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Freshfields TQ

Technology quotient - the ability of an individual, team or organization to harness the power of technology

| 6 minutes read

UK fintech - regulatory developments to watch out for

Last week was a busy week for UK fintech nerds. UK Fintech Week 2021 was an action-packed event which took place entirely virtually. Throughout the week, regulators and policymakers made a number of announcements, in addition to there being a large number of industry discussions. As an aside, I found it hugely valuable that all the sessions were released online on the same day, so we can watch (and rewatch...) the most relevant sessions at a time that suits.

I've summarised below what I think are the most interesting announcements from the UK Chancellor (and HM Treasury), the Bank of England and the FCA and added some of my own thoughts.  Overall, UK fintech is set up for an exciting year ahead.  Apologies in advance, this post is quite a long read, so to facilitate you skipping to the most relevant parts, the areas I look at are: 

  • central bank digital currency (CBDC);
  • Scalebox, Nursery and Sustainable Sandbox; and
  • developments for financial market infrastructure (FMI): FMI DLT sandbox and Bank of England omnibus accounts.

HM Treasury and Bank of England CBDC task force

Given the amount of interest that it's garnered, we'll be considering the task force announcement in a subsequent blog post [Ed: now available], but the summary is that HM Treasury and the Bank of England will be working together as part of a formal task force to coordinate exploration of a UK CBDC, colloquially coined (pun intended) 'Britcoin'.

No decisions about any adoption of a UK CBDC have been made, and the task force's remit is, essentially, to consider the case for a UK CBDC further, although Tom Mutton, Director of Fintech at the Bank noted in a fireside chat on Day 3 of UKFW21 that CBDC is an incredibly high priority for the Bank of England. Tom also made it clear that cash will continue to exist for as long as people want it, so any UK CBDC will exist alongside bank deposits, cash and other payment developments. This is consistent with messaging given by the ECB when considering a digital euro.

The Bank of England also announced it will establish a CBDC Unit to lead its internal exploration around CBDC. To me, this is not particularly surprising given the amount of content and thought leadership that the Bank has published over the years on CBDC, but it will be interesting to see what comes out of the new unit.

FCA Scalebox, Nursery and Sustainable Sandbox

Continuing the sandbox terminology, and taking forward another of the recommendations of the Kalifa review, the Chancellor announced that the FCA will take forward a scalebox. This will provide a one-stop shop for growth stage firms. The FCA has learnt from Project Innovate, that once authorised, firms continue to need higher levels of support from the regulator and, often, enhanced oversight. This makes sense in the context of a maturing fintech market, so that it can continue to develop in ways that are both competitive and also ensure appropriate consumer protection.

As a result, by autumn 2021, the FCA expects to develop plans to create a regulatory ‘nursery’, to provide support for firms after they have been authorised. Currently, firms gain regulatory status and are treated in the same way as a firm with a long track record. The regulatory nursery will keep the FCA in close contact with firms immediately after authorisation so it can provide support and, if required, intervene earlier to steer firms in the right direction. Of particular interest to me were the statements around supporting firms to grow by helping to connect scaling entities through the Global Financial Innovation Network (on which we posted in 2018 but haven't heard much since). The FCA intends to support scaling firms’ entry and growth in other markets and further develop cross-border testing of innovative products and services. This cross-border nature of growth seems to be in line with ensuring the UK continues to be a central hub for fintech, even after the change in position after the end of the Brexit transition period.

The FCA's regulatory sandbox is now practically ancient, almost reaching its sixth anniversary, so the FCA has also considered changes to the Sandbox. Nikhil Rathi in his speech on Day 2 announced that year-round applications for the sandbox will be put in place (currently, firms must apply to be part of a cohort) – which will be welcome news to those in the industry. On the Digital Sandbox, launched in 2020 by the FCA in partnership with The City of London to provide enhanced support to firms tackling challenges arising as a result of COVID-19, the next phase will focus on sustainability. Details on the sustainability side seem light at this stage, but I'd expect we will see more after the FCA's first director of environmental, social and governance has started in the summer.

Developments for FMI: DLT sandbox and omnibus accounts

To support private sector innovation, firms exploring how to use technologies like distributed ledger (DLT) to improve FMI will have access to a new sandbox. The new sandbox is inspired by the FCA’s sandbox and will be developed by HM Treasury, the Bank of England and the FCA. This is a development that is likely to be welcomed by FMIs, especially since the European Commission has also proposed a pan-European pilot scheme for DLT-based market infrastructures (we blogged about the proposals in September last year). The scope of the FMI DLT sandbox is unclear at the moment, but this does seem to be taking up another recommendation from the Kalifa review, to support the digitisation of FMI.  

What would be particularly helpful as part of this FMI sandbox would be to identify where there are legislative or regulatory barriers to innovative solutions and to provide solutions for reducing these barriers where it is appropriate to do so. The European Commission identified in the draft pilot regime regulation that EU financial services legislation was not designed with DLT and cryptoassets in mind and that 'there are provisions in existing EU financial services legislation that may preclude or limit the use of DLT in the issuance, trading and settlement of crypto-assets which qualify as financial instruments'. Given the similarities of the EU and UK regimes in the areas of trading, clearing and settlement (at least, at present), this is an equally applicable concern in relation to the UK's regulatory framework.     

One area where the UK's FMI sandbox could distinguish itself from the EU proposals is to include some focus on payment systems. This may be particularly valuable if stabletokens become subject to regulation (as proposed in the Treasury's consultation paper). Given the Treasury is considering ensuring that stabletoken arrangements which play a similar function to existing payments systems may be appropriate candidates for regulation by the PSR and, if they reach systemic scale, the Bank of England, it would be worth considering payment-based developments, rather than just those relating to financial instruments, as part of the scope of an FMI DLT sandbox.

On the subject of payment systems, the Bank of England announced at the start of UK Fintech Week that it has published a policy on omnibus accounts, a new type of account available as part of the Bank's Real-Time Gross Settlement (RTGS) service. This will allow access to innovative financial market infrastructure providers that can support delivery of faster, cheaper, 24-hour wholesale payment and settlement using central bank money. The introduction of the omnibus account model aligns with the Bank's commitment in the RTGS Renewal Blueprint to enable RTGS to interface with a wider range of payment systems, including those using DLT.

Under the new model, an operator of a payment system can hold funds in the omnibus account to fund their participants’ balances with central bank money. An "omnibus account" is defined as one where the funds of different entities are co-mingled in a single account.  

It is worth noting that the policy only aims to enable innovative ways of facilitating payments between financial institutions that are already eligible to access central bank money settlement, ie this isn't facilitating the opening-up of RTGS. It will be interesting to understand the take-up of this new account structure and whether this results in new innovations in making payments.

...UK fintech has grown successfully in recent years, at the forefront of global innovation. Its revenue rose to £11bn in 2019 – almost doubling in only four years and accounting for almost 10% of the global total. Already this year, we have seen over $1bn worth of investment into UK fintech. - Nikhil Rathi, CEO, FCA


fintech, europe, regulation