Digital Finance in Europe - Gerry Cross, Director of Financial Regulation, Policy and Risk

Address to Department of Finance / Directorate-General for Financial Stability, Financial Services and Capital Markets Union virtual outreach event on the European Commission’s consultation on digital finance.

Minister Donohue, Minister D’Arcy, Ladies and Gentlemen, good morning. I am delighted to be with you today at this virtual event. I hope that you are keeping well during these difficult times.

I would like to thank the Department of Finance and the European Commission for the invitation to speak today.

The focus of today’s event is the Commission’s current EU digital finance consultation. I am very pleased to be able to share some of the Bank’s thinking on the topic of technological innovation and digital finance.

Let me start, if I may, by acknowledging the far-sighted role that the European Commission has been fulfilling in this space over recent years. They have taken a range of initiatives which have sought to envision the future while at the same time shaping it for the benefit of the European economy and the European citizens. This is inevitably a very challenging endeavour when it comes to something as dynamic and shifting as technological innovation. By creating a context for progress; providing clear, yet open-ended mandates for development; and seeking to leverage the diversity that Europe represents as well as the scale of its Single Market, they have I believe been instrumental in promoting real and valuable progress.

At the Central Bank of Ireland, technological innovation has been an important focus of attention for us. We are an integrated regulator with mandates to safeguard financial stability, secure the sound functioning of financial firms, and protect the interests of consumers. We also have responsibility for the efficient and effective operation of payment and settlement systems. Rapidly evolving technological innovation is not only a key feature of the environment in which we seek to deliver these mandates, it also represents a modality by which, properly harnessed, we believe we can significantly advance the achievement of our mission.

At the heart of the Central Bank’s mission is to ensure that the financial system operates in the best interests of consumers and the wider economy. We only have to look at the current context of Covid19 and how we are now all operating to recognise the completely central role that technological innovation must inevitably play in the achievement of this mission.

At the Central Bank of Ireland, we have taken a range of relevant measures over the recent period. These have included the establishment in 2018 of an Innovation Hub for engagement with Fintech companies; the creation of internal structures such an Innovation Steering Group and a FinTech network; as well of course as our significant engagement in the relevant work of the European Supervisory Authorities (ESAs) and the SSM particularly, of course, in the context of the European Commission’s FinTech Action Plan.

All of these however, as well as our forward looking strategy on technological innovation, are not ends in themselves. Rather they are components of an approach which is designed to ensure that as an Organisation we are well adapted to a context of rapidly evolving technological change. And, even more importantly, that we are strongly positioned to ensure that the financial regulation and supervision for which we are responsible responds effectively to the opportunities, challenges and risks to which technological innovation gives rise.

Let me then set out some of the priority issues that we see in the area of FinTech and technological innovation.

Front and centre should be the promotion and protection of consumer interests including the delivery of enhanced outcomes for them. Technology has the potential to both significantly improve, but also to materially diminish, how firms engage with and treat their customers. The Commission’s new Digital Strategy / Fintech Action plan should seek to drive forward the realisation of the positive aspects while reducing the room for negative dynamics. The aim must be to see technological development increasingly harnessed  to benefit consumers’ including in their engagement with financial services providers while ensuring that aspects such as the speed, penetration and power of analysis that go with such developments are not deployed to the disadvantage of consumers.

Advances in digital finance have significant implications for the fight against money laundering and terrorist financing (AML/CFT). While innovation opens opportunities for new products, services and ways of interacting with consumers and the market and for enhancing the fight against financial crime, it also has potential for additional ML / TF risks. Firms must ensure that they effectively mitigate any increased ML/TF risks inherent in innovative products/services prior to launching them.   In addition, Firms must ensure that before adopting any innovative compliance systems or products, they have been rigorously tested and are fit for purpose in this regard. The new EU Digital Strategy / Fintech Action plan should seek to ensure that technological innovation considers ML/TF risks at a design stage, so that effective AML/CFT mitigants can be built into technologically innovative products, services, or compliance systems prior to their launch.

Advances in digital finance often give rise to challenges to the regulatory perimeter. Technology advances are resulting in material changes to business models, applications, processes and products. There is rapid evolution which impacts what the financial services market and its participants will look like in the future. In this context an important challenge for regulators is the maintenance and surveillance of the regulatory perimeter so that the protections of financial regulation are not eroded by new ways of doing things.

In our response to the recent European Commission consultation on crypto assets we considered both the question of the regulatory perimeter and the specific question of so-called stablecoins. We suggested that there would be benefits in a harmonised taxonomy of crypto assets – so that security tokens are consistently regulated, while allowing genuine utility tokens to remain outside the perimeter.

We made clear our view that the issuing of currency should firmly remain under the remit of the relevant public authorities (i.e. central bank). Where the reach and other features of so called stablecoins issued by private actors risk their being perceived as currency, or operating as quasi-currency, then they should be prohibited.

It will be important to pay attention to the role of new types of participants in the Financial System. On the one hand ensuring that disruption can operate effectively and safely (from a systemic point of view) is important from the overall functioning of the financial system. Here giving real effect to technological neutrality – both in principle and in practice is very important.

At the other end of the spectrum an important challenge will be the increased participation of large global non-financial participants in the financial sector. Where this is currently manifesting most of course is in the area of cloud outsourcing. This should be an ongoing focus of attention and consideration. Again from both a benefits and risks perspective. It is something that we at the Central Bank of Ireland have been recently considering including in our November 2019 Discussion Paper on Outsourcing (PDF 1.4MB).

The area of Analytics Technologies and Big Data Analytics (BDA) are enabling new ecosystems and serving as a foundational technology for AI. Such advances can bring significant benefits to assessment processes such as for creditworthiness and underwriting, pricing processes and fraud detection. There are however implications for consumers as BDA and telemetry techniques have the potential to impact financial inclusion, to contribute to increased information asymmetries, and to support unfair or undesirable pricing practices.

For our part, we are currently conducting a review of differential pricing in the personal motor and home insurance industries, to assess the extent to which these pricing practices lead to outcomes that are consistent with the Consumer Protection Code 2012.. Our consumer code requires that firms act honestly, fairly and professionally in the best interests of their customers and make full disclosure of all relevant material information.

Our review will look to establish the facts around the use of Big Data in differential pricing and will result in a report or consultation on proposals for reform, if appropriate. Our interim report on this work is due at the end of year 2020 with the full report due for completion in H1 2021.

At the Central Bank of Ireland, we look forward to the Digital Finance Strategy supporting progress in this area.

Of course, it should go without saying that the increased embedding of technology in financial services presents heightened Information and Communications Technology (ICT) security issues, with the potential for significantly increased impact from the crystallisation of ICT risks. As the Commission’s recent consultation paper on operational resilience recognises, it is of the utmost importance that the increased digitalisation of financial services is accompanied by concomitant enhancement in risk management and resilience.

In conclusion, let me say that we are of course now, due to Covid19, in a difficult time – for all of us as individuals and as members of families and communities, and for the economy. But throughout this period it is clear that the massive technological innovation that has taken place over recent years has been and continues to be central to our ability to cope with and ultimately to emerge from this crisis. As we look to the future, technological innovation in financial services will remain more important and consequential than ever. The European Commission’s consultation provides a good opportunity to consider the path ahead which will allow us to manage the risks, meet the challenges and realise the benefits of that ongoing rapid innovation.

Thank you.

My thanks to Michelle O’Donnell Keating for her contribution to these comments.