning traditional banking methods to create a mobile banking We noted in Chapter 7 that shallow banking revolution. It is now used by more than 17 infrastructure accelerates the adoption of million Kenyans, with approximately 25 per blockchain in developing economies. Not cent of the country’s gross national product only does the lack of financial infrastructure (GNP) flowing through it.11 M-Pesa has mean reduced social and institutional boosted economic development by enabling resistance and lower transition costs, but relatively poor farmers to send and receive it also means that regulators and existing payments reliably and affordably, fostering financial institutions in emerging markets economic growth by lowering transaction are more open to blockchain-based new costs (see Case Study 10.2). entrants.16 In fact, international payments PART 2 80 Considerations
and trade finance frontrunners have high established Canada to an array of Caribbean transaction and verification costs that islands that are working on financial inclusion. blockchain can reduce by improving the Canada has been progressive in embracing speed, transparency and process. In 2018, pilots of fintech, from AI to digital identity. well-established multinational Western In the smaller island nations, the Caribbean Union partnered with newcomer Ripple to Community (CARICOM) has served as a test the speed and economy of blockchain- forum for the exchange of ideas that has based cross-border payments.17 been helpful in fostering progressive policies and opportunities. The Inter-American 8.6 Regional Considerations In addition to considering the factors distinguishing large and small nations, as well as advanced and developing economies, it is also important to understand how regional Developing variations across the Commonwealth can economies will be affect the development and adoption of fintech. We have divided the countries into at the forefront of four basic regions: Africa; the Americas; Asia Pacific; and Europe. this transformation, for they are 8.6.1 Africa Africa is in the midst of a technology currently the locus transformation on a continental scale. In 2016, more than 700 million smartphone where demand connections were expected on the meets the ability to continent by 2020, with 20 per cent of the continent’s population already able to access supply: millennials a mobile broadband connection—a figure expected to triple by the end of 2021.18 respond well to Low-cost devices, such as low-end Android models, have accelerated this trend towards digital-first service digital inclusion at a large scale. delivery and desire
The costs of mobile services remain a financial inclusion, rate-limiting factor in the ability of poorer African peoples to take advantage of digital and the legislative financial services. A number of developing environment economies in Africa, however, have sought to leapfrog legacy-laden advanced economies supports the by deploying next-generation systems and solutions that are less readily available in the introduction of latter. a wider array of 8.6.2 The Americas financial services. The Commonwealth countries in the Americas range from the wealthy and 81
Development Bank (IDB) has also been the support of the Asian Development exploring thought leadership and idea Bank (ADB) and other bodies—are aiming exchange around progressive solutions to to leapfrog, with new technologies that regional issues such as inclusion. empower their population with access to financial services. Unfortunately, identity theft remains a key issue in developing economies in the Looming over all of the countries in the Americas and, as a result, rates of ‘false region are three powerful platforms declines’ (legitimate credit card transactions originating in the People’s Republic of China that are not allowed to process) remain high, (PRC): Baidu, Ali Baba and Tencent (known as which inhibits financial inclusion. the BATs). These companies have integrated communications data with financial 8.6.3 Asia Pacific data, which provides them with powerful While inclusion rates vary considerably within predictive insights into individuals. the Asia Pacific region, connectivity has been quite good in a number of Commonwealth 8.6.4 Europe countries. This, in turn, has facilitated critical The three European members of the policy goals such as financial inclusion, which Commonwealth (the UK, Cyprus and then enable other more advanced fintech Malta) have been experimenting with and offerings to be provided to the market, such adopting regulation around an array of as alternative lending. fintech activities. Malta and Cyprus continue to develop solutions within the context of Just under two-thirds of the populations of European Union (EU) regulation, while the UK Singapore and Malaysia, for example, are fully has been developing parallel and analogous, banked, while in each country another 20–30 but different, regulations (e.g., open banking per cent are underbanked (i.e., able to access versus the EU revised Payment Services some services, if not to the same degree as Directive, or PSD221). The UK’s multitier the fully banked).19 licensing of and engagement with new financial institutions (with e-money, ‘halfway’ In India, the Aadhaar project has driven a banking and a full banking licence, in addition massive increase in the number of bank to a regulatory sandbox) remains a gold accounts held, with ever-more government standard for supporting fintech innovation. subsidies being paid into those accounts (driving utilisation). Between 2014 and 2017, 8.7 Conclusion India increased its banked population from It is essential that all Commonwealth 53 per cent to almost 80 per cent, and the governments learn how to engage with World Bank has found that the growth is the new digital issues that cannot be continuing.20 Financial literacy remains an regulated universally across member opportunity area, however, and the financial countries. Digital literacy will prove to be a services offered to the newly banked remain key skill for citizens, politicians and industry modest: loans are still difficult to get, for leaders alike. Likewise, both small and large example. states need information on fintech policy, regulatory approaches and applications, Other Asia Pacific nations, such as Papau such as digital identity and anti-money- New Guinea and Samoa, are at an early laundering (AML) and know your customer stage of their inclusion journey and—with (KYC) rules, the digital issuance of bonds PART 2 82 Considerations
and treasury notes, the resilience of digital 6 Osafo-Kwaako P, Singer M, White O, Zouaoui payment systems, digital cash supply and Y (2018). Mobile Money in Emerging Markets: trade finance, etc. The Case for Financial Inclusion [online]. Retrieved from: www.mckinsey.com/ Meeting these needs is challenging territory industries/financial-services/our-insights/ mobile-money-in-emerging-markets-the- because there is a shortage of world-class business-case-for-financial-inclusion digital experts globally. Commonwealth 7 Jones H (2018). ‘Cash Is Far from Dead and nations may therefore consider Use Is Rising’. Reuters, 11 March [online]. collaboratively investing to develop an elite Retrieved from: www.reuters.com/article/ task force of digital experts who can help us-bis-report-cash/cash-is-far-from- multiple governments to develop fintech. deadand-use-is-rising-bis-idUSKCN1GN0PS; PricewaterhouseCoopers (2018). Endnotes ‘Emerging Markets: Driving the Payments 1 Organisation for Economic Co-operation Transformation’ [online]. Retrieved from: and Development (2016). Digital Government www.pwc.com/gx/en/industries/financial- Strategies for Transforming Public Services services/publications/emerging-markets- in the Welfare Areas [online]. Retrieved from: driving-payments.html www.oecd.org/gov/digital-government/ 8 Bech M L, Faruqui U, Ougaard F, Picillo C Digital-Government-Strategies-Welfare- (2018). ‘Payments Are A-changin’ But Cash Service.pdf Still Rules’. BIS Quarterly Review, March 2 Andrews E, Thornton D, Owen J, Bleasdale A, [online]. Retrieved from: www.bis.org/publ/ Freeguard G, Stelk I (2016). Making a Success qtrpdf/r_qt1803g.htm of Digital Government [online]. Retrieved from: 9 Capgemini (2019). ‘Non-cash Payments www.instituteforgovernment.org.uk/sites/ Volume’ [online]. Retrieved from: default/files/publications/IFGJ4942_Digital_ https://worldpaymentsreport.com/ Government_Report_10_16%20WEB%20(a). non-cash-payments-volume/ pdf 10 Brown R (2017). ‘Digital Payments Expected to 3 Deloitte Access Economics (2015). Digital Hit 726 Billion by 2020—But Cash Isn’t Going Government Transformation. Retrieved Anywhere Yet’. CNBC, 9 October [online]. from: www2.deloitte.com/content/dam/ Retrieved from: www.cnbc.com/2017/10/09/ Deloitte/au/Documents/Economics/ digital-payments-expected-to-hit-726- deloitte-au-economics-digital-government- billion-by-2020-study-finds.html transformation-230715.pdf 11 Berman A (2018). ‘Western Union Considers 4 Much of the content of this section on Crypto, Partners with Ripple to Test developing economies was first published Blockchain Payments’. Cointelegraph, 20 in Thomason J, Bernhardt S, Kansara T, December [online]. Retrieved from: https:// Cooper N (2019). Blockchain Technology for cointelegraph.com/news/western-union- Global Social Change (Hershey, PA: IGI Global) considers-crypto-partners-with-ripple-to- and is reprinted with permission. See www. test-blockchain-payments igi-global.com/book/blockchain-technology- 12 GSMA (2017). ‘Number of Mobile Subscribers global-social-change/221876#table-of- Worldwide Hits 5 Billion’. Press release, 13 contents June [online]. Retrieved from: www.gsma. 5 Down M (2018). ‘How Blockchain Technology com/newsroom/press-release/number- Can Serve Emerging Market Economies’. mobile-subscribers-worldwide-hits-5-billion/ Hackernoon, 12 September [online]. 13 Ibid. Retrieved from: https://hackernoon.com/ 14 Babayan D (2018). ‘Ethereum Adoption in how-blockchain-technology-can-serve- Developing Countries Rising Exponentially: emerging-markets-a7585ca2ff43 Lubin’. NewsBTC, 2 December [online]. 83
Retrieved from: www.newsbtc. 18 Rice-Oxley M, Flood Z (2016). ‘Can the com/2018/12/02/ethereum-adoption-in- Internet Reboot Africa?’. The Guardian, developing-countries-rising-exponentially- 25 July [online]. Retrieved from: www. lubin/ theguardian.com/world/2016/jul/25/ 15 Down M (2018). ‘How Blockchain Technology can-the-internet-reboot-africa Can Serve Emerging Market Economies’. 19 Soriano M et al. (2019). The ASEAN FinTech Hackernoon, 12 September [online]. Ecosystem Benchmarking Study [online]. Retrieved from: https://hackernoon.com/ Retrieved from: www.jbs.cam.ac.uk/fileadmin/ how-blockchain-technology-can-serve- user_upload/research/centres/alternative- emerging-markets-a7585ca2ff43 finance/downloads/2019-ccaf-asean-fintech- 16 International Finance Corporation (2017). ecosystem-benchmarking-study.pdf MSME Finance Gap: Assessment of the 20 Demirgüç-Kunt A, Klapper L, Singer D, Ansar Shortfalls and Opportunities in Financing S, Hess J (2018). The Global Findex Database Micro, Small and Medium Enterprises in 2017: Measuring Financial Inclusion and the Emerging Markets [online]. Retrieved from: Fintech Revolution [online]. Retrieved from: www.ifc.org/wps/wcm/connect/03522e90- http://documents.worldbank.org/curated/ a13d-4a02-87cd-9ee9a297b311/121264- en/332881525873182837/pdf/126033-PUB- WP-PUBLIC-MSMEReportFINAL. PUBLIC-pubdate-4-19-2018.pdf pdf?MOD=AJPERES&CVID=m5SwAQA 21 Directive (EU) 2015/2366 of the European 17 Berman A (2018). ‘Western Union Considers Parliament and of the Council of 25 Crypto, Partners with Ripple to Test November 2015 on payment services in Blockchain Payments’. Cointelegraph, 20 the internal market, amending Directives December [online]. Retrieved from: https:// 2002/65/EC, 2009/110/EC and 2013/36/ cointelegraph.com/news/western-union- EU and Regulation (EU) No 1093/2010, considers-crypto-partners-with-ripple-to- and repealing Directive 2007/64/EC, 23 test-blockchain-payments December 2015, OJ L 337/35.
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Chapter 9 Action Framework for Creating an Enabling Environment for Fintech PART 2 86 Action Framework for Creating an Enabling Environment for Fintech Action Framework for Creating an Enabling Environment for Fintech
Key points
Through consultation with the Commonwealth Central Bank Governors (CCBGs), academics and subject-matter experts from the private sector, the Commonwealth has devised an ‘action framework’ outlining:
• how to build an effective national or regional fintech task force;
• the steps that governments and that task force can take to create an enabling environment for fintech and fintech applications, from first establishing context through to public launch; and
• the ways in which governments and other stakeholders can support one another to build on success.
9.1 Introduction governments and other stakeholders in Developed in response to calls from and creating an environment that will enable in consultation with Commonwealth those initiatives and improve the likelihood Central Bank Governors (CCBGs), as that they will be successful. well as academics and subject-matter experts from the private sector, the The best practice gathered in this Commonwealth Fintech Toolkit aims chapter is drawn from both primary and to help government policy-makers and secondary research (see Appendix 2), regulators to take practical steps to create including interviews with representatives an enabling environment for fintech. of Commonwealth governments and other It stands alongside other international fintech stakeholders. We directly quote efforts such as the Bali Fintech Agenda, some of these participants in this chapter to which the International Monetary Fund provide context and insights based on their (IMF) launched in association with the practical experience. World Bank late in 2018.1 At the outset, the Deputy Secretary-General In Part I of the Toolkit, we looked at of the Commonwealth Secretariat helped tech topics. In Part II so far, we have to define the work needed to convert the considered the policy outcomes and other concepts which we have looked at so far considerations that might lead a government into the actions that create an enabling to pursue fintech initiatives. We look now environment for fintech in a country or a at an ‘action framework’ that will support region: 87
There are several questions to be answered … What regulations and policies do we need in this area? What is working and what is not working? What institutions are necessary for a fintech-friendly system and how do they work together as one? What infrastructure is needed? And last, but not least, do we have adequate human resources?
Dr Arjoon Suddhoo, Deputy Secretary-General, Commonwealth Secretariat
Because Bermuda has been at the forefront initiatives, the Honorable E David Burt, JP, of developing fintech policy, enacting a MP, Premier of Bermuda, and members of his series of enabling regulations and organising government played a key part in shaping the government offices to sponsor fintech action framework:
We all recognise that fintech is a very open and collaborative industry. Bermuda’s experience of working with some of the thought leaders in this space has helped us to develop our legislative and regulatory framework, which is the foundational pillar of our ecosystem. Bermuda is of the position that, since this was an emerging and disruptive technology or space that could present risk to our existing financial ecosystem and our reputation, it was important to create laws first so that people could have fair, safe and a well-regulated space [in which] to innovate, create and develop ideas.
Honorable E David Burt, Premier of Bermuda
The action framework therefore outlines: delivering and continuously improving any enabling environment for fintech. • how to build an effective national or regional fintech task force; The most successful task forces tend to comprise individuals from the public • the steps that governments and and private sectors, as well as so-called that task force can take to create captains of industry, under the supervision an enabling environment for fintech of and support from a fintech champion in and fintech applications, from first government (see later in the chapter). establishing context through to public launch; and To build an effective task force, we first need to identify the necessary skill sets and • the ways in which governments and backgrounds that individuals need to bring other stakeholders can support one to the table, and which interests need to be another to build on success. represented. This is most likely to emerge as part of the sense-making work we do 9.2 Building an Effective Fintech Task in the initial stages of creating an enabling Force environment for fintech: when establishing An effective fintech task force at the country context and during analysis. These skills or regional level will be critical to building, sets, backgrounds and interests will PART 2 88 Action Framework for Creating an Enabling Environment for Fintech
necessarily differ from country to country other national systems (as was the case for and region to region, and it is with these the Bangladesh Bank cyber heist2). Another clearly defined person specifications that example is in the domain of central bank government leaders can identify, recruit digital currencies (CBDCs), where questions and benefit from the expertise of specific of interoperability arise if CBDCs are to individuals as part of the fintech task force. be realistic alternatives to conventional currencies. Once convened, the task force must establish a regular schedule of meetings, set The UK has long recognised that clear goals and practicable timetables, and co-ordinating international standards and distribute minutes to all participants to fuel other efforts can drive a more effective continuity and accountability. response to systemic risk (also known as contagion risk) events. As such, the UK is More broadly, a country’s or region’s involved in the work of the Committee on fintech task force may wish to co-ordinate Payments and Market Infrastructures (CPMI), with other international bodies, to International Organization of Securities ensure that it can respond to issues that Commissions (IOSCO), the G7 cyber experts may arise in a globally connected financial group, and the work of the Financial Stability system. Board (FSB).
One such issue is cybersecurity: should an For Barbados, a regulatory sandbox was attack occur in one country or region, its the solution to mitigating risk as it began effect might be contagious across many. to experiment with fintech, offering a safe Should a country’s financial system—or environment in which start-ups could test even a single institution within that system— new technologies without risk of harm to be hacked, for example, the proceeds of consumers or to the country’s financial cyber theft might flow through multiple system:
Our response has been centred around the development of a regulatory sandbox to better engage with start-ups that require greater regulatory clarity and to allow the Central Bank of Barbados (Bank) to better understand these new business models and their product offerings. …
Most of the Bank’s work related to fintechs has been structured by way of an internal cross- departmental work group that was established to leverage the differing perspectives from Legal, Bank Supervision, and Operations department. Some of this work has been relevant to the undertakings of the [Caribbean Community] CARICOM Fintech Work Group that Barbados chairs. This regional group has been focusing on issues such as the regulatory framework for digital currency, the efficiency of digital cross-border settlement and data protection provisions to enable greater digital payments. There are some similar realities across the region and as such, it makes sense to evaluate the varied regulatory approaches to fintechs, [acknowledging] what can be standardised and the potential efficiency gains.
Michelle Doyle-Lowe, Adviser, Central Bank of Barbados 89
9.3 Creating an Enabling Environment for should progress when seeking to foster Fintech an enabling environment for fintech are as The work outlined in the appendices has follows. allowed us to build consensus around a set of steps that governments can take to create an 1. Establishing context enabling environment for fintech and fintech applications. While these will be championed 2. Strategic analysis from within government and led by the fintech task force, participants agree that continuous 3. Project planning stakeholder consultation is essential not only to inform the decision-making process, but 4. Resource acquisition also to ensure that the outcomes are more swiftly and more broadly adopted. 5. Early implementation
The six steps—or stages—through 6. Public launch which governments and regulators
[T]echnology is moving at a phenomenal pace and revolutionising our way of life, work and even play. However, when we discuss technology in the context of development, [we] should not lose sight of the social and environmental issues. There are many demands and expectations from our diverse range of member countries and, to that end, the Secretariat views technological innovation as a catalyst for growth and development, particularly in the arena of … financial technology … Although the Toolkit is not yet comprehensive, it focuses on the core tech products and themes in the financial technology space. It provides case studies to showcase how fintech is being utilised for development.
Dr Arjoon Suddhoo, Deputy Secretary-General, Commonwealth Secretariat
9.3.1 Establishing Context environment—that is, it must establish the At the very outset, any government must context in which it aims to facilitate fintech: reflect onwhy it is seeking to create such an
In 2019, The Bahamas … experienced one of the largest hurricanes to ever blow through the region and almost 100% of the banks were thoroughly destroyed. At the moment, the banks are still not fully operational, which really frustrates a lot of residents there. They have no means to send money, to receive money or even [to] commercialise with dignity. At the moment, a lot of residents are left with no money because prior to the hurricane they had been storing physical cash in their homes. It is a very sad realisation where we have discovered some newfound meaning to establishing [a CBDC]. There are true, meaningful and tangible ways to use and propagate this agenda. Obviously, it is also used to strengthen our national defences against [money laundering] as well as other illicit activities that are being carried by cash today and also [to] reduce the reliance on cash usage in the domestic market.
Chaozhen Bobby Chen, Assistant Manager E-Solutions, Central Bank of The Bahamas PART 2 90 Action Framework for Creating an Enabling Environment for Fintech
As it does for all of its policy-making, the Motivation government will engage in this sense- Any government seeking to facilitate fintech making by: must clearly define and communicate its motivation for doing so. For example, it • attending industry events to might see fintech as a solution to one or understand current trends; more policy goals. It might be responding to market behaviour or demand. It might • compiling and dissecting research be trying to align itself more nearly with its reports; trading partners. • meeting with industry, academic and consultative experts; For the Eastern Caribbean Central Bank (ECCB), the motivation was a need to remedy • commissioning a study of the market financial exclusion and to lower the high and country-specific opportunities; costs to consumers of doing business with and/or commercial banks in the Caribbean region. It recognised the opportunity that a new, • convening one or more multistakeholder real-time payments system offered in terms working groups that span the public and of affordability and accessibility, and it was private sectors and reflect the country’s eager to harness that system to fuel financial or region’s strengths. inclusion:
DXCD Caribe is a secure, accessible, real-time payment system in the Eastern Caribbean Currency Union [ECCU] … [W]hen we look at the DXCD Caribe, we have to consider the ultimate objective we are trying to achieve. We ask questions such as: why are we building this product? What platform capabilities are desired? Who are the players who are going to use the system? How are we going to interact with the platforms?
Sharmyn Powell, Chief Risk Officer, Eastern Caribbean Central Bank
Having recognised the potential of fintech transformational cost and performance to deliver a powerful policy outcome, the improvements, but introduce technology ECCB next assessed what technology risk? it should use. Should it base the system on older technologies that were proved The ECCB actively pursued a disciplined and stable, or on newer developments approach to this question, weighing up risk such as blockchain that would offer and benefit in the context of its goals:
… Once we are able to answer those questions, we are able to determine the best solutions we can use to deliver this product. We have chosen a blockchain product. Based on our research, we think this is best suited to deliver the product we want to provide our citizens.
Sharmyn Powell, Chief Risk Officer, Eastern Caribbean Central Bank 91
Bermuda, meanwhile, assessed its own ‘vertical’ sector knowledge (of industries financial services strengths and decided such as insurance or tourism) and ‘horizontal’ to root its enabling environment on both competency around regulatory equivalence:
It was decided to leverage Bermuda’s reputation as a top jurisdiction for financial services, reinsurance and insurance to build an ecosystem for the fintech industry. We have regulatory equivalence along with Switzerland, which means that an insurance company that is domiciled in Bermuda can write business anywhere in the [European Union] or North America as if they were physically domiciled in those jurisdictions, but the company is in Bermuda. We want to do the same thing for the fintech industry as we try to create this kind of ecosystem or environment, where companies can set up their businesses here and benefit from our established reputation in tourism, international business and reinsurance, in financial services.
Major Allan Wayne Smith, Head, Fintech Business Unit, Government of Bermuda
If we understand acutely why we want Bermuda and Malta), the fintech initiative to establish a robust fintech-enabling is sponsored by both the premier or prime environment, we will be well placed to align minister’s office and a governing regulatory our subsequent strategy, policy, planning body, such as the financial regulator or the and implementation towards a successful central bank. In others, the regulator or outcome. central bank is driving fintech focus and its chief executive is the champion. Examples Ownership include the Monetary Authority of Singapore Understanding our context is only one (MAS) and the Financial Conduct Authority part of the puzzle, however; if we intend to (FCA) or the Bank of England in the UK, translate that understanding into action, we which collaborates with the Department for must be certain to attribute ownership. International Trade (DIT) and Her Majesty’s Revenue and Customs (HMRC), among other Government must take clear ownership partners. at the outset, identifying and empowering someone to champion the initiative. The When a government initiative in a complex, fintech champion may be the head of state, multi-stakeholder domain such as fintech a cabinet minister, a central bank governor is pushed from below only by industry or an equivalently placed individual. With professionals and without solid sponsorship sponsorship at a senior level in government, at a senior government level, the story is the fintech task force will be more likely to invariably the same: the initiative struggles to overcome organisational inertia, to maintain achieve traction and fails. momentum, to secure sufficient resources, and to successfully co-ordinate action 9.3.2 Strategic Analysis among governments and/or between the Once we have established our context, we public and private sectors. must analyse that context strategically. While there are myriad tools that a government or In some countries that have focused on the fintech task force can use to that end, we enacting progressive regulations (e.g., will look at only the most common—namely: PART 2 92 Action Framework for Creating an Enabling Environment for Fintech
• SWOT analysis; Figure 9.1 SWOT analysis.
• PESTLE analysis; Strengths Weaknesses • gap analysis; and
• systems mapping.
SWOT Analysis Opportunities Threats Any government proposing to create an enabling environment for fintech must first analyse its strengths, weaknesses, opportunities and threats (SWOT). Such analysis—SWOT analysis—is a common tool in developing strategy, and in this the extent to and ways in which they impact context it will focus keenly on the nation’s on any given country or region and relate to a financial services capabilities. For example, proposed initiative will vary. The government one nation might have a strong insurance or fintech task force must take care to narrow industry. Another might have greater its focus and analyse most closely those capacity in payments or an attractive factors that are relevant to its own specific business tax regime. Yet another might context. have strengths in asset management or in outsourced software development. Few, if any, nations are equally effective Gap Analysis in all aspects of financial services and, by A systematic gap analysis is a tool that the establishing those areas in which it excels, government and fintech task force can use the government will expose the strongest to explore its current context, to identify foundation on which it might build an existing shortcomings and to craft solutions enabling fintech ecosystem. that meet those needs.
Any SWOT analysis is typically set out as a At its simplest, a gap analysis comprises 2 × 2 grid (see Figure 9.1), each segment of four steps—or, more properly, four which is populated with key bullet points that questions: allow the stakeholder to explore the factors at play. 1. Where are we now?
PESTLE Analysis 2. Where do we want to be? Another familiar framework for strategic analysis of the context in which we intend 3. What is the gap between where we are to introduce the fintech initiative is PESTLE now and where we want to be? analysis—that is, analysis of the political, economic, social, technological, legal and 4. How can we close that gap? environmental (PESTLE) factors at play. The ECCB conducted gap analysis when To some extent, the Toolkit itself has already developing its blockchain payments explored a wide range of such factors, but system: 93
… [W]hat we did was undertake an analysis of our existing information security policies against the requirements of DXCD Caribe to see what gaps there were and what new policies [we] would need to implement. To date, we have updated our information security policy paying special attention to [anti-money laundering] AML industry standards, not only for blockchain, but [also for] the entire system, in terms of the best security practices we need to have internally to deliver the product that would best serve the people of the region.
Sharmyn Powell, Chief Risk Officer, Eastern Caribbean Central Bank
Systems Mapping viable for some lenders to participate in Finally, and in the most detail, systems the market and they withdrew, leaving mapping allows us to visualise multiple consumers with fewer choices, reducing stakeholders and understand how they relate competition and diminishing innovation. to one another in the established context. That systems map then informs systems In that case, while the government swiftly thinking, revealing new opportunities— tried to correct its course, had it constructed potential collaborators—and allowing us to a systems map and engaged systems militate against unintended consequences. thinking before implementing the measure, it could have avoided this outcome. Had For example, one government with which it identified the risk, the government we spoke had tried to manage the costs would have facilitated dialogue among of new fintech to consumers by putting in stakeholders and found an alternative place interest rate caps—a policy tool that intervention. some World Bank economists believe to be ineffective (see Chapter 1). These caps Bermuda describes its nuanced risk meant that it was no longer economically management framework:
Some jurisdictions have taken the view that they can take existing case law or legislation and try to shoehorn these new innovative, disruptive companies into global legislation. That does not work. It is not what they need and will not encourage innovation and drive good options. It will not allow these companies to come and set up and create in a free manner. We take the view that it is about understanding the risks and establishing rules and laws around them.
The four types of risk that we have identified are business risks, custody risks, cybersecurity—many of you will have heard that it is not a question of if but when you will be hacked, so it is important for companies to develop strong cybersecurity policies—and compliance around [know your customer] KYC, know your customer’s customer (KYCC), anti-terrorist financing and AML to ensure that your business plan and operating principles and methods are positioned so that the company is sound and can avoid these types of risk.
Major Allan Wayne Smith, Head, Fintech Business Unit, Government of Bermuda PART 2 94 Action Framework for Creating an Enabling Environment for Fintech
Figure 9.2 is an example systems map environment, the central bank, finance illustrating a policy-driven clean energy ministry and even a technology ministry ecosystem for the government of Alberta, might be part of the core system, while Canada. fintech start-ups and incumbent banks might be part of the broader environment. In Figure 9.2, the inner box defines the core system, while the outer box spans This type of systems mapping was integral the whole of the relevant environment. to the approach that Bermuda took in In a systems map of a country’s fintech considering its approach to fintech:
Figure 9.2 An example systems map.
CENERG’s Environment
CENERG System
Science Monitoring Modelling
Changes to Environment Reporting Economics
Policy
Allocation of Advocacy Natural Resources
Core Operations Elected Officials
Albertans including Government Services Companies Groups, Municipalities, Aboriginals, Media
Labour Force Non-Albertans
Results in Create Create need for Engage in Informs
In uence(s) Create issues Creates info for Shapes Regulate
Provide Creates Incentives for assistance & revenue for business $ grants to
Source: A Ryan, M Leung (2014). ‘Systemic Design: Two Canadian Case Studies’. FormAkademisk, 7(3) [online]. Retrieved from: https://journals.hioa.no/index.php/formakademisk/article/view/794. Used under Creative Commons licence: https://creativecommons.org/licenses/by/4.0/ 95
… [W]e are trying to look at where fintech is going. That is where blockchain starts to fit in. When we look at what is really happening in the long term, it is taking that traditional, vertically integrated stack, where you had innovations on payments, remittance and those layers, and the innovation happening on it, traditional fintech with Square and Alipay. We are seeing, because of these open distributed ledgers, the ability to start separating out the base core function of a bank, which is custody, and have open interoperability on top of it, in terms of accounts.
That allows us to generate data insights and have access to information, which means that, instead of having to build that vertical stack, like you saw with Square, of payments, point of sale and then lending, we could have multiple players sharing and interoperably driving the same data, to drive new services and innovations that do not require a whole stack. It can be more narrowly focused on a specific area of business, but with a much more global scale. We are going to see more innovation in lending that takes a global approach and can drive more efficiency and apps that specialise in each one of [the] areas leveraging the core infrastructure of custody, combined with open standards and interoperability. Back to that parallel of what happens when we digitise and can drive more insights, how do we drive control and leverage this kind of innovation?
Denis Pitcher, Chief Fintech Adviser to the Premier, Bermuda
9.3.3 Project Planning take to implement the approach on which The next stage, project planning, will they have decided based on that analysis. necessarily be based on the results of It includes scheduling the project and strategic analysis. developing a timeline, with key milestones, contingencies and gate reviews, and it Planning will involve identifying the specific demands that we anticipate the resources actions that the government, fintech necessary, as well as the metrics that will task force and other stakeholders must be indicative of our success:
Contingency planning means you can then expand the horizon of risk taking as you are gaining assurances that the idea is moving along.
Marcelo Ramella, Director, Financial Stability Department, Bermuda Monetary Authority
Governments must carefully consider zero-balance, zero-activity bank accounts. such metrics. For example, some countries Subsequent efforts in these and other have measured the success of fintech countries have gone on to measure not initiatives aiming to tackle financial only account ownership, but also activity inclusion by means of the number of within the account, with some countries bank accounts as a percentage of the now drilling down to add value by measuring total population. They swiftly recognised, whether core household spending runs however, that this was a worthless measure through the account or only select and of nothing more than newly created discretionary spending. PART 2 96 Action Framework for Creating an Enabling Environment for Fintech
Crucial to planning for some governments outside the Commonwealth have even will be the statutory time frame for passed fintech-specific legislation after introducing new legislation or expanding recognising that extant market activity fell existing fintech mandates. outside the scope of existing laws.
For example, Australia had granted few The decisions made and the approach new banking licences in 20 years,3 but when refined during the planning process will the government decided to target greater help to define the organisational mandate competition in the market, it formalised of fintech start-ups. Not only will the a consumer data right (CDR) to facilitate government, fintech task force and all open banking, and it introduced new other stakeholders, including start-ups, regulations to facilitate choice and reduce understand the scope of their powers and costs for consumers.4 Likewise, when Kenya the expectations that they must meet, but sought to enable the launch of M-Pesa also they will uncover those areas in which and subsequently to adapt its evolving they need to work collaboratively—both environment as more and more Kenyans among themselves and across jurisdictions. began to use the mobile payment system in their everyday lives (see Case Study Bermuda contemplated both risk and 10.2), it needed to develop a fintech-related innovation in designing its fintech efforts as legislation regime. Some states within and part of a global financial services system:
The key thing is looking at what your risk thresholds are and how you contain the risk but allow for innovation and what fits your jurisdiction. For us it is looking at how we embrace this innovation but constrain the risks well enough that we do not put our global industry at risk. For your own jurisdictions, it is looking at your own place. The biggest challenge … is the potential to be excluded from correspondent banking and shut out of the global banking system.
How do we foster innovation? There have been a lot of moves with the interbank settlement network in trying to get around some of these problems and have other opportunities. How do we collaborate as jurisdictions to enable that, and how do we create environments that start building on some of this future vision that we are seeing globally around digital currencies and the potential?
Denis Pitcher, Chief Fintech Adviser to the Premier, Bermuda
9.3.4 Resource Acquisition • institutional capacity; and Building on project planning, resource acquisition demands that governments and • collaborators. the fintech task force gather the ingredients without which the initiative will fail. Resources, Funding is self-evidently a necessary in this context, can be broadly defined and we ingredient in creating an enabling will focus here on four key categories: environment for fintech. Some of this may come directly from government • funding; sources, while some may be secured from international organisations such as the World • personnel; Bank, the IMF, the Asian Development Bank 97
(ADB), the Inter-American Development ensure the success of the initiative. Bank (IADB), the African Development Bank Identifying, enlisting and co-ordinating (AfDB), one or more export–import banks or collaborators from inside and outside of private foundations, among others. government is an essential component of resource acquisition. Government Personnel need to be recruited to the effort. ministries (and corresponding industry Dedicated staffing is recommended, but it representatives) ranging from education may be supplemented by full-time and/or to information and communications part-time team members seconded either technology are key players; economic from within the central bank or finance development units are also likely to add ministry, or from across other government value. departments or agencies—noting that it is not always easy to identify or attract fintech Collaboration has proved to be important professionals with the skills and backgrounds in risk management and stimulating that will allow them to support the initiative opportunity. For example, when Canada’s effectively. federal government consulted on its efforts to streamline and innovate the Canadian Governments may need to build payments system,5 that consultation in institutional capacity around fintech. turn led private-sector actors to create While professionals may be well versed in Verified.me, an identity utility for the financial traditional banking and financial systems services industry, combining the experience management, they may not have been of large incumbent financial institutions with exposed to the dynamics, technologies start-up nimbleness to excellent effect.6 and participants in the fintech ecosystem. To remedy this, a government can draw Collaborating across borders is another on global expertise, diverse experiences opportunity that effective resource and case studies by enrolling personnel in acquisition will deliver. International groups online learning with leading universities. and networks, such as the Global Financial Bespoke in-person workshops can also help Innovation Network (GFIN), the Finance governments to localise that learning to Directorate of the Organisation for Economic meet the specific needs of its own market. Co-operation and Development (OECD), and the World Economic Forum (WEF) working Because fintech is a domain that spans groups, can be precious partners in new disciplines, collaborators will help to fintech initiatives:
[These partners] provide for private-sector concierge services for assisting new businesses looking to enter the market to establish themselves with key stakeholders and players in the jurisdiction.
Alex Marshall, Founder, BermudaChain
9.3.5 Early Implementation resources, we can start to put ‘flesh on the Once we have established our context, bones’ with procedures and guidelines— analysed that context strategically, planned the tools with which we will implement the project and acquired the necessary our initiative. Among them will be specific PART 2 98 Action Framework for Creating an Enabling Environment for Fintech
guidelines and other materials to support While not all governments will do the same, government and personnel in delivering the Bermuda focused first on embedding the initiative, as well as communications materials legislative regime: aiming to explain it to external stakeholders.
Developing a fintech ecosystem in your jurisdiction starts with legislation. You do not want the country to be the wild, Wild West and it could be like that if you do not have rules. Most human beings are creatures of habit and while we like to be creative, disruptive and anti-authoritarian sometimes … it works better if we have rules because they make [for] fair play, as with any endeavour in life.
Major Allan Wayne Smith, Head, Fintech Business Unit, Government of Bermuda
Indeed, the legislative process offers overcome stakeholder resistance before the opportunities for further consultation final stage, launch. and public comment, which facilitates stakeholder voice and can include rounds of To this end, Bermuda also thought critically expert testimony or other formal comment about communicating the unique assets it mechanisms to ensure that critical input would bring to the global stage with respect to shapes the laws enacted. In this way, the fintech, noting candidly that no country is alone early implementation stage can build in seeking to offer attractive environments buy-in and, carefully handled, can allow to new business and that a country’s ability to governments and fintech start-ups to differentiate itself rests on its strengths:
It is important to understand your economy proposition and what it is that you and your country can do. You must focus on your value proposition as you cannot be all things to all people. Identify what you can do and do that well, while marketing that to your internal and external stakeholders. … One of the important tenets is stakeholder consultation and you cannot implement an effective policy if you have not done useful and collaborative conversations with your key stakeholders.
Major Allan Wayne Smith, Head, Fintech Business Unit, Government of Bermuda
9.3.6 Public Launch to share the benefits and opportunities of With all of the necessary structures in the fintech initiative with public and private place, the success of the final phase of the stakeholders. A continuous engagement initiative—public launch—will depend on process aligned with the strategic objectives a robust communications strategy. Clear of the fintech initiative will be key, as communications at this stage will continue Bermuda confirms: 99
You have to bring people along and communicate with internal and external stakeholders so that they know exactly what you are trying to accomplish. There is no point implementing an initiative that the whole country does not understand as they will not follow you or support the initiative … That is … where you can learn from our experience. We need to make sure that we devote the relevant resources and have a proper communication strategy with frequency of communication to deliver the messages to the entire country about what you are trying to accomplish to achieve buy-in.
Major Allan Wayne Smith, Head, Fintech Business Unit, Government of Bermuda
Moreover, maintaining that When creating an enabling environment communications strategy beyond launch for fintech in any jurisdiction, a government will help to secure continued support must take into account all of the factors that and a receptive audience for the fintech are specific to it locally. If we simply mimic outcomes of the enabling environment we the activities of any other jurisdiction without have worked hard to create. tailoring the steps to meet our own needs, we set ourselves up to fail. 9.4 Building on Success In outlining these steps—from establishing As governments within the Commonwealth context to public launch—we have set out apply this Toolkit, they will valuably gather their best practices emerging from our research experiences and collate their learning, helping into and interviews with multiple individuals one another to refine the recommendations and governments, drawn both directly set out here and informing further iterations from experiences in launching fintech of the Toolkit itself—a collaborative spirit initiatives and from other government that the Bermuda Monetary Authority (BMA) interventions. models:
The Bermuda Monetary Authority (BMA) strives to maintain fit-for-purpose regulation. This type of iterative approach is often rare among regulators, but you will see it in Bermuda. Innovation is in the BMA’s DNA and we know that a quick yet prudent response to the exponentially evolving market dynamics will help maintain Bermuda’s position as a jurisdiction of choice. The Digital Asset Business Act was released in 2018, amended in 2019, and will likely be amended further if additional market innovations or events create the need for further requirements and controls. Our aim is to strike a balance between protection and pragmatism—upholding our high standards, particularly from a risk perspective, while acknowledging innovation and market needs. To accomplish this, we frequently engage with the local and international ecosystem, including our global regulatory counterparts, to benchmark progress and provide and solicit feedback on regulatory innovation. This collaborative spirit enables us to share best practices for the regulation of digital assets and digital finance technologies, as well as [to] conduct cross-border trials in a global sandbox.
Aqsa Zubair, Fintech Specialist, Bermuda Monetary Authority PART 2 100 Action Framework for Creating an Enabling Environment for Fintech
This iterative process of continuous 2 Al Jazeera (2018). ‘Hacked: The Bangladesh learning is one that governments in Bank Heist’. 24 May [online]. Retrieved from: other jurisdictions, ranging from Kenya to www.aljazeera.com/programmes/101east/ Canada, practise, incorporating the lessons 2018/05/hacked-bangladesh-bank-heist- learned from early fintech experiments into 180523070038069.html 3 Eyers J (2017). ‘New Breed of UK Start-up refinements to legislation and regulation. Banks Force Licensing Rethink. Australian British Chamber of Commerce, 26 April [Blog]. In the dynamic and ever-evolving arena of Retrieved from: www.britishchamber.com/ fintech, continuous learning is crucial. No blog/new-breed-uk-start-banks-force- single statute or regulatory regime can be licensing-rethink-james-eyers-afr both specific enough to suit current needs 4 Finextra (2020). ‘Australia Gets Ready for and yet general enough to withstand years Open Banking’. 11 February [online]. Retrieved of innovation. A robust working group of from: www.finextra.com/newsarticle/35264/ stakeholders can help a government to stay australia-gets-ready-for-open-banking up to date with emerging technologies and 5 Shinfield J, Murray B, Teolis J (2012). emerging policy issues, allowing it to create ‘Canada: The Final Report of the Task and sustain a dynamic enabling environment Force for the Payments System Review Arrives’. Mondaq.com, 4 April [online]. for fintech that stays aligned with societal Retrieved from: www.mondaq.com/canada/ goals. financial-services/170662/the-final-report- of-the-task-force-for-the-payments- Endnotes system-review-arrives 1 International Monetary Fund (IMF) 6 Paddon D (2019). ‘Canada’s Big Banks Launch (2018). The Bali Fintech Agenda. IMF Verified.Me Network to Help Prevent ID Policy Paper, October [online]. Retrieved Theft’. CBC.ca, 1 May [online]. Retrieved from: www.imf.org/en/Publications/ from: www.cbc.ca/news/business/canada- Policy-Papers/Issues/2018/10/11/ big-banks-launch-verified-me-network- pp101118-bali-fintech-agenda dataidentify-theft-1.5118471 101
Chapter 10 Case Studies PART 2 102 Case Studies Case Studies
Key points
The Commonwealth FinTech Toolkit closes with four case studies of fintech interventions promoting growth and development. In doing so, it aims to highlight the sensitivity with which governments should apply fintech in their own distinct contexts.
The case studies are as follows:
• Case Study 10.1 The Journey of Emerging Technologies: Blockchain in Papua New Guinea
• Case Study 10.2 Pioneering Mobile Money in Kenya
• Case Study 10.3 Digital Assets Businesses in Bermuda
• Case Study 10.4 Malta’s Support for Virtual Financial Assets
Drawn from primary research in the form more) and at those on the cutting edge of of interviews with representatives of emerging technology (such as Papau New Commonwealth governments (see Appendix Guinea’s incorporation of biometrics and 1), these case studies have been selected blockchain into a digital identity system). to highlight the use of fintech in developing economies and small states. Given that the Case Study 10.1 The Journey of Emerging vast majority of Commonwealth countries Technologies: Blockchain in Papua New are developing, rather than developed, Guinea nations, the focus is on these. While nations 10.1.1 Introduction such as the United Kingdom, Canada and This case study relates to the Bank of Papua Australia have taken sophisticated and highly New Guinea (BPNG), the country’s central evolved approaches to fintech (among them, bank, and its exploration of distributed ledger digital banking in the UK, digital identity in technology (DLT)—that is, blockchain—and Canada and digital assets trading in Australia), the application of emerging technologies in case studies of these would be unlikely to be its pursuit of financial inclusion. applicable or portable to a small sub-Saharan African country or a Caribbean island nation. 10.1.2 Context One of the pillars in the BPNG’s 2016–20 These examples illustrate different types of Strategic Plan was the pursuit of financial fintech policy and implementation, across inclusion for all PNG citizens.1 As regulator blockchain and digital identity, mobile of the economy, BPNG is duty-bound to money and digital assets. In addition, an investigate new and emerging technologies, effort was made to look both at mature to understand the impact that they have on policies and environments (such as Kenya’s banking regulations, and to develop a culture work with mobile money over ten years or of embracing new and emerging technologies. 103
Quick Facts
Country: Papua New Guinea (PNG)
Population: 8.606 million
Gross domestic product (GDP), 2018: US$23.43 billion/£19.05 billion
GDP per capita, 2018: US$4,298.70/£3,494.90
Top three industries: petroleum and natural resources; logging and agriculture; fisheries and marine
Source: World Bank (2018). ‘Papua New Guinea’ [online]. Retrieved from: https://data.worldbank.org/ country/papua-new-guinea
10.1.3 Challenges/Problems but less than 5 per cent of the • PNG is one of the largest and most population have a smartphone. mountainous islands in the world, and these distances and terrain create 10.1.4 Policy Intervention telecommunications issues. In late 2016, BPNG began to explore DLT and the potential impact that virtual currencies— • There are approximately 8 million especially Bitcoin—might have for the people in PNG, of whom only 18 per regulator. cent live in urban centres, making Under the leadership of BPNG Governor Loi reaching all citizens difficult. Bakani, a research programme was tasked with understanding these in more detail and • There are more than 800 unique investigating how DLT might be used towards languages spoken in PNG, making basic greater financial inclusion. This included interpersonal communications difficult. sponsorship of and participation in the Fintech Worldwide London Blockchain Conference and • Some 85 per cent of the population do Hackathon in 2017—an event that led to the not have a bank account and hence the winning concept of a handheld, SMS-driven drive for financial inclusion. device. Initially labelled ‘The Papuany Box’, but later renamed ‘IdBox’, the device incorporated • Birth registration is at less than 5 per a biometric reader, ran on solar power and did cent and therefore identity is a major not require internet connectivity—overcoming impediment to financial inclusion. three challenges specific to digital identity in the PNG operational environment. • Only 20 per cent of the population have access to electricity, while internet Field Trials connectivity is poor, unreliable and not With funding from the Australian Department widely available. of Foreign Affairs (DFAT) and the Asian Development Bank (ADB), this and further • More than 75 per cent of the population iterations of the device and its successor have an SMS-capable mobile phone, were brought to PNG for field trials. PART 2 104 Case Studies
Successful proofs of concept emerged from and Vesulogo, Bisiatabu District, both in trials in the villages of Lalaura, Abau District, Central Province (Exhibit 10.1).
Exhibit 10.1 Papuany Box field trials.
Notes: Solar power pack; IdBox identity device; fingerprint reader; SMS SIM card number; combined and encrypted Source: Central Bank of Papua New Guinea
Exhibit 10.2 PNG Digizen protype field trial.
Notes: Any Android device; scan and issue modes; encrypted card; KYC/e-KYC compliance; two-factor authentication; biometric-ready; no need for mobile ownership; online/offline capability; multipurpose card Source: Central Bank of Papua New Guinea
A revised version using near-field The BPNG Regulatory Sandbox communication, biometric and photographic The BPNG regulatory sandbox was recognition, and a trust-based hierarchy of expected to: know your customer (KYC) compliance (Exhibit 10.2) was the last to undergo final field trials • provide an opportunity to test before submission in January 2020 to testing innovations in a safe environment; in the BPNG regulatory sandbox—the first • stimulate the interest of local and regulatory sandbox to be launched in the international innovators and investors South Pacific. in fintech; and 105
• protect consumers interested in trying sandbox will facilitate interoperability across new technologies. jurisdictions in the future.
In this way, the PNG government aimed The BPNG will be welcoming interest in to lower financial services fees and speed participation in its sandbox from any of up processes, while insisting that those the following, subject to their fulfilment of successful in the sandbox deploy their BPNG’s entry criteria and principles: initiative in PNG within nine months of the trial ensures that PNG citizens reap the • authorised financial institutions already reward of the BPNG’s investment. active in PNG and hence already subject to BPNG’s regulatory review; In-house solution architects designed the BPNG sandbox, aiming to emulate—but • any institution not currently under not duplicate—many of the features found BPNG’s purview, but whose innovation in the sandboxes of: is such that it may come to require licensing or regulatory approval; • the Australian Securities and Investment Commission (ASIC); • actors from outside the financial services sector who are developing • Bank Indonesia; solutions that can accelerate financial and social inclusion, in • Bank Negara Malaysia; recognition of the relationship of financial services with industries such • Bank of Thailand; as technology, telecommunications and health care; • Central Bank of Bahrain (CBB);
• Monetary Authority of Singapore • local fintech developers, such as new (MAS); entities in PNG that have developed or are developing solutions/concepts • the UK’s Financial Conduct Authority outside traditional business models (FCA); and with positive potential impact on inclusion; and • Hong Kong Monetary Authority (HKMA). • overseas fintech developers, such as start-ups and other entities domiciled Technical advisers and subject-matter outside PNG that have developed or experts from the ADB provided quality are developing solutions/concepts assurance of this design. In addition, the outside traditional business models BPNG entered into discussion with the that may represent new possibilities. six other members of the Pacific Islands Regional Initiative (PIRI) Financial Technology A communications and awareness Regional Regulatory Sandbox (i.e., the central programme was therefore targeted at banks of Fiji, Samoa, Solomon Islands, Timor- members of PNG’s National Payments Leste, Tonga and Vanuatu). As a result, Council first, then financial institutions and the BPNG hopes that its own regulatory finally fintech developers. PART 2 106 Case Studies
To date, there has been no central • make PNG more attractive to government participation in the development innovators and investors, and of the BPNG regulatory sandbox. improve interoperability across jurisdictions; and 10.1.5 Outcomes Recognising its role in education, the BPNG • protect consumers keen to use new has been active in ensuring that both technologies, but wary of risking their government and industry engage with and hard-earned savings. are educated about key fintech concepts and their potential to drive financial inclusion. Within nine months of the conclusion of The BPNG convened and hosted the successful testing in the sandbox, the BPNG very first blockchain seminar in PNG and requires participants to implement their facilitated establishment of an industry body solution in PNG. To do so, they must comply (the PNG Digital Commerce Association) in with PNG’s regulatory framework, as would March 2019, which sponsored and facilitated be the case had they not participated in the the training of 24 locally recruited software sandbox. developers in developing DLT-based solutions—another first for PNG. Applicants are then free to market their solution in any jurisdiction. In addition, the BPNG has attended and participated in two additional London 10.1.6 Conclusion blockchain hackathons and conferences, and The BPNG takes pride in its leadership been invited to speak at a large number of in exploring new technology for financial financial services forums across the world. inclusion and is eager to push the boundaries and harness technology to The BPNG regulatory sandbox originally improve financial inclusion in a challenging and primarily targeted one of the Bank’s environment. key strategic business objectives: financial inclusion. In pursuing this objective, BPNG Case Study 10.2 Pioneering Mobile Money has aimed to: in Kenya 10.2.1 Introduction • reduce financial transaction prices and This case study looks at Kenya’s service fees; development of a mobile money solution known as M-Pesa, as a collaboration • provide a safe and protected between both the public and private sectors, environment for the design and testing aiming to drive inclusion for its population. of fintech innovations; 107
Quick Facts
Country: Kenya
Population: 51.393 million
Gross domestic product (GDP), 2018: US$87.908 billion/£71.470 billion
GDP per capita, 2018: US$3,461.40/£2,814.10
Top three industries: agriculture; industry and manufacturing; services (wholesale and retail trade, transport, government, financial, professional and personal services)
Source: World Bank (2018). ‘Kenya’ [online]. Retrieved from: https://data.worldbank.orgcountry/kenya
10.2.2 Context offered a prize of approximately £1 million The Central Bank of Kenya (CBK) has set out for innovative solutions to the inclusion a series of priorities around digital finance challenge. A consortium of private sector and the digital economy. These priorities actors, including CBA Bank, Safaricom and emerged out of its work on promoting various microfinance players, collaborated to financial inclusion. propose M-Pesa.
10.2.3 Challenges/Problems In the process of evaluating and creating the • When work on financial inclusion framework to support M-Pesa, CBK looked to began, in the early 2000s, there was the practices of a variety of other jurisdictions, very limited access to formal financial including advanced economies such as the services in Kenya: the country had a European Union, United States and Australia. population of about 30 million, but only The Bank found, however, that the situation about 2.5 million had bank accounts. in the Philippines was most closely analogous with its own and hence served as the most • At that time, banks were closing useful model in focusing on a similar set of branches and withdrawing entirely from issues with a similarly excluded population. rural areas, further restricting Kenyan people’s access to financial services. At the outset, the Kenyan government recognised that it did not yet have in place • In 2006, a financial access survey the regulatory framework necessary to found that only 27 per cent of support the solution. The government respondents had access to even basic therefore enacted a package of legislation formal financial services, such as for to create an enabling environment, including transferring money. laws focusing on:
10.2.4 Policy Intervention • anti-money-laundering (AML); The Central Bank of Kenya (CBK) was initially supported in its efforts with seed funding • consumer protection; and from the UK’s Department for International Development (DfID). In 2004–05, DfID • payments systems. PART 2 108 Case Studies
More recently, the government has will take the lead on delivering digital moved to license many more players in the infrastructure, while the private sector market to increase competition, promote ensures continuous improvement of its interoperability between systems and most products to meet continuously evolving recently, in 2019, issue additional guidance customer needs. regarding cybersecurity. As Kenya looks back at more than a 10.2.5 Outcomes decade of success and looks towards the Financial inclusion in Kenya has soared from next, it will be clear that mobile money is 27 per cent in 2006 to 82 per cent in 2019, a foundation for a broader set of financial according to the latest survey. The CBK services. While the legacy focus has also tracks, on a monthly basis, the number been on payments, a progressive plan will of accounts holding balances of mobile incorporate a broader set of higher-value money, the number of agents helping to financial services, such as credit, savings, facilitate those accounts and other metrics insurance and pensions. showing that the intervention has actually integrated into daily life. In doing so, it As this focus shifts, the needs that the takes care to look at meaningful activity products must meet become more rather than at ‘zero balance bank account’ sophisticated, reflecting more closely the inclusion—that is, at bank accounts held everyday lives of Kenyans. For example, but not necessarily used. one of the biggest challenges for families is the concept of ‘shocks’—that is, of The government has now begun to broaden unexpected events, such as a costly the platform created by mobile money to health emergency and/or long-term align with other government objectives, health issues that impact negatively on such as digital finance and the digital income. Traditional forms of health and economy. The enabling ecosystem and the other insurance are unlikely to meet the CBK’s supporting activities have evolved needs of those who have, until recently, considerably over the years—and they been financially excluded; hence there continue to evolve. While the initial focus is a need for public and private actors was on access, for example, the CBK is now to explore financial flexibility and the looking at promoting usage and quality of potential ways in which fintech might be service (QOS) while amplifying consumer leveraged to deliver greater resilience to protection. the household.
10.2.6 Conclusion By looking more holistically at the Kenya’s journey into mobile money revealed framework, Kenya can now start to build that the effective inclusion is not only on successfully established mobile money about regulation and policy; both public foundations to transform the lives of Kenyan and private actors must co-ordinate citizens. their efforts if inclusion is to be achieved. The public sector will create an enabling Case Study 10.3 Digital Assets environment, but the private sector must Businesses in Bermuda invest in marketing, product development, 10.3.1 Introduction distribution, consumer engagement and This case study considers how the customer services, etc. The public sector government of Bermuda has built a 109
supportive ecosystem in which businesses cryptocurrencies and other kinds of tokens that focus on digital assets (such as built on blockchain) can thrive.
Quick Facts
Country: Bermuda
Population: 61,000
Gross domestic product (GDP), 2018: US$6.127 billion/£4.981 billion
GDP per capita, 2018: US$99,363/£80,783
Top two industries: international business (primarily financial services); tourism
Source: World Bank (2018). ‘Bermuda’ [online]. Retrieved from: https://data.worldbank.org/country/ bermuda
10.3.2 Context of helping fintech to develop. The premier In 2017, Bermuda elected a premier who and the minister of national security both had a background in both information and attended Davos in January 2018, where they communications technology (ICT) and met with influential players, inviting several economics. As one of his policy priorities, blockchain innovators to the island a few David Burt said that he wanted to make days later to map out the industry’s needs. Bermuda more technology-friendly.
10.3.3 Challenges/Problems Evaluating the Bermudian economy A sandbox and finding space for diversification, the economic development arm of licence enables the Bermuda government began to explore new opportunities. Within the entrepreneurs to five years to 2017, token issuances had seen significant capital raised as the test an aspect of cryptocurrency market began to develop, the business model but blockchain-related companies struggling to find jurisdictions friendly to if the entity is not these new types of security. yet sufficiently 10.3.4 Policy Intervention mature to seek a In September 2017, the Government of Bermuda established a task force dually full licence. focused on business development and policy, mandated with conceptualising ways PART 2 110 Case Studies
In creating an enabling environment for of the business model if the entity is not fintech, Bermuda sought to leverage its yet sufficiently mature to seek a full licence. long history in insurance and reinsurance. An example would be a licence allowing a In that instance, the government had business to test its compliance policy under brought policy-makers, regulators the close eye of the regulator. and industry together to shape an environment to drive innovation and In the very first instance, a business manage risk. It used this same approach to might participate in an innovation hub. At draft the Digital Assets Business Act 2018 this stage, the business will not yet have (DABA). fleshed out its business model or have proof of concept and while it wants to work The needs of the digital assets industry, closely with the regulator to develop both, on which the DABA centred, reflect the it is not ready for the heavy constraints shifts that occur when new technology is of the regulatory sandbox. The effect applied to traditional finance. For example, is that a start-up can begin to test its new technology introduces cybersecurity direction with the support and advice of risk, while new technology demands new the regulator, while minimising business approaches to compliance with global model risk. requirements such as know your customer (KYC) rules and rules countering the 10.3.5 Outcomes financing of terrorism (CFT). Custody risks The DABA has been reasonably successful that would formerly attach to traditional in generating interest from a number of paper certificates are complicated by the companies. Several companies, including unique characteristics of an asset that can Circle, have successfully applied for be digitally copied or an asset that could be licensing and the government has proposed lost if cryptographic keys were lost. amendments to the Act to bring derivative exchanges within its purview. While Bermuda The DABA anticipates that a business will came later to the fintech table than some contemplate business model risk, document jurisdictions, it has more confidence in its policies and procedures, and both (a) longevity of the businesses that it is licensing provide for risk mitigation and (b) respond because it has set a high bar in terms of effectively after a risk event occurs. risk management—a bar that is an industry benchmark. The DABA provides for a three-tier structure through which a digital asset business 10.3.6 Conclusion progresses. Bermuda’s DABA is part of a multipronged fintech strategy that incorporates numerous At its apex is the full licence—available to a elements aiming to foster growth within mature business such as Circle, which has the financial services ecosystem. The been granted a full ‘Class F’ licence (one of government is already learning from its five classes set out in the DABA).2 experiences, shaping amendments to the Act and consultation papers to refine the A sandbox licence is a modified licence regulatory framework, on the one hand, and with reduced scope and volume, granted planning for other fintech-related initiatives, to enable entrepreneurs to test an aspect on the other. 111
Case Study 10.4 Malta’s Support for to support businesses engaged in Virtual Financial Assets the issuance and management of 10.4.1 Introduction virtual financial assets (VFAs), such as This case study explores the series cryptocurrencies. of regulations that Malta has passed
Quick Facts
Country: Malta
Population: 483,530
Gross domestic product (GDP), 2018: US$14.542 billion/£11.823 billion
GDP per capita, 2018: US$42,567.20/£34,607.50
Top three industries: tourism; manufacturing; financial services
Source: World Bank (2018). ‘Malta’ [online]. Retrieved from: https://data.worldbank.orgcountry/malta
10.4.2 Context on compliance when working with Malta has been a notable banking centre for VFAs. many years, offering the flexibility of a small state while complying with European Union 10.4.4 Policy Intervention (EU) regulatory standards. As digital assets On 30 November 2017, the Malta Financial such as cryptocurrencies emerged, the Services Authority (MFSA) published a Maltese government sought to engage with Discussion Paper on Initial Coin Offerings, this new segment of the financial sector to Virtual Currencies and related Service optimal effect. Providers.3 This followed the general principles set out in a statement issued 10.4.3 Challenges/Problems by the European Securities and Markets • Digital assets—or VFAs, as Malta terms Authority (ESMA) on 13 November 2017.4 As them—are an emerging business the Discussion Paper explained, while certain and regulatory domain built on the initial coin offerings (ICOs), distributed technological innovation of blockchain. ledger technology (DLT) assets—previously referred to as virtual currencies (VCs)—and • The international regulatory response related activities could fall within the scope to VFAs has been varied, with a high of existing financial services legislation, degree of uncertainty involved in the others would be likely to fall outside that classification, regulation and oversight scope and hence be unregulated. of the entities issuing these assets and the assets themselves. The Discussion Paper proposed a policy whereby the MFSA would create a high- • Entrepreneurs and investors have been level principles-based regulation—in line seeking regulatory clarity and guidance with the high-level objectives set out PART 2 112 Case Studies
supranationally—of ICOs and certain • Chapter 2 Virtual Financial Assets service providers (namely, intermediaries Rules for Issuers of VFAs that act as brokers, exchanges, investment advisers and market makers) in relation • Chapter 3 Virtual Financial Assets to DLT assets that currently fall outside Rules for VFA Service Providers the scope of existing financial services regulation. The MFSA received ample At the same time, the MFSA also consulted positive feedback on the proposals and on achieving a higher degree of investor proceeded to draft the Virtual Financial protection under the VFA Act and raising the Assets Bill. The Bill was enacted on 20 July bar for VFA agents. 2018 and the Virtual Financial Assets Act came into force on 1 November 2018. The One of the key points outlined in the MFSA’s Act regulates the following activities when 2017 Discussion Paper was a Financial conducted in or from within Malta: Instrument Test to determine whether a DLT asset, based on its specific features, is included • the offering of a VFA to the public by an in the scope of the existing EU legislation and issuer; corresponding national legislation or the VFA Act, or is otherwise exempt. In early 2018, the • the application, by an issuer, for MFSA consulted on the test, which was to be admission of a VFA to trading on a DLT applicable both within the context of an ICO exchange; and during the intermediation of DLT assets in or from within Malta. • the activity of a VFA agent; and When published on 13 April 2018, the • the provision of VFA services. Financial Instrument Test was accompanied by detailed guidance.5 On 4 July 2018, the MFSA published a Consultation Paper on secondary legislation Further guidance followed in 2019: to be issued under the Act (the Virtual Financial Assets Regulations), which set • Guidance Notes on Cybersecurity, as out detailed provisions on exemptions, a minimum set of best practices and fees, control of assets, and administrative risk management procedures to be penalties and appeals. The consultation followed to effectively mitigate cyber closed on 20 July 2018 and, after feedback, risks; and the VFA Regulations were published on 2 November 2018. • Guidance for Credit Institutions, Payment Institutions and Electronic Having set out the legislative and regulatory Money Institutions opening accounts framework, the MFSA followed up with rules for FinTechs.6 detailing its application to operators in this field of financial services. The MFSA’s Virtual Anti-Money-Laundering (AML) and Financial Assets Rulebook comprises three Countering the Financing of Terrorism chapters: (CFT) Rules VFAs In relation to anti-money-laundering • Chapter 1 Virtual Financial Assets (AML) and countering the financing of Rules for VFA Agents terrorism (CFT) rules, VFA agents, issuers 113
and licence holders are all considered to be customers (e.g., to check whether ‘obliged entities’ under Malta’s Prevention of these assets have ever been used on Money Laundering and Funding of Terrorism the dark Web or as ransomware). Regulations 2018 (PMLFTR). As obliged entities, VFA agents, issuers and The Maltese national framework goes licence holders have ongoing obligations beyond what is provided for under the EU’s to monitor any business relationships they Fifth Money Laundering Directive (5AMLD).7 establish. Moreover, independently of that Whereas 5AMLD defines obliged entities monitoring, all three also have reporting as only (a) custodian wallet providers obligations to the Financial Intelligence and (b) providers engaged in exchange Analysis Unit (FIAU) that are triggered services between virtual currencies whenever they suspect that: and fiat currencies (leaving crypto-to- crypto exchanges outside of its scope), • a transaction involves the proceeds the Maltese framework defines obliged of criminal activity or is related to the entities as VFA agents, VFA issuers and VFA funding of terrorism; or service providers, including exchanges and service providers involved in VFA-to-VFA • a person may have been, is or may transactions. be likely to be connected with money laundering or the funding of terrorism. The MFSA has introduced the role of VFA agent as an additional AML/CFT filter to DLT Assets Other than VFAs To the ensure that the national financial system extent that a DLT asset does not qualify as is secured. Indeed, those who can be a VFA but as either a financial instrument appointed as VFA agents will already have or electronic money, any provider of a a good understanding of these AML/CFT related service (i.e., investment services obligations, and will be able to guide both and electronic money institutions) will also VFA issuers and VFA licence holders in be considered to be an obliged entity. This terms of their legal obligations. means that they too must abide by the PMLFTR and submit reports to the FIAU. Forthcoming guidance will both explain how these different crypto asset operators are Malta Digital Innovation Authority (MDIA) to meet their AML/CFT obligations and Mandated by the Malta Digital Innovation highlight particular risk factors and red flags Authority Act 2018, the Malta Digital that might emerge during risk assessment Innovation Authority (MDIA) is an or when monitoring customer activity. For autonomous public body established with example, in relation to VFA, issuers and objectives that blend consumer protection licence holders: and business development in the field of • must apply customer due diligence innovative technology arrangements and whenever interaction between a services (ITAS). The MDIA Act vests the customer and a VFA issuer or licence MDIA with functions that include regulation, holder is characterised by only supervision, policy, education and business occasional transactions; and development. Within the context of the regulation of VFAs, the MDIA is the • must have systems in place to verify competent authority under the Innovative the origin of any VFAs they accept from Technology Arrangements and Services Act PART 2 114 Case Studies
2018, which provides among other things for or OECD), aiming to harmonise its response the authorisation of systems auditors, who and regulatory framework with international have a specific role in ITAS cybersecurity. standards.
As was the case with the VFA Act, a set of Endnotes guidance notes aims to help ITAS providers 1 BPNG (2014). Strategic Plan: Bank of Papua when approaching the MDIA for registration New Guinea—2016–2020 [online]. Retrieved and certification. The guidelines clarify from: www.bankpng.gov.pg/wp-content/ and explain some of the processes, and uploads/2014/06/Final-BPNG-Strategic- reflect questions asked during public Plan-2016-2020.pdf 2 Pitcher D (2019). ‘Premier Announces that consultation, helping to increase stakeholder Circle Has Achieved a Digital Asset Business engagement. License’. FinTech Bermuda, 22 July [online]. Retrieved from: https://fintech.bm/premier- 10.4.5 Outcomes announces-that-circle-has-achieved-a- While Malta’s VFA activities are relatively digital-asset-business-license/ new, they are stirring excitement among 3 MFSA (2017). Discussion Paper on Initial Coin the blockchain entrepreneurial community, Offerings, Virtual Currencies and Related and some companies are either taking Service Providers [online]. Retrieved from: steps to domicile in Malta or contemplating www.mfsa.mt/publication/discussion-paper- registration and certification there, with on-initial-coin-offerings-virtual-currencies- and-related-service-providers/ positive potential impact on Malta’s economy. 4 ESMA (2017). ‘ESMA Alerts Firms Involved in Initial Coin Offerings (ICOs) to the Need to 10.4.6 Conclusion Meet Relevant Regulatory Requirements’. If small states are to take advantage of Statement, 13 November [online]. Retrieved emerging market opportunities with from: www.esma.europa.eu/sites/default/ meaningful financial corridors, they require files/library/esma50-157-828_ico_ a sophisticated regulator and a system of statement_firms.pdf continuous improvement that allows them 5 MFSA (undated). ‘Guidance’ [online]. to respond as the emerging technology Retrieved from: www.mfsa.mt/fintech/ intersects with an emerging area of virtual-financial-assets/guidance/ 6 Ibid. international regulation. Malta, in particular, is 7 Directive (EU) 2018/843 of the European a model of best practice, straddling both the Parliament and of the Council of 30 May 2018, Commonwealth and the EU, and engaging amending Directive (EU) 2015/849 on the in ongoing dialogue with regulatory bodies prevention of the use of the financial system in each of these domains, as well as other for the purposes of money laundering or authorities and international co-operating terrorist financing, and amending Directives bodies (such as the Organisation for 2009/138/EC and 2013/36/EU, 19 June 2018, Economic Co-operation and Development, OJ L 156/43. 115
Appendix 1 Commonwealth Government Interviews
We conducted interviews in August and • Kenya • United Kingdom September 2019 with Commonwealth nations to ensure that the • Malawi • United Republic of Tanzania Commonwealth FinTech Toolkit meets • Malta the needs of its intended audience of policy-makers and regulators, with a Generally speaking, the 19 participating focus on central banks. While interviews countries expressed a great deal of were typically with central bank officials, enthusiasm, validating the need for the in some nations another body took the Toolkit and its proposed scope. lead role in fintech, such as the Malta Financial Services Authority in Malta, The interview cohort was diverse in terms so we interviewed these instead. Two of geography, size of country and stage Commonwealth Central Bank Governors of economic development. The relevant (CCBGs) participated directly (Papau demographics (excluding Bermuda) are as New Guinea and Namibia). A further follows. discussion was held with British Overseas Territory Bermuda, leading to a case • Region Seven African countries; four study that is incorporated into the full countries from the Americas (including Toolkit document (Case Study 10.3). the Carribean); five Asia Pacific The Bahamas wished to participate, countries; three European countries but had to deal instead with the effects of Hurricane Dorian and hence may be • Population size Ten countries with included in a future version of the Toolkit. populations of <5 million and nine countries with populations of >5 million; The participating countries were: a population range from 0.2 million • Australia • Mauritius (Samoa) to 163 million (Bangladesh), with a median population size of 5 million • Bangladesh • Namibia • Barbados • New Zealand • Economic size (in gross domestic product, or GDP) Ranging from US$1.2 • Botswana • Papua New billion (Samoa) to US$3.1 trillion (United Guinea • Canada Kingdom), with a median economic size • Samoa • Cyprus of US$18.6 billion (Botswana) • South Africa • Eastern Most participants felt that the Toolkit, as Caribbean • Trinidad and proposed, would cover material appropriate Central Bank Tobago for their needs. Some felt it would be useful APPENDIX 1 116 Commonwealth Government Interviews
for building internal capacity, while a few felt 6 If you have implemented policies with that it would be useful to educate colleagues, respect to fintech, what are they? Have not only within their agency or bank, but also they achieved the results you hoped in other government agencies and ministries. for? Almost three-quarters (74 per cent) expressed interest in blended learning on how to use the About the Fintech Policy Toolkit Toolkit—to be delivered at University of Oxford 7 Does the proposed Toolkit cover and online to different constituencies. the key areas around which you have questions? The remits of the participants ranged from monitoring and compliance (narrow focus) 8 Are there topics that you want the through to economic development and Toolkit to cover that we have not proactive ecosystem building (wide focus). proposed?
Sandboxes, digital financial services and 9 Who in your organisation do you digital currencies (including central bank feel would be best served by the digital currencies) stood out as topics that Toolkit? interview subjects requested and which were not originally contemplated for specific 10 How involved do you want to be in the attention in the draft report. design process of the Toolkit?
Interview Questions 11 If training is offered on implementing About You and Fintech fintech policy and using the Toolkit, 1 What are the top three to five strategic how many people from your priorities at the central bank? organisation do you think you would want to participate? 2 Have you engaged in a formal fintech policy process? 12 Would you like training to be delivered (a) in person at University 3 Do you have a fintech specialist and/or of Oxford, (b) digitally (online) or (c) team within the central bank? both (for example, with more senior people receiving in-person training 4 If you have set specific policy objectives and more junior people getting digital with respect to fintech, what are they? training)?
5 Has your team engaged in formal 13 Is there anything else you would like training regarding fintech policy? If so, us to be thinking about as we build the which programme(s)? Commonwealth FinTech Toolkit? 117
Appendix 2 Methodology
We conducted a combination of primary and The populations of these nations ranged secondary research. from 71,000 in Bermuda to 162 million in Bangladesh, and the economies (measured Primary research comprised interviews with in GDP) ranged from US$1.2 billion in Samoa the Commonwealth Central Bank Governors to US$3.1 trillion in the United Kingdom. (CCBGs) or their teams, as well as select other government authorities on a state- In this way, we gathered a wide range of by-state basis (e.g., the discussion with Malta perspectives and data from a representative was held with the Malta Financial Services range of Commonwealth nations. The list Authority). of interview questions used is set out in Appendix 1. We contacted 47 CCBGs by email and had a 35 per cent response rate. In total, we We conducted secondary assessments of conducted interviews with 19 central banks academic research, corporate and think or equivalent authorities. tank research reports, and information from thought leaders in the fintech and financial Of these 19 interviews, 9 were of services areas. It should be noted that, given Commonwealth nations with more how relatively new fintech is and the rapid than 5 million population and 10 were of pace of change in the space, the information Commonwealth nations with less than 5 gathered from non-academic sources is million population. valuable.
The geographic spread is as follows.
Region % Africa 36.8 Americas 5.3 Asia 5.3 Caribbean 21.1 Europe 10.5 Pacific 21.1
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Appendix 3 Findings
The 19 Commonwealth countries % of the central banks who have engaged interviewed demonstrated diverse in formal fintech policy/fintech-related approaches, capacity, resource allocation training and focus around fintech. Some Yes 29 governments take a monitoring or evaluative No 65 approach, while most were developing some N/A 6 kind of policy response to or framework around fintech if they had not already taken In terms of building capacity around meaningful policy action. Virtually all those fintech generally and the use of the interviewed felt that a Toolkit would be Commonwealth FinTech Toolkit in an important resource to help with their particular, 74 per cent of central bank day-to-day work and some felt that it also respondents noted a preference for a could assist in building capacity in other blended learning approach to formal government departments. The participants training. Some organisations believed that expressed desire to build capacity around the the Toolkit could be useful not only for Toolkit in both digital and in-person formats. building capability within the core fintech groups at the central bank or monetary Key statistics authority, but also for educating a wider % of the central banks who have engaged in array of colleagues in multiple government formal fintech policy development departments on the issues, risks and Yes 65 opportunities of fintech. No 29 N/A 6 % of the central banks who agree that the proposed Toolkit covers all key areas relevant to them % of the central banks who have a fintech Yes 59 policy specialist No 29 Yes 59 N/A 12 No 35 N/A 6
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Contributors and Acknowledgements
Commonwealth Secretariat Sponsor European Commission, the Government Senior Director: Prajapati Trivedi, Economic, of Dubai and various private companies. Youth and Sustainable Development More information is available online at Directorate VisionaryFuture.com.
Project Lead: Travis Mitchell Project Lead: David Shrier, Managing Director, Visionary Future LLC Secretariat Team Members: Heather Cover-Kus, Motselisi Matsela, Wonderful Project Contributors: Adele Jashari, Jane Khonje Thomason, Deborah Webster, Alfie van der Zwan Visionary Future Visionary Future Commonwealth Ltd., a Acknowledgements subsidiary of Visionary Future LLC, partners We would like to gratefully acknowledge the with governments and the private industry to contributions of more than 50 leaders from build a better tomorrow through technology central banks, government ministries, large applications, with a particular focus on fintech incumbent financial institutions, fintech (including blockchain), artificial intelligence, start-ups and academia who participated big data/big data analytics and cybersecurity. in the series of consultation workshops and Visionary Future creates thought leadership, seminars that led to the creation of this Toolkit. including online courses and books, conducts workshops and seminars, develops and We would also like to thank the Government implements strategic plans, and provides of Australia, Department of Foreign Affairs interim management capacity to support and Trade for their generous financial support these activities. Clients have included the for this project.
The emergence of technology-enabled financial services TOOLKIT FINTECH COMMONWEALTH (fintech) in the past two decades has profoundly impacted the production and delivery of financial services. The Commonwealth FinTech Toolkit provides technical guidance on fintech and fintech applications. It sets out a framework for creating enabling environments for fintech, through legislation, regulation, institutions and policies. It also aims to build fintech capacity among government staff. Part I considers the ways in which emerging technologies are transforming financial services. Part II explores how Commonwealth member countries can use those Helping Governments to technologies to achieve their development goals. Leverage Financial Innovation