IMPACT OF DIGITAL FINANCIAL SERVICES INNOVATION ON POLICY AND REGULATIONPRESENTED BY HILDA MUTSEYEKWAHARARE 14 July 2016

OUTLINE The emerging Scenario Implications

Collaboration Light Touch Regulation Competition Regulation Consumer Protection Privacy, Data Protection and Security

The Emerging Scenario “Banking is essential, banks are not,” Bill Gates, then CEO of

Microsoft, 1994. From cash heavy to cash- lite to cashless transaction

processing going into the future. Characterised by in-store payments, online payments, peer-to-

peer payments, carrier billing, mobile point-of-service payments, and payments using mobile wallets.

From branch networked banking to branchless banking characterised by agent banking.

The next wave of change could be virtual banking where there might be no need for banks but just National Operating Centres manned by very few people.

Banks will rely heavily on the ubiquitous distribution networks of third parties to deliver financial services and credit products.

The Emerging Scenario cont.. Mobile and banking services are converging

through the following scenarios: combinations of usage of mobile money and bank

accounts. Where we have a variety of cash-in/deposit and

cash-out/withdrawal functions and money flowing from Customers with bank accounts to: unbanked persons by making transfers to their mobile

wallets; their mobile wallets to pay businesses or cash-out

through mobile money agents instead of withdrawing at ATMs or bank branches.

The Emerging Scenario cont.. Convergence of mobile and banking services

MNOs are evolving from solely providing mobile money services to jointly providing services through partnerships with banks.

Telecom companies venturing into banking and banks venturing into Telecommunication.

Banks and MNOs now directly competing in the provision of digital financial services with some MNOs opting to buy existing banks. For example; Econet ‘s acquisition of Steward Bank.

The provision of bundled telecommunications and banking services through one entity with multiple licences.

Banks being permitted to provide ‘branchless banking’, through agents who can also be mobile money agents.

Banks adding a delivery channels including web interfaces for transfer, payment and investment transactions. (additional features layered onto traditional banking)

The Emerging Scenario cont..

In some cases MNOs are partnering with banks to deliver savings and loans through existing mobile money service interfaces;

Cases in point: Vodacom in Tanzania partnered with Commercial Bank of Africa (CBA)

in launching M-Pawa. Safaricom did so earlier with CBA (M-Shwari) in 2012, and with Kenya

Commercial Bank (KCB M-Pesa) in 2015, each of which are accessible through the M-Pesa menu.

In Uganda, MTN has a mobile lending arrangement with Stanbic Bank.

MNOs such as Tigo in Ghana have also successfully partnered with insurance companies to offer insurance products.

This has implications for the regulation of market entry as in a number of countries, market entry has been permitted only under a bank-led model

Implications: A Collaborative Approach Collaboration among the telecommunication sector regulator, banking

sector regulator and the Competition Authority. RBZ: Prudential financial regulation, including safeguarding user funds,

protecting against fraud, terrorism financing and money laundering. POTRAZ: Access to and pricing of telecommunications network services

used for delivery of the services. CTC: Cutting across all regulators’ areas of responsibility including issues

to do with market entry; agent exclusivity; account to-account interoperability.

The fact that digital financial systems operate over telecommunications networks, means data protection and security are pertinent issues to both regulators.

There are a lot of interlinkages among financial; telecommunication and competition Authorities whereby they have to reinforce one another.

Implications: A Collaborative Approach Hence coordination and collaboration among these

regulatory bodies is necessary : for the development of a conducive regulatory environment

that fosters innovation, growth and inclusivity in the provision of digital financial services collaboration is beneficial:

for efficiency purposes, and where powers overlap, collaboration may reduce duplication in resources;

Reducing conflict between various regulators especially on anticompetitive behaviour;

to allow regulators to draw on each other’s respective strengths, including ensuring that the institution with the stronger legal powers, larger budget or political credibility uses them optimally.

Implications: Light Touch Regulation In general robust regulation is needed to protect against systemic

risks in banking However, the need to strike a balance between financial

protectiveness, innovation and financial Inclusion has resulted in a light touch approach to regulation as follows:

Regulation increasingly being tweaked to match the kind and scale of risk involved in transactions.

We are witnessing a relaxation of entry conditions into both the financial and telecoms market. Whereby:

The Central bank has opened up the financial services market to other players such as MNOs and money transfer agencies.

Banks now offering banking services through agents unlike the traditional scenario where delegation of customer-facing functions where limited to registered legal entities with a business licence or minimum amount of capital.

Implications: Light Touch Regulation Relaxation of criteria for one to operate as a banking agent- No hard and

fast obligations on : capital requirements ; reserve requirements; governance

requirements and reporting and disclosure requirements . Full banking regulations no longer applied unnecessarily as it can be

disproportionate and counterproductive. A lighter licensing regime, such as electronic money issuer (EMI)

licences, may be appropriate. However, prevention of terrorism finance and money laundering may

also justify limiting the amounts that may be Transferred, requiring certain record keeping, and identification of the sender.

The risks are increasingly mitigated by requirement for SIM registration and PIN numbers and the recording of transactions digitally.

This reduces (anonymity risk), enable tracking of each transaction (reducing elusiveness risk), and enable the monitoring the frequency and scale of transactions. (enabling oversight).

Implications: Competition Regulation Traditionally central banks are known for treating competition

issues as a lower priority than financial stability and prudential regulation).

Technological developments and innovation are bringing in other barriers to entry as well as new products that may influence market power.

For example USSD channels were hitherto regarded as peripheral to an MNO core’s business has now become a hot subject of regulatory interest.

Need to strike a balance between allowing investment and innovation to reap its rewards whilst at same time safeguarding competition.

The focus is on understanding the dynamics of market power in both mobile telecommunications and digital financial services markets.

The fact digital financial services ride on telecommunication networks and their agencies has brought competition regulation issues to the centre stage. These include issues to do with:

Implications: Competition Regulation cont..

Access to telecommunication networks: A key area for focus in some markets will be the terms and pricing of access of competing

mobile money providers to the MNOs’ USSD channels. MNOs can use their market power over communications channels to leverage network effects

to prevent competitors gaining traction in the downstream mobile money market. This concern over vertical integration and control over a bottleneck resource for downstream

competitors is ‘meat and potatoes’ in telecommunications regulation and competition law. Strategies include:

refusing to provide USSD to competitors or delay supply based on justifications such as lack of capacity or technical readiness.

offering prices which squeeze the competitors’ margins to make their business commercially unviable, and discriminating in pricing and other terms.

Such exclusionary behaviour can foster and embed a vicious circle of network effects in both the mobile money and telecommunications markets.

The Telecommunications Regulatory Authority of India (TRAI) was the first to set a price ceiling for USSD sessions in 2013 of USSD for mobile money

In Zambia, for example, MTN was fined by the competition authority for restricting access to

USSD of Zoona, a major payments competitor. In Zimbabwe, one MNO was investigated by the Competition and Tariff Commission (CTC) for

possible breaches of the Competition Act.

Implications: Competition Regulation cont..

Agent networks; the fact that many agents double up as agents for both telephone services and financial services means that incidences of abuse of market power can become prevalent.Hence the need to guard against anti- competitive behaviour whilst at the same time encourage investment in agent networks to increase density of penetration and drive coverage to unserved areas. This is necessary to ensure that exclusive dealing does not impede competitors from entering and growing in the market

Implications: Competition Regulation cont..Interoperability Large MNOs with extensive infrastructure and upfront investment in mobile money

networks have little incentive to voluntarily interoperate with smaller MNOs and other mobile financial services providers.

There is thus a risk that without interoperability, or introducing it too late, the market leader may become entirely invulnerable to competition.

Where one service provider is dominant, these network effects can crowd out competition and entrench the current market structure.

This is because of the mutually-reinforcing network effects of telecommunications and mobile money services which can be a strong barrier to market entry.

As the market matures, interoperability becomes mandatory in order to mitigate harmful network effects.

This should happen at the right time when agent networks are built out, lead firm recoups its investment, and its dominance becomes embedded.

In addition, interoperability may impose additional costs on service providers to allow for compatibility between diverse technologies and systems.

Beyond technical interoperability, it will also be important to ensure that charges for making cross-network transfers do not discourage cross-network transfers.

Implications: Competition Regulation Interoperability cont.. Financial regulators will typically benefit greatly from coordinating

discussions on interoperability with both telecommunications regulators and competition authorities.

Both have an understanding of competitive markets in a network industry, network effects and the need for interoperability.

The telecommunications regulator will also typically have extensive experience with the practicalities of telecommunications network interconnection, including flow-through problems of wholesale pricing for cross-network transfers.

While telecommunications interconnection and mobile money interoperability are not the same thing, there are lessons worth sharing among regulators.

Implications: Competition Regulation cont..Access to and control of data As the digital financial services market evolves, access to and control of transaction data

assumes more importance. In most cases network services providers will naturally have an upper hand on transaction

information as mobile money accounts are linked to mobile phone numbers. This means MNOs will have monopolistic control over information on credit history which they

can use to their advantage especially where they have dominance in the provision of mobile money.

Risk-based financial services, in particular lending and insurance, will depend on profiling customers to come up with credit scorecards and other evaluations.

Lenders may face information asymmetries that reduce the quality of their credit evaluations and lending decisions.

This may pose barriers to entry, growth and innovation in mobile financial services, reducing competition and increasing costs of lending and borrowing.

Questions arise as to who owns the data : Is it the consumer, the service provider or is it a public good that should be availed to all competing providers?

Most probably regulators are likely to consider requiring open access to data where it is an ‘essential facility’ for mobile credit when the provider is dominant.

Standards on how customers’ transactional data is secured, accessed, analysed and shared (and who owns it) may be necessary to stimulate the development of mobile financial services.

Implications: Consumer Protection Consumer protection has not been a secondary priority in financial regulation, as

it has been in much traditional telecommunications regulation. Liberalisation and competition were primarily expected to trigger the desired

consumer benefits. The upsurge in mobile financial services has conjured up several consumer

protection issues to do with Transparency, disclosure and effective consent. Because of the increasing popularity of digital financial services, consumers may

not have the requisite financial literacy and knowledge of available alternatives to make well informed decisions.

As such they can be stuck with providers who may offer high transaction prices and lower quality of service (principally USSD) without competitive pressure .

In some cases, the consumer may not even know whether the MNO is charging him or her – or the provider – for the session.

Some MNOs inform the customer of the charges after the transaction, and others do not inform the customer at all

Hence there is need to develop rules as to what must be disclosed and when it must be disclosed to potential customers.

Implications: Consumer Protection Disputes and complaints processes are now

critical. Processes for redressing customer complaints

about the collection and use of incorrect data, or data incorrectly collected, will be needed.

Disclosure on what data about a customer is collected, how it will be treated and used, including for third parties, will also need to be developed.

Dispute and complaints procedures are important to protect consumers and ensure trust in the mobile money system.

Implications: Privacy, data protection and security The lack of access to formal financial services in rural areas

makes consumers more prone to granting consent to the access and use of their data, unaware of the risks.

Breaches of privacy and particularly data security may result in identity theft, harm to credit records, fraud and other risks.

A range of privacy and data protection issues will need to be addressed in most mobile financial services markets.

These include: requirements to obtain effective consent, including through ‘opt-

in’ permissions for use of customer data. Rules on liability for third parties’ use of customer data need to

be developed. Privacy and marketing rules.

Implications: Privacy, data protection and security Regulators will likely need to enforce some basic protective

measures, and the requirement for dominant providers to adopt the ‘Privacy by Design’ principle.

Issues to do with data security also assume importance as they can stimulate service uptake and increase consumer protection.

Such Issues relate to access control, authentication, non-repudiation (i.e., preventing customers denying transactions they have carried out), data confidentiality communication security, data integrity, availability and privacy.

The development of industry standards, in dialogue with the regulators, for this purpose, will be important to ensure actual adoption.

conclusion Policy and regulation of financial services

and telecom services is changing. Light touch, collaborative approach,

underpinned by self regulation through setting of industry standards.

Co-opetition, access to and control of transaction data as well as consumer protection taking centre stage unlike before.