In 2016, the UK Financial Conduct Authority (FCA) pioneered the concept of a market-driven regulatory sandbox with cohorts selected from a general pool of aspiring innovators. Reminiscent of private-sector incubators or accelerators, the FCA’s sandbox model had immediate intuitive appeal for regulators and fintech innovators seeking common ground. Scan the globe today and you will find that most of the active regulatory sandbox programs follow a similar approach. In the past year, however, "thematic sandboxes" have emerged as an important refinement to this model.
Unlike general purpose sandboxes, thematic sandboxes are designed to advance more focused policy objectives – typically, by limiting admission to firms that are developing specific types of technologies, products or business models. Over the past 18 months, CGAP has seen thematic sandboxes emerge in three distinct categories:
- Financial inclusion sandboxes, such as those sponsored by the Bank of Sierra Leone and Bank Negara Malaysia, are limited to products, services and business models that are designed to advance financial inclusion.
- Next-Generation (NextGen) regulatory sandboxes are being used to develop guidance and standards on technologies with broad relevance for financial services market development (see CGAP’s work on Basic Regulatory Enablers for Digital Financial Services). For example, the Bank of Thailand leveraged its sandbox as a focal point for industry consultation on a standardized QR code for domestic and cross-border payments. Similarly, the Japan Financial Services Commission's Fintech Proof of Concept (POC) Hub has conducted sandbox tests with small cohorts focused on customer identity verification and automating customer suitability determinations. The first graduate of the Central Bank of Bahrain's sandbox provides account aggregation infrastructure for open banking.
- Provider-specific sandboxes have emerged as tools to catalyze innovation in specific sectors of the financial system. For example, the Abu Dhabi Global Markets RegLab recently completed a cohort focused on small and medium enterprise finance. Likewise, the Monetary Authority of Singapore’s Sandbox Express program, currently in the consultation phase, plans to offer “pre-defined sandboxes” for insurance brokerage, remittances and certain institutional trading platforms (recognized market operators).
Although it’s still too early to say definitively, the shift to thematic sandboxes seems to be a move in the right direction. In particular, emerging market regulators have good reasons to favor thematic sandboxes over the first-generation sandboxes modeled on the FCA sandbox. For example, while general purpose sandboxes are popular and relatively easy to launch, thematic sandboxes require regulators to clearly frame the objectives of such programs before they are implemented. This planning discipline may help ensure sandbox programs align with existing regulatory priorities and do not become resource-intensive distractions.
Specifically, thematic cohorts curated around NextGen regulatory issues, including e-KYC requirements, digital identity, use of alternative data, credit reporting, open banking, cloud computing and interoperability, can enable regulators to focus their energy on issues that are common across budding fintech ecosystems. In this way, thematic sandboxes may help regulators proactively engage with regional or global innovation programs, such as the Global Financial Innovation Network, that are exploring these issues.
We expect to see continued interest in thematic sandboxes in 2019, particularly in emerging markets. With so many framework precedents now available, it is easy for regulators to launch their very own regulatory sandboxes without pausing to define their intended outcomes. Sandboxes are just one of many tools for supporting regulatory innovation. Regulators who decide to build sandboxes may find that thematic sandboxes are better suited for their purposes than market-driven sandboxes, especially if their goal is to address specific issues to nurture nascent fintech ecosystems.
The Fintech revolution is a great thing but the key concern is the security of the persons who are carrying out the transactions in good faith but without much understanding of the technological risk. If this is done, the confidence of the general public especially the poor and excluded will be developed and the purpose of financial inclusion will be better achieved. As of now, I am not confident that our central banks and the regulators are geared for regulating the fast-paced Fintech.