Two law professors affiliated with the University of Oxford have proposed a new legal framework for partnerships between banks and financial technology firms, a plan they say has received positive feedback from European regulators and could help avert corporate implosions like the Wirecard scandal.
Oxford University corporate law professor Luca Enriques and University of Hamburg Law and Finance Chair Wolf-Georg Ringe published their plan, which makes the case for what they call a “mentorship regime” between banks and fintechs, in the October issue of the Capital Markets Law Journal.
While fintech companies like SoFi and Klarna were once seen as competitors and disruptors of conventional banking, such companies are increasingly becoming partners with traditional financial firms, said Enriques and Ringe. Through partnership agreements, banks gain access to innovative and efficient new technologies, while fintech companies gain access to larger customer bases and data.
Yet bank-fintech partnerships currently have regulatory drawbacks that could put the larger financial system at risk, argue Luca and Ringe. Specifically, banks typically face much higher regulatory standards and scrutiny than their fintech partners, even if their fintech partners are performing tasks crucial to the bank’s operations.
“Only the bank is under financial supervision, and that’s the case in the U.S. as in Europe,” said Ringe, who teaches alongside Enriques as a visiting law professor at Oxford, in an interview. “The watchdog doesn’t have direct supervisory power vis-a-vis the fintech.”
To address this problem, Enriques and Ringe proposed a “mentorship regime” that they say better incorporates regulatory oversight while still allowing space for fintechs to develop.
Under their plan, a fintech that partners with a traditional financial institution would receive the bank’s regulatory license, allowing it access to the market while becoming subject to the same regulatory scrutiny as the larger institution. Unlike under the current system, the fintech would be required to outsource its compliance and internal controls to the licensed institution, leading to what the scholars say would be improved compliance and more oversight.
“This would be markedly different from the status quo,” said Enriques and Ringe. “The mentorship arrangement would grant the supervisor the power and the obligation to intervene directly in the fintech.”
The scholars argued their plan would be more effective than current measures in the U.S. and Europe, and said it incorporated feedback from European companies and regulators.
Enriques said he had spoken to regulators at the Bank of Italy about the plan, while Ringe said he had consulted the German regulator BaFin. The scholars also said they collectively had spoken to workers from nearly 20 financial institutions and fintechs in countries including the U.K., Germany and Luxembourg, but declined to identify the companies because the conversations were private.
“If you’re an academic, you really need to catch up with what’s going on,” said Ringe. “We talked to a lot of people from different financial institutions and from fintechs in order to validate our idea.”
However, none of the interviews made it into the paper because they were not “formalized,” added Ringe.
Enriques approached Ringe about a bank-fintech regulation proposal after a workshop at Oxford Business School. The two had previously co-written a book on corporate law alongside several other law professors.
“I approached Georg because I knew he would be extremely solid in terms of intellectual contribution,” said Enriques. “There are many projects that go nowhere because you sometimes don’t have the right chemistry”
The two worked on the paper together in person in January but moved online as the coronavirus pandemic swept Europe.
The pair’s work gained salience in June, when German payments company Wirecard filed for insolvency after the Financial Times revealed a 1.9 billion-euro hole in its balance sheet.
Many of Wirecard’s accounting inconsistencies were apparently hidden through partnerships with financial firms incorporated in countries like the U.A.E., Singapore and the Philippines, which regulators in Europe had little power to investigate.
Ringe said that if the Wirecard scandal were meticulously planned from the top down, his “mentorship regime” plan may not have prevented the fraud. But if the fraud were caused by outside pressures or other forces, greater regulatory oversight could have alerted regulators and investors to accounting irregularities sooner.
The paper, titled "Bank-fintech partnerships, outsourcing arrangements and the case for a mentorship regime," was first published in the October issue of the Capital Markets Law Journal. The co-authors are Oxford University corporate law professor Luca Enriques and University of Hamburg Law and Finance Chair and Oxford University visiting professor Wolf-Georg Ringe. The lead author is Luca Enriques.