By Resmi P Bhaskaran and Girish Bhaskaran Nair
Regulating Techfins: Digitisation has made life easier for humans, reduced operational costs and improved business risk management for corporates, and facilitated financial inclusion. At the same time, the challenges and risks of digitisation are also multi-layered, especially in the financial sector where technology is rapidly transforming the operational landscape.
The financial sector witnessed a major disruption from FinTechs that used their nimbleness and ability to improve financial service delivery. FinTech, or financial technology, firms used technology and innovation to out compete traditional financial services companies in delivery of services. Innovations like mobile banking, investing, and digital currencies took financial services closer to the public at large. Large FinTechs like PayTM and Phone Pe became household names in this process by complementing the traditional financial services players through personalized service delivery.
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Close on the heels of FinTechs, came the TechFin revolution. TechFin is financial service offered by big technological firms that use their own platforms that have a large number of users. Simply put, TechFin is the expansion of large technology companies such as Google, Amazon, Facebook, and Apple into the financial industry.
FinTechs like PayTM and TechFins like GooglePay together account for almost 80% of the UPI transactions in India. Considering their control over the user data, the TechFins can easily control the financial structure of any economy in the world.
Those who demand financial stability, sustainability and non-discriminatory delivery of financial services are raising concerns over the unregulated expansion of TechFins in financial services industry. Several scholars and policymakers in the US and European Union call for regulation of TechFins to reduce risks associated with their unregulated growth. Potential of Indian financial market is enormous, but prevailing information asymmetry arising from the use of digital data demands India to device necessary protocols to regulate the use of digital data and operation of TechFins to mitigate possible risks to financial stability.
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Three questions arise in this context:
- TechFins own customer data that is generated while availing their services in unregulated areas are competing with firms that are regulated. How can such a market be a level-playing field?
- How can the Reserve Bank of India, the agency responsible for ensuring monetary stability in the country, allow unregulated players to access financial transaction data? Will this lead to data misuse and financial instability?
- Considering the rapid expansion of digital technology in every walk of life and the huge amounts of data being generated every second, should the government have an agency to monitor and monetise data?
To understand the context of these questions, one must have basic idea of digital data, TechFins and their growth.
Growth of FinTechs and TechFins
Between 1990 and 2021, technology transformed human life beyond imagination. First, came internet and then mobile phones, making digitisation inevitable. Digital financial service business in India grew exponentially after the demonetisation announced by the Narendra Modi government in 2016, both in terms of volume and number of users. UPI platforms achieved two billion transactions in November 2020 with the entry of TechFins. They reported 105% growth in transaction value and 70% growth in transaction volumes between December 2019 and December 2020. A study by Boston Consulting Group in 2017 had estimated that TechFins/ FinTechs in India would make $3-3.5 billion in retail profits by 2020.
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Till now, both FinTech and TechFin firms connected users with traditional financial firms like banks and insurance companies. However, considering the amount of user data available with the TechFins like Microsoft, Google, Huawei, Apple, Facebook, WhatsApp, Amazon, Alibaba, Big basket, Flipkart, Airtel, and Reliance JIO, they can out-compete both the traditional financial institutions and FinTech companies within no time. Already, GooglePay (TechFin) and PhonePe (FinTech) account for almost 80% of UPI transactions in India.
TechFins have unchallenged supremacy in the field of digital technology and have huge amounts of customer micro-data. For example, this article is being typed using Microsoft Word on an HP laptop and is shared through Gmail using the Vodafone Idea network. All these technology firms have access to data related to this article as access private data is a mandatory condition to avail these services. In an interview with India Today in 2017, a top Reliance JIO executive said data passing through any data network can be encrypted. Digital technology companies monetise the customer micro-data, making untaxed profits.
Ease of doing business and accuracy in data management provide large competitive advantage to TechFins firms over FinTechs and traditional financial institutions. Conventional financial regulation hardly understands the digital data, its management and the business model of giant TechFins.
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Digital data and TechFins
Being the repository of enormous amounts of customer data pertaining to the preferences, behavior, and consumption pattern of the customers, TechFins will rapidly outgrow banks and FinTechs. Taking advantage of their data intensity, they connect customer with the products at first, either by licensing out aggregate data to incumbent financial institutions or FinTechs by way of analytics. In the next stage, technology giants become TechFins, leveraging their huge database, instead of being a mere data provider. In the final stage, they will move into financial service delivery, challenging the traditional financial institutions, FinTechs and other regulated entities.
Unlike the banks and FinTechs, the TechFins have the most accurate, detailed and extensive digital information about customers. With the help of huge capital, the TechFins can cross-subside and offer services at free of cost.
Within a short span of operation, TechFins have made impressive strides in India, especially after demonetisation in 2016. The BCG study estimates that digital financial services would have 150 million customers by 2020. After the COVID-19 outbreak, their growth belied all expectations.
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Risk related to TechFins
From the perspective of data analytics, proliferation of Tech Fins will open a Pandora’s box that could wreak havoc in the financial service industry.
- Data privacy is a major concern here. While accessing the service, it is mandatory for customers to accept terms and conditions that demands absolute right over customer data, denying the privacy right to the customer. How the data is being used is neither shared with the customer nor with the state, as TechFins operate in a non-regulatory domain.
- Data protection is another grey area. The question is who owns the data and who can enforce the “right to be forgotten”. The contract laws, as well as private international and civil procedure laws need clarification on the type of contracts between users and TechFins, where the laws will apply and which court will have jurisdiction.
- When an individual customer becomes a fully commercialised digital identity, who owns the property rights in this identity? And who can share this digital identify to other service providers for money?
- Systemic challenges associated with false predictions. Scholars caution that if algorithm is wrong at a systemic level, the data advantage of TechFin firms may be at risk. Hence, along with scaling up, the insolvency of TechFin may go up, adversely affecting associates including customers. A regular review of the functional models of TechFin firms is essential to mitigate this risk.
- Using customer micro-data, the analytics-based service delivery of TechFins can discriminate customers based on race or other factors. Scholars argue that algorithms can discriminate wrongfully against groups of people.
- Probability of service denials. If a customer uses TechFin services to purchase medicine for parents, s/he can be charged with high insurance premium. Similarly, non-users may suffer from financial and other forms of exclusion. If users opt for data privacy, they can be treated as second class citizens in a data-driven world. Those who give consent to share data with the predictive algorithm of TechFins might get best products, prices and opportunities.
- TechFins link customers with financial services that can create serious concerns on consumer choice and market efficiency. Each financial product sold via TechFins needs to uphold high levels of transparency, product criteria detailing and risk detailing which is often ignored.
- In a non-regulatory environment, the operational model of TechFins lacks clarity on how it maintains fiduciary clauses as it either supplies data or functions merely as a conduit between the customer and the financial institution.
- TechFins often enjoy near monopoly status in their field that induces monopoly/ oligopoly risk. This invokes the need to have an antitrust/ competition law approach to create a level-playing field in digital financial service delivery.
- Taxation of TechFins is a black hole with hardly any clarity on what are the TechFin services that will be subject to tax, where it should be taxed and at which stage of production, and how to tax a business built on algorithms?
- Issues related to transparency and grievance redressal by TechFins. A regulator or licensing authority is needed to create safeguards, particularly for vulnerable consumers.
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TechFins and regulation in India
The Reserve Bank of India claims that regulations are in place to manage the operations of TechFins. But, TechFins can offer services without complying with any regulation. Industry experts argue that business flourishes fast under unregulated structure that provides, flexibility. Currently, TechFins offer unlimited UPI transactions without any KYC.
RBI and agencies that regulate the financial sector in India claim that TechFins can be handled within the existing regulatory framework and the issue of regulation arises only when they offer financial services directly. While TechFins have unchallenged control over technology and customer data, the regulators lack technical expertise needed for monitoring digital businesses. The conventional regulation will not work on TechFins as their business model is built on information asymmetry. As the digital dependency deepens, the scope of monetisation of data increases. TechFins are not bound to share any information with the customer or the state.
Unregulated operation of TechFins in the present form not only compromises the privacy of customers, but also the revenues of the states. It also has risks related to systemic errors in algorithm-based analytics that can mislead customers and the government.
The European Union and the US have initiated steps to address risks related to the operation of TechFins. Being one of the biggest consumer markets in the world with the third largest digital customer base, India needs to deliberate on the regulation of TechFins. India also has to work with other countries to provide an environment that is beneficial to the customer.
Finally, when everyone is sure that data is the new oil, what restricts the Indian state from taxing its use within its territory? With the traditional revenue sources are drying up and digital businesses are thriving, the state should develop strategies to review the operations of TechFins regularly and collect revenues. The government must set up an apex body to monitor and regulate TechFins and protect the consumers. A body on the lines of TRAI will also help it monetise data traffic and mitigate potential risks. The government should not allow giant technology firms to have absolute control over user data as it poses serious internal and external security threats as well.
(Resmi P Bhaskaran is an independent economist based in Manipal. Girish Bhaskaran Nair is a former senior financial sector specialist with the World Bank Group. Views are personal.)