I'm off to Number 10 today, to talk about red tape that's constraining disruptive business models in financial services. In the interests of transparency, I've summarised my thoughts for both the legal community here, as well as below. I'll be submitting a more detailed paper in the coming weeks, both to the Red Tape Challenge and the BIS Taskforce on alternative business finance. I'm interested in any comments you may have.
In its invitation to submit evidence of ‘red tape’ that is inhibiting the developmentof ‘disruptive business models’, the Cabinet Office notes the example of Zopa, “a company that provides a platform for members of the public to lend to each other, who found that financial regulations simply didn’t know how to deal with a business that didn’t conform to an outdated idea of what a lender is…”
Financial regulation similarly fails to deal with a range of non-bank finance platforms that share some of the key characteristics of Zopa’s person-to-person lending platform. Accordingly, financial regulation is failing to enable the cost efficient flow of surplus funds from ordinary people savers and investors to creditworthy people and businesses who need finance. In particular, the current framework:
- generates confusion amongst ordinary people as to the basis on which they may lawfully participate on alternative finance platforms (even though some are licensed by the Office of Fair Trading);
- does not make alternative finance products eligible for the usual mechanisms through which ordinary people save and invest, exposing lenders to higher ‘effective tax rates’;
- discourages ordinary savers and investors from adequately diversifying their investments;
- incentivises ordinary savers and investors to concentrate their money in bank cash deposits, and regulated stocks and shares;
- inhibits ordinary savers’ and investors’ from accessing fixed income returns that exceed long term savings rates;
- inhibits the development of peer-to-peer funding of other fixed term finance (e.g.mortgages and project/asset finance, and even short term funding of invoices); and
- protects ‘traditional’ regulated financial services providers from competition.
These regulatory failings could be resolved by creating a new regulated activity of operating a direct finance platform, for which the best-equipped regulatory authority would be the Financial Services Authority (as replaced by the Financial Conduct Authority). Regulation of the platform would be independent of any regulation that may apply to the type of product offered to participants on the platform (e.g. loans, trade invoices, debentures to finance renewable energy and lending for social projects). Proportionate regulation that obliges platform operators to address operational risks common to all products would also enable economies of scale and sharing of consistent best practice, and leave product providers and other competent regulators to focus solely on product-specific issues (e.g. consumer credit, charitable purposes).
Similarly, there is no reason why products distributed via these platforms should not also be eligible for the usual mechanisms through which ordinary people save and invest, such as ISAs, pensions and enterprise investment schemes.