The expansion of big tech platforms into financial services is causing regulatory concern around potential anti-competitive behaviour. The existing activities-based framework may need to be complemented by entity-based considerations (such as consolidation of financial activity into a separate subsidiary), or ex-ante competition rules, in order to safeguard stability and ensure a level playing field for all stakeholders.
A changing landscape
The past decade has seen a dramatic transformation of the digital finance landscape. One of the most notable changes has been the entrance of big tech players, offering a variety of platform-based services. Unlike traditional financial services firms, which are designed to operate exclusively within the financial services domain, some big tech firms are choosing to develop and distribute financial products as part of their wider portfolio of existing activities.
This shift away from the typical business model has helped to exacerbate some long-standing policy concerns around financial risk, consumer protection and operational resilience, and also gives rise to new concerns including the consolidation of market power and whether the existing regulatory approach is fit for purpose.
The platform model – what is it and what are the benefits?
As things stand, many regulators seem unable to settle on a consistent definition of 'platforms'. Based on the Bank for International Settlements (BIS) description (PDF 689 KB), the term refers to a technology-driven business model which “revolves around the direct interactions of users and the data generated as an essential by-product of those interactions”.
The collection of large volumes of consumer data can quickly lead to network effects1 and economies of scale and scope. As a result, big techs' use of platforms within financial services can achieve efficiency gains and lower user costs, foster greater financial inclusion (by facilitating greater access to products and services), and reduce asymmetry problems. An example would be the generation of information capital (relating to a consumer's risk profile) to reduce the reliance on tangible collateral when offering loans and mortgages.
The dark side of innovation
However, regulators are concerned that these network effects could also be leveraged in harmful ways and lead to poor outcomes.
Most significantly, platform providers could harness the data-network activities (DNA) feedback loop to become dominant and 'envelop' competitors as they move into financial services. In other words, big tech players could combine their well-established consumer datasets with financial data to bundle and deliver products that traditional banks cannot replicate. Greater user activity in turn generates more data, opening the door to potentially monopolistic behaviour. Moreover, the high fixed costs of developing a successful platform could exacerbate further any concentration of market structures.
Globally, some players have already achieved dominant positions, particularly within the emerging markets, and Chinese payments landscape.
A recent report (PDF 928 KB) by the European Systemic Risk Board (ESRB) not only warns that increased concentration could lead to new too-big-to-fail institutions, but also notes that the direct challenge from platform providers could lead incumbent banks to increase their risk profile to defend their market position. Elizabeth McCaul, Member of the ECB's Supervisory Board, reiterated these warnings by emphasising that “introducing more technology into the delivery of financial services cannot be allowed to become an unregulated back door or lead to an unlevel playing field”.
Big tech providers are being newly exposed to all prevailing financial risks (liquidity risk, credit risk, market risk), which, in turn, affect system-wide risk. And, as authorities have not yet clearly stated their approaches to regulating platforms, risk is being dispersed into parts of the financial landscape which are under considerably less scrutiny than traditional participants.
Regulation today and the path ahead
Today's financial regulation and competition law may not be fast or flexible enough to protect market integrity and stability from the future impacts of these rapidly-evolving platforms.
In September 2021, the EBA reported that the majority of Europe's regulatory authorities still have a limited understanding of platform-based business models, particularly in the context of interdependencies between financial institutions and technology companies outside the perimeter of their direct supervision. The report stressed that this could impair effective risk monitoring.
From a competition perspective, the BIS has pointed out that the techniques employed by big tech platforms to scale rapidly and prioritise their own products through tying, self-preferencing or cross-subsidisation mechanisms are often difficult to detect and prove. Moreover, traditional anti-trust metrics (e.g. whether consumers have been harmed) seem less relevant in the digital era where consumers may benefit from lower prices via 'free' or subsidised services in exchange for data collection.
In regard to financial regulation, the current framework (PDF 689 KB) still follows an activities-based approach where providers must hold licences for specific business lines. This is grounded in the principle of 'same activity, same regulation'. However, the spread of platformisation suggests that a purely activity-based framework may no longer be fit for purpose. More specifically, it may need to be complemented by an entity-based approach, particularly when platforms become systemically important. At the very least, additional competition regulations may be required.
China's big tech players have been asked to set up a holding company and bring all subsidiaries engaged in financial activities under that umbrella, to help separate financial business from technology services. It was posited that this 'carved out' entity would facilitate more effective supervision (despite not completely preventing any pooling of data). Potentially inspired by this approach, in early February, the three European Supervisory Authorities (EBA, EIOPA and ESMA) published a joint report (in response to the EC's Call for Advice on Digital Finance), where they suggest adopting a similar subsidiarisation of financial activity. The report explains that “prudentially unconsolidated financial activities, above a defined threshold, could hence be `grouped together' under this intermediate holding and would be part of the prudentially supervised group”.
The European Commission has proposed bills (the Digital Markets Act and the Digital Services Act) that define new categories of “very large online platforms” and “gatekeepers” and would subject both to specific ex-ante requirements against self-preferencing and other anti-competitive behaviours.
The EBA has also declared 'assisting competent authorities to deepen their understanding of platform-based models' to be a key 2022 priority. In particular, the EBA has said that it will work towards:
- Developing a framework to identify cumulative dependencies on digital platforms in the context of the marketing and distribution of financial products and services, and
- Establishing indicators that could help in assessing potential concentration, contagion and systemic risks
In the UK, the Digital Markets Taskforce has recommended the creation of a Digital Markets Unit with new powers to support greater competition. The Taskforce has proposed a forward-looking code of conduct for the most powerful digital firms.
As regulators around the world continue to modify their approach to take into account big tech platformisation, the impacts on the broader financial landscape will become clearer. Firms can expect regulators to welcome the benefits (particularly those pertaining to financial inclusion), while taking whatever steps are necessary to safeguard stability and market integrity.
1 Network effects describes the concept whereby the value of a product or service increases as the number of people who use that product or service increases.
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