G+T partner Peter Reeves and lawyers Robert O’Grady and Emily Shen have authored Chambers 2021: Introduction to the Australian fintech landscape.
Over the last few years, Australian fintechs have shifted from operating on the outskirts of traditional financial services to creating offerings that disrupt core financial services products across a variety of sectors such as finance, asset management and investments, payments and data. While Australia has generally maintained its reputation as a fintech friendly jurisdiction, there has been a general trend towards more proactive engagement and enforcement actions by regulators and as a result, the market has had to keep abreast of key legislative and regulatory changes more than ever. This overview considers recent significant developments in the Australian landscape such as:
- Government supported reviews on the financial services system and payments framework;
- trends relating to neobanks and the offering of alternate credit arrangements like buy now, pay later;
- the growth of digital assets;
- use cases for blockchain and distributed ledger technology; and
- regulatory initiatives by the Australian Securities and Investments Commission.
This publication first appeared in Chambers & Partners, full text below.
Developments in financial technology (fintech) have increasingly become a defining feature of the Asia-Pacific’s economic and legal standing in the global context. Despite the economic and social impact of COVID19, Australia has been a notable driving force behind the proliferation of fintech with a broadening of product offerings by the Australian fintech community. While previous fintech offerings were limited to operating on the periphery of traditional financial services (including lending, personal finance and asset management), the sector has now moved to disrupt the core product offering of many Australian institutional financial service providers, including payments, wallets, supply chain, wealth and investment and data and analytics.
A notable trend has been the increased visibility of the role of the regulator with regulators shifting from relatively observational postures to that of more directed intervention or enforcement. Globally, this has recently been reflected in the disrupted Ant Group IPO in China and locally with the release of regulatory reports into certain fintech sectors like buy now, pay later (BNPL) and the announcement of reviews into fintech-related regulation. Despite this, Australia has generally been viewed as an innovation friendly jurisdiction and therefore Australian fintechs have a unique opportunity to continue to propel Australia as a global leader in fintech offerings.
Financial services regulation system review
As part of the Australian Government’s response to the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry (Royal Commission), the Government asked the Australian Law Reform Commission (ALRC) to inquire into simplifying the financial services regulatory framework to make it “more adaptive, efficient and navigable for consumers and regulated entities”. The ALRC will provide interim reports on three areas, being the design and use of definitions in corporations and financial services legislation, the regulatory design and hierarchy of laws, and the potential to reframe or restructure Chapter 7 of the Corporations Act 2001 (Cth) (ie, the overarching financial services laws). The ALRC has been asked to consult with regulators, industry and other stakeholders and its first interim report is due 30 November 2021.
Payments system reviews
During the course of 2019 and 2020, there have also been numerous regulator and government reviews into Australia’s payments system to broadly determine how the industry is progressing and whether any changes are required to the underpinning regulatory framework.
Reserve Bank of Australia (RBA) Review of Retail Payments Regulation
Commenced in November 2019, the RBA is currently undertaking whole of framework review of the regulatory regime supporting various payment methods. This includes reviewing any functionality gaps in the retail payment system, broadly capturing the role of cash, cheques and the direct entry system, the impact of new technologies and entrants (including closed loop systems and stored value systems), the resilience of the payments system against disruptions, roles of domestic focused schemes and frameworks, cross-border payments and the possible issuance of electronic banknotes. Much of the anticipated recommendations are likely to revolve around competition and access in card markets, interchange and compensation, surcharging and the RBA’s general approach to regulation and enforcement. The report was initially slated to be produced by the end of 2020, however has been extended to 2021.
Treasury Review of the Australian Payments System
As part of its Digital Business Package, the Government (through the Treasury) is reviewing the regulatory architecture of the Australian payments system to ensure that it remains fit for purpose and is capable of supporting continued innovation. Commenced in October 2020, the review will specifically review the structure of the current regulatory framework to determine whether it adequately accommodates new and innovative systems, how to create more productivity enhancing innovation and competition in the payment sector (particularly in relation to the New Payments Platform), alternative payment methods and global trends to ensure Australia can remain internationally competitive. The report is due April 2021.
Following the introduction of the Australian Prudential Regulation Authority’s (APRA) ‘restricted’ authorised deposit-taking institution (ADI) (ie, restricted bank) (RADI) licensing framework in 2018, there have been a number of new entrants in the Australian banking industry. The new regime enables RADIs to conduct a limited range of banking activities for two years while building capabilities and resources. The framework is designed to balance the promotion of competition and development of innovative new business models with the maintenance safety and stability in the financial system. Since 2018, there have been many digital banks (also known as neobanks) that have become ADIs through the restricted ADI pathway, with many of these banks broadly focussed on retail banking. Neobanks in Australia have been characterised by targeting more digitally oriented customers with a focus on delivering more convenient and cost effective products.
While the product rollout of these neobanks has been staggered, retail consumer uptake has been significantly higher than broader sector expectations demonstrating a trending market sentiment towards accepting fintech offerings as markedly competitive with traditional offerings. Over the next few years, it is likely the market will see more sophisticated offerings from these neobanks as well as the introduction of neobanks focussed on a broader range of services (eg, the provision of small and medium enterprise (SME) credit).
Credit and BNPL
There has been an increase in deferred payment solutions in the market following deep consumer interest and uptake compared to more traditional short-term credit (e.g. credit cards). Most significantly, there has been mass consumer adoption of BNPL as a payment model. As a result, there has been heightened regulatory scrutiny on BNPL service providers with the Reserve Bank of Australia reviewing the regulatory framework for payments in 2020, specifically referencing BNPL as a potential space for policy action in relation to merchants passing along surcharges to consumers and ASIC releasing an industry update on key observations on Australia’s BNPL industry. ASIC’s update reports on the growth of the industry, the impact on consumers and upcoming regulatory developments but notes that these developments have used existing and impending regulatory changes rather than new industry specific policy and regulation. Notably, the report states that BNPL arrangements are subject to the Australian Securities and Investments Commission Act 2001 (Cth), which makes them subject to ASIC’s product intervention power and the forthcoming design and distribution obligations.
As a result of COVID19, there has also been further developments in the consumer credit landscape with the Treasurer announcing the proposed simplification of the existing consumer credit framework (particularly the responsible lending provisions) as part of the Australian Government’s economic recovery plan. The proposed changes remove the responsible lending obligations for ADIs (except for certain credit contracts and consumer leases) and certain APRA ADI lending standards will apply to non-ADIs. The Australian Government has also buttressed SME lending by introducing the COVID19 SME lending guarantee, which offers lenders providing credit to existing SME customers a temporary exemption from responsible lending obligations in return for encouraging lending to SMEs.
Digital assets and the transfer of value
As digital platform offers have grown significantly in Australia, so too has the use and offering of digital wallets and payment providers. Given the global rise of digital payment systems (notably through WeChat Pay and AliPay) Australian startups and institutions are entering this space via specific products, ecosystem strategies and broader peer to peer payment models. This has historically presented itself in the form of in-game and purpose specific currencies that only exist within an environment as a store of value. However, more recently such models have blended with traditional financial infrastructure allowing value to shift in and out of these systems in a manner that can provide greater financial exposure to digital environments. The maturation of digital assets as products providing financial exposure to both real world and created environments has also led to a rise in traditional fund inclusion of these assets. There is a growing trend of listed and unlisted funds including investor exposure to digital assets in their investment mandate, which brings its own challenges associated with aligning existing financial regulation in the context of new technologies (eg, valuation and custody of digital assets).
Regarding digital wallets and environment based payments, there are nuances resulting in a range of regulatory treatment under Australian law. Significant regulatory requirements can arise for businesses and recent rhetoric in the fintech community is associated with the challenge presented by these regulations. Australia is an active player in facilitating innovative business models and it is likely that this space will develop significantly over the coming years, presenting opportunities for fintechs to disrupt traditional payment models and markets.
The Council of Financial Regulators (comprised of Australia’s major financial regulators) made recommendations to the Government for a new graduated framework for stored value facilities (ie, digital wallets that are widely used as a means of payment and store significant value for a reasonable amount of time) to be overseen by APRA. The new framework is intended not only to be fit for purpose for the current financial system but to accommodate future developments and technological advancement, such as proposals for stablecoin ecosystems.
Blockchain and distributed ledger technology
For the past few years there has been sustained attention on blockchain technology and a growth in interest in the technology by established businesses. Fintech businesses are now beyond the proof of concept stage and have formalised actual use cases for distributed ledger technology such as managing supply chains, making cross border payments, trading derivatives, managing assets and offering digital currency exchanges. The ASX continues to progress its plans to adopt a blockchain based technology for its clearing and settlement process to replace its current ‘CHESS’ system. The ASX is currently conducting internal analysis and testing of the technology with specific customer development workspaces and is currently scheduled to be implemented by April 2022 (with provision for this to be extended to April 2023, if required).
From a regulatory perspective, the Government has shared a broader commitment to facilitate growth and innovation within the blockchain sector and has taken a relatively non-interventionist approach. Australian regulators have generally been of the view that Australian legislative obligations and regulatory requirements are technology neutral and apply irrespective of the mode of technology that is being used to provide a regulated service.
Regulatory fintech initiatives
ASIC has championed various fintech initiatives to propel the development of the sector in Australia. There has been increased investment in ‘regtech’ (regulatory technology) and ‘suptech’ (supervisory technology) by financial services businesses.
ASIC has entered into a number of cooperation agreements with overseas regulators that aim to further understand the approach of fintech businesses in other jurisdictions in an attempt to better align the regulatory treatment of these businesses across jurisdictions. These cross border agreements facilitate the referral and sharing of information on fintech market trends, encourage referrals of fintech companies and share insights from proofs of concepts and innovation competitions. ASIC has committed to supporting financial innovation in the interests of consumers by joining the Global Financial Innovation Network, which launched in January 2019 and currently has over 60 member organisations.
ASIC has also provided regulatory assistance in various forms. In December 2016, ASIC made certain class orders establishing a fintech licensing exemption and released regulatory guidance detailing its regulatory sandbox for fintech businesses to test certain financial services, financial products and credit activities without being licensed. There are strict eligibility requirements for both the type of businesses that can enter the regulatory sandbox and the products and services that qualify for the licensing exemption. Once a fintech business accesses the regulatory sandbox, there are restrictions on how many persons can be provided with a financial product or service and caps on the value of the financial products or services which can be provided. In 2020, ASIC introduced an enhanced regulatory sandbox to allow testing of a broader range of financial services and credit activities for a longer duration.
ASIC has also established an Innovation Hub that has assisted both fintechs and regtechs in navigating the Australian regulatory framework. ASIC has noted that businesses engaging with the Innovation Hub have covered models including digital advice, marketplace lending, payments and remittance, regtech, and credit. Other Australian regulators have also made sandboxes and innovation hubs available.
There has been a variety of recent regulatory and legislative developments in the fintech industry, with 2020 having been a driver for digital transformation . With the acceleration of digital capabilities, payments implementations and a broader acceptance of technology based services in conjunction with adapting regulatory models and the commencement of Open Banking, fintech is likely to see continued opportunities for growth as the sector moves into a space of accepted maturity. Of particular note will be the outcome of the Select Committee on Financial Technology and Regulatory Technology report in April 2021, which will review the opportunities for Australian consumers and businesses in relation to fintech and regtech, barriers to uptake, current regtech practices and opportunities to strengthen compliance and the effectiveness of current initiatives in promoting a positive environment for fintech and regtech businesses.
While the government has a broad commitment to encouraging growth and productivity within the technology and financial services industry, in recent times market regulators have become more focused on consumer protection and fintechs should note the general expectation that regulator engagement is likely to be far more rigorous and the regulatory approach to enforcement far more proactive. As well as this, market uncertainty guided by external forces such as the current COVID19 pandemic is likely to have an impact on funding avenues for fintechs.
However, it is clear that Australia presents fintechs with opportunities to shape new business models to meet increasing demand for bespoke offerings and tailored services, and established institutions will continue to face the challenge of redesigning their existing technology platform, strategies and capabilities.