Christopher Woolard lifts the lid on the Financial Conduct Authoritys regulatory sandbox, which allows firms to try out their innovative products and services in a live environment
Do you believe there is sufficient innovation in the UK financial sector today?
Innovation is a constantly evolving landscape. Looking back just a few years, ideas such as distributed ledger technology, RegTech and automated advice would have been far less familiar concepts. We know that many financial services firms are continually thinking up new ideas, because we regularly hear from firms who want to discuss those with us.
Is this sufficient? Given the potential of technology to rapidly effect change in the industry, there will always be more we can do in this space.
In the 32 months up to June this year, our Innovation Hub at the Financial Conduct Authority (FCA) received 741 requests for direct support and 146 applications for our regulatory sandbox.
Following assessment against our eligibility criteria, we have provided, or are providing, direct support to 367 firms and have accepted 49 firms in two cohorts onto the sandbox. Identifiable consumer benefit is one of the criteria that we consider when assessing applications for our support.
The firms we have supported vary in size and come from a wide range of sectors. The demographic of applicants is diverse, covering a range of geographies, including Singapore, Canada, Denmark and the US. So there is clearly a lot going on - but we remain committed to seeking innovation at scale.
What are the objectives for Project Innovate, the Innovation Hub and the sandbox?
We launched Project Innovate in October 2014 to support our overarching statutory objective of promoting competition in the interests of consumers. Based on feedback about the barriers entrants face, alongside the challenges incumbent firms face with innovating, we decided having a dedicated team to support them would improve outcomes for consumers.
A central part of this initiative is our Innovation Hub, where both new and established businesses - regulated and non-regulated, start-ups and incumbents - meeting our eligibility criteria can access direct support and a dedicated team to help them navigate the regulatory landscape.
To further strengthen our support for innovation, in May 2016 we launched the regulatory sandbox - the first of its kind in the world. It allows firms meeting our eligibility criteria to test innovative products, services, business models and delivery mechanisms in a live environment. At the same time, our full rules apply and we ensure firms we have accepted have appropriate consumer safeguards in place. Our broader aim is to support both new and established businesses in introducing innovative financial products and services to the market, with the result being increased competition that benefits the end consumer.
Other initiatives within Innovate include our advice unit, which provides regulatory feedback, including individual guidance, informal steers, signposting to existing rules/guidance, and rule waivers to firms developing automated models. We have expanded our scope beyond investment advice, pensions and protection products to cover mortgages and general insurance, as well as offering guidance and support for firms that do not seek authorisation.
Our work on RegTech aims to encourage innovation and adoption in technology, working collaboratively to unlock the complexities and costs of regulation in new and creative ways.
Does the fact sandbox even exists not suggest that we have too much regulation in the UK, and it's acting as a barrier to more competition?
Our sandbox is not a de-regulatory initiative. It was established to achieve four objectives:
- Reduce the time and, potentially, the cost of getting innovative ideas to market
- Enable greater access to finance for innovators
- Enable more products to be tested and potentially introduced to the market
- Allow the FCA to work with innovators to ensure that appropriate consumer protection safeguards are built in to their new products and services.
Applicants that meet our eligibility criteria have the opportunity to test out their ideas in a live environment while still being regulated, monitored and supervised by the FCA.
The sandbox was not established because we have too much regulation. However, it does give us the opportunity to reflect on our rules in the context of the innovative propositions being tested.
You've now had two cohorts of entrants to the sandbox. How many firms have successfully met the criteria?
Demand for the sandbox has been high. We received a total of 69 applications for the first cohort, covering a broad range of sectors and geographies. Of these, 24 firms were accepted towards testing and 18 were ready to do so as part of this cohort. Of the applications that were not accepted, 40 were offered other assistance via Innovate or other means. For the second cohort, we received a total of 77 applications, accepted 31, and 24 firms progressed towards testing. The deadline for the third cohort was 31 July this year, and we are assessing applications.
We're happy with the level of interest - it has exceeded even our expectations.
What were the main reasons that submissions were declined?
We use clear criteria to assess a firm's eligibility. Some of the common reasons for rejecting a submission include:
- The firm not being ready for testing
- The firm not having conducted adequate market research to demonstrate a potential benefit for consumers
- The firm's proposition not being innovative
- The firm misunderstanding the purpose of the sandbox - for example, assuming that the product or service would be exempt from regulation.
One of your assessment criteria is to look at whether an idea is genuinely innovative. Can you give an example of 'artificial innovation'?
While we wouldn't use the term 'artificial innovation', the most relevant examples are where a firm purports that its product or service is doing something new in the market, but we find that actually it is similar to something that is already being done.
What progress has been made through the sandbox so far? Have any new products successfully launched?
The entire first cohort of firms have now completed their testing, and we expect the majority will take their propositions forward. Several of these firms have already transitioned out of the sandbox and are operating independently in the market. We are working with others to ensure that they have the regulatory permissions they need.
Part of the approach of the sandbox is to waive existing rules to allow a provider to test new ideas. How do you ensure this is not to the detriment of the customer?
The ability to waive an existing rule is one of the tools available to firms as part of the sandbox. We analysed the feasibility of removing authorisation requirements for sandbox firms altogether, and concluded that sandbox firms undertaking regulated activities should sit within our regulatory perimeter so we can ensure that consumers are protected. Where a firm can clearly demonstrate that testing activities do not meet our rules but that the firm can meet the waiver test - and the rules are within the FCA's power to waive - we can waive or modify particular rules for certain sandbox firms.
We are limited in what we can waive by EU legislative requirements. Waiving rules is not an option for firms not regulated under the Financial Services and Markets Act (FSMA) - such as payment institutions.
Generally, in the context of our sandbox, we see three elements of consumer protection:
- We will consider only propositions where we are satisfied that there is a prospective direct or indirect consumer benefit
- We will agree upfront testing parameters and customer safeguards. We want these to be appropriate to the propositions being tested and the types of customer and firm involved. For example, it may be reasonable to ask one firm to guarantee to place ordinary retail consumers fully back in their pre-test state if a test does not perform as expected. Or it might be that, for a firm testing with a smaller group of sophisticated consumers, we may simply require there to be clear disclosures in place.
- We require every sandbox firm to have a clear exit strategy to protect consumers.
What advice would you have for firms considering applying for a future cohort of the sandbox?
The sandbox is for live testing and it's important that firms are ready to test. If you are considering applying, make sure you read the information on our website - www.fca.org.uk/firms/regulatory-sandbox - and that you fully understand the eligibility criteria.
Before applying to the sandbox, ask yourself: Do my activities/products fall within the scope of the FCA's regulatory regime, or are they intended for FCA-regulated firms? Is my idea innovative, or is it already available in the marketplace? Does my idea, product or innovation benefit consumers? Do I really need to test in a live environment? Am I ready for testing?
It may be that your firm is not quite ready for the sandbox, or that the support required would be better placed within another of our Innovate initiatives. If in doubt, please do get in touch with the team using the contact details on our website, and they will be able to help.
What does the future for sandbox look like?
We would like to continue receiving high-quality applications from firms with a genuine innovation, which have the potential to increase competition and deliver real consumer benefit. We hope to see a growing level of diversity in future cohorts in terms of firm size, sector and geographic location. We will continue to apply our criteria in assessing firms.
Regulation must constantly evolve. Our sandbox was not set up to address any regulatory inefficiency. It is a proactive measure to drive better outcomes in the markets we regulate. We want to build on the success of Innovate, to ensure we support as many firms as we can.
The Innovation Hub/sandbox can clearly help support more innovation, but what more do you think industry and government can do?
In November last year, we put forward the idea of more industry-led initiatives to help facilitate innovation. We invited Innovate Finance to chair a consultation on an industry-led virtual sandbox. The idea is to reduce the burden, in terms of both cost and time, for stakeholders to collaborate and test proof of concepts.
Alongside Her Majesty's Treasury, we were part of the steering committee during the consultation process. In its final report, Innovate Finance declared that demand for such an industry-led sandbox is strong among start-ups. Respondents have also signalled that there are benefits to open collaboration. We will remain involved with the development process as the final form of the industry-led sandbox is decided.
We work closely with government departments - including the Treasury, the Department for International Trade, the Department for International Development, and the Foreign & Commonwealth Office - to support our Innovate agenda.
Christopher Woolard is executive director of strategy and competition at the Financial Conduct Authority