Traveling from one sandbox event in Asia to another in Africa, I had a dream that all regulators who are thinking about introducing a regulatory sandbox consulted industry stakeholders first. While sandboxes have emerged as a popular regulatory response to rapid innovation in digital financial services, the decision to set up a sandbox should be made in consultation with industry, or it may prove ineffective. In an earlier blog post and working paper on regulatory sandboxes and financial inclusion, I emphasized the importance of discussing any proposed sandbox framework with relevant stakeholders. I would now argue that regulators should consult industry (including incumbents and challengers alike) even before deciding whether to implement a sandbox or an alternative solution.
As the annex to Milken Institute’s letter to the Global Financial Innovation Network illustrates, consultation with industry usually comes late. Milken mapped the “sandbox journeys” of most countries, revealing that oftentimes regulators consult industry only after a sandbox framework is drafted. There may be several reasons for this: mindset (the assumption that regulators always know best what to do and do not need to ask), reputational risk (concern that consultations with financial providers may be perceived as regulatory capture), lack of confidence (fear that direct interaction with industry may reveal a regulator’s knowledge gaps) and unfamiliarity with new types of providers, who often speak in technological jargon. These are legitimate concerns, but all of them can be addressed with openness, transparency, clearly defined rules and preparation or support from a third party (which may, for example, conduct a survey to understand challenges faced by FinTechs).
Regulators should consider reaching out to industry before deciding on a solution and asking some key questions: What challenges does industry face? How can regulators help? Is a regulatory sandbox the best solution? If so, what features should it have? Such consultation can take different forms, whether an informal breakfast held offsite, a half-day workshop at a regulator’s premises or an online survey published on a regulator’s website. It does not have to be formal. The point is that it should allow a free exchange of ideas between the regulator and the industry before a solution is selected and implemented.
There are many alternatives to a sandbox that should be considered in this discussion. Regulatory sandboxes ideally emerge to support a particular objective, such as to promote competition (e.g., Financial Conduct Authority in the United Kingdom), to test a regulatory framework applicable to new business models (Monetary Authority of Singapore) and so on. Often, if not always, these objectives can be achieved in different ways. A regulatory sandbox is just one among several alternatives like test-and-learn, wait-and-see and legislative reform.
The experience of Capital Markets Authority of Kenya (CMA) illustrates the benefits of consulting providers early and often. In 2017, CMA launched a consultative process to test the feasibility of a new regulatory approach to innovation. After organizing a workshop with industry, CMA conducted extensive research into innovation facilitators. It summarized its findings in a public consultative paper, offering international comparisons and suggesting several approaches potentially suitable for Kenya, including a regulatory sandbox. In 2018, CMA complemented this effort with a FinTech landscape analysis, which not only mapped existing FinTech activities in Kenya, but also asked FinTechs about key barriers they face in bringing innovations to the market. The feedback CMA has received throughout this process has proved valuable. It has pointed to areas where a regulatory sandbox can help address specific regulatory barriers (such as an authorization process for new entrants or new products) and illuminated how it can do so.
Early industry consultation is often the right way to go, but it may not work or be necessary for everybody. There are regulators with deep understanding of the industry and the vision (often based on thorough market monitoring and analysis) to implement a regulatory sandbox to achieve defined objective(s) according to their core regulatory mandate. Regulators who have some doubts and questions should not hesitate to consult providers. The earlier, the better.
This post is part of CGAP's "Regulatory Sandboxes: What Have We Learned So Far?" blog series. The series takes a critical look at the concept of the regulatory sandbox and how it has evolved in different parts of the world.