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XU Donggen | On Fintech and RegTech in the Legal Context: Focusing on Integration and Innovation
2024-03-02 [author] XU Donggen preview:

[author]XU Donggen

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On Fintech and RegTech in the Legal Context: Focusing on Integration and Innovation



*Written by XU Donggen

Distinguished Professor of Kaiyuan Law School, Shanghai Jiao Tong University



Abstract: Integration promotes innovation and innovation leads development. As innovative technologies have gradually penetrated into the financial sector and deepened cross- border integration with finance, many new formats such as FinTech and RegTech have been created. The major changes in the financial industry's ecosystem have led to new changes in financial regulation, financial rule of law and financial legal norms. RegTech is a new concept of financial law, Which produced through the integration of financial technology and regulation in the digital age. It is a typical case of integration and innovation in the field of financial law. It is also a typical expression of the integration of financial technology and law. The rise of regulatory technology has declared the start of a new financial regulatory paradigm shift trend. The discussion of regulatory technology has triggered financial regulatory paradigm shift, adapts to the regulatory requirement for a balanced strategy for financial technology innovation and compliance regulation, and has accelerated the transfer from traditional vertical regulation mode to the horizontal cooperative regulation mode, which has great social significance.

Key words: fin tech; reg tech; integrative innovation; financial law

Integration breeds innovation, and innovation leads development. General Secretary Xi Jinping emphasized that to grasp innovation is to grasp development, and to seek innovation is to seek the future. Professor Qian Sanqiang, the founder of China's atomic science undertaking and the founder of China's "two bombs and one satellite", and academician of the Chinese Academy of Sciences, once predicted: "In a sense, the end of the 20th century to the beginning of the 21st century will be an era of interdisciplinary science. The intersection between various natural sciences and between natural sciences and social sciences has always been the growth point of emerging disciplines. By the end of the 20th century, a series of new interdisciplinary disciplines will emerge. From the perspective of the internal logic of scientific development, according to the principles of science, the breakthrough point of science often occurs at the intersection of social needs and the internal logic of science. "The cross-integration and innovation of industry and the cross-integration and innovation of science follow the same principle. Since the beginning of the 20th century, industrial integration and innovation between different industries have become a new normal with the advent of the new digital era. The cross-border integration of the traditional financial industry and science and technology has given rise to many new business formats such as financial technology (FinTech) and regulatory technology (RegTech), and has brought about major changes in the ecosystem of the financial industry, which in turn has led to new changes in financial supervision, financial rule of law and financial legal norms. As a model of cross-border integration and innovation, financial technology and regulatory technology should become the proper meaning of the topic of Internet finance legal research, and become an important research topic for us to deepen our understanding of "the law of human social development, carry out arduous theoretical exploration, and achieve major theoretical innovation results" with a new vision, so as to promote the modernization of the country's governance system and governance capacity in the field of Internet financial rule of law.


1. The rise of fintech that embodies the integration of technology and finance and the response of financial regulatory law enforcement authorities


The new term fintech is a foreign product, a combination of the abbreviations of the two words "financial technology". When we use the term fintech here, the emphasis is not on how to define it, but on referring to a trending new thing and a new phenomenon. In fact, judging from the current development status of financial technology, it is difficult to give an accurate definition of financial technology from a legal perspective. Fintech, in a broader sense, refers to the use of science and technology to provide financial solutions. As big data and cloud computing have entered the stage of practical application in the financial field, the efficiency and automation of some key links in the financial industry have been greatly improved, and the development of blockchain, artificial intelligence and other technologies is likely to completely change the payment and settlement methods and operation models of the financial industry. In general, financial technology refers to the use of scientific and technological means and methods including but not limited to the Internet, big data, blockchain, cloud computing, artificial intelligence and other scientific and technological means and methods, as well as predictive coding, pattern analysis and many other technical support platforms, processors and delivery systems to reshape traditional financial products, financial services and innovative financing activities organized by financial institutions, is the application of a series of innovative science and technology in financial products and financial services. At present, science and technology finance, which connects scientific and technological innovation, the real economy, modern finance, and the daily life of the general public, has emerged and taken shape. The gradual penetration and integration of finance and technology has developed into a new form of efficient, convenient and inclusive finance, and has become a model of cross-border industrial integration and innovation in the digital era.

The significant growth of data management capabilities and the corresponding reduction of transaction costs have promoted the rapid development of innovative technology financial products and financial services, which have been quickly welcomed by the majority of financial consumers and given birth to countless new financial products and financial services. In the report of the 19th National Congress of the Communist Party of China, General Secretary Xi Jinping pointed out: "Socialism with Chinese characteristics has entered a new era, and the main contradiction in China's society has been transformed into a contradiction between the people's growing needs for a better life and unbalanced and inadequate development. ”

In order to encourage scientific and technological innovation and prevent financial risks, and protect the legitimate rights and interests of financial investors and financial consumers, the financial regulatory authorities of the United States, the United Kingdom, Singapore and Australia successively issued new financial laws, regulations and financial regulatory policies in 2016 to encourage fintech enterprises, including start-up technology enterprises without financial licenses, to innovate financial products and financial services. The U.S. Securities and Exchange Commission (SEC) has launched a fintech forum and formed a working group to find ways to improve the clarity of financial regulation while encouraging technological innovation. The U.S. Securities and Exchange Commission pointed out that financial regulators have the obligation to understand, encourage and supervise the development of financial innovation business, and do a good job of protecting the legitimate rights and interests of investors and maintaining the health and stability of the market. The U.S. Securities and Exchange Commission confirms its focus on the use of the following innovative technologies in the securities sector: (1) compliance and regulatory issues with automated investment products registered under the Investment Advisers Act, as well as the investment analysis potential of intelligent investment advisory robots, (2) blockchain technology and its potential impact on trading, clearing and settlement of transactions, and (3) internet lending platforms, crowdfunding platforms, and related financial consumer protection issues. At the international level, as the core body of global financial governance, the Financial Stability Board (FSB) first released a special report on fintech in March 2016, which provided a preliminary definition of "fintech", that is, fintech refers to financial innovation brought about by technology, which can create new business models, applications, processes or products, thereby having a significant impact on financial markets, financial institutions or the way financial services are provided. As the FSB's work on fintech progresses and research on fintech deepens, it is expected that the FSB will produce a more detailed study on the development of fintech in the future.

With the gradual penetration of innovative technology into the financial field and the deep cross-border integration of finance, especially the gradual shift of financial technology from the digitization of money to the monetization of data, the dilemma faced by financial supervision and financial rule of law has become increasingly prominent and apparent: how can financial supervision and financial law be reformed to meet the new requirements of financial technology development? We need to rethink the financial regulatory framework and financial legal norms to cover many legal concepts that have not been addressed before, such as new issues such as data sovereignty. At this stage, the further integration of finance and technology, as well as the sustainable development of fintech, will need to revolve around a new concept of financial law - regulatory technology.


2. RegTech: A new concept of financial law that integrates fintech and regulation


2.1 RegTech has become a typical case of integration and innovation in the field of financial law

The core concept of financial law is often referred to as RegTech, as the topic of the conversation on the convergence of fintech and regulation, and the application of fintech to regulation. RegTech is a new concept in the field of financial law generated by the abbreviated synthesis of the terms regulation and technology, which embodies the integration concept of financial technology and financial supervision, and also reflects the expansion of the concept and professional terminology of financial law in the digital era, as well as the extension of the discipline field of financial law to the direction of technology and digitalization. RegTech first appeared in March 2015 in the UK Government Science Office's study of the 'Fintech Advantage', and was also featured in the subsequent publication of the UK's annual budget report. Since then, the expression RegTech has been adopted in various documents issued by national regulators and standard-setters. As a new concept of financial law in the digital era and a new thing arising from the integration of technology and financial regulation, regulatory technology has gradually been accepted in the global financial regulatory discussion in recent years, and has attracted the attention of the global academic community and industry.

There is no standard definition of RegTech. However, in the context of legal and financial regulation, the Market Conduct Authority (FCA) in the United Kingdom, which was the first to list regtech as a separate sub-industry, gave a definition that the essence of regtech is "the use of the latest technological means to serve regulation and compliance", which is a subdivision expanded from fintech. RegTech generally refers to the use of science and technology, especially information technology (IT), in the field of financial regulation and financial compliance. RegTech is committed to the efficient regulation of the business and behavior of financial institutions through the use of innovative science and technology, including data analysis and regulatory reporting analysis, prevention of anti-money laundering and anti-fraud activities, and design of automated solutions in the field of risk management. RegTech in a narrow sense only refers to the use of innovative scientific and technological means by financial institutions to improve compliance procedures, control various risks related to financial business, and reduce compliance costs. For example, the use of technology to generate automated regulatory reports or the processing of unstructured language data to monitor and control behavioral compliance. Christopher Chazzo, head of group innovation at HSBC, believes that RegTech can be described as a technology solution for managing processes. In a broad sense, regulatory technology also includes the use of innovative science and technology by financial regulators in order to keep pace with the digital development of the financial industry, such as the financial regulator directly receiving and reading reports and various business data submitted by financial institutions through the network through unified data formats, the establishment of compatible API interfaces and machine-readable supervision mechanisms, etc., to improve the efficiency of financial supervision. A recent report by the Institute of International Finance summarizes the use of regulatory technology in the U.S. in many areas, including information disclosure of listed companies, analysis of securities trading behavior of market participants, transaction compliance of financial institutions, and regulation of capital market stability (such as stress testing and risk weighting).


2.2 Analysis of the motivation for the integration of financial technology and financial supervision

The motivation for the integration of fintech and financial regulation is multifaceted, and we can analyze the motivation for the integration of fintech and financial regulation from both objective and subjective dimensions.

First of all, the integration of financial technology and financial supervision has formed that regulatory technology is a contingency and active choice for technology enterprises and innovative financial enterprises. RegTech is not entirely for financial regulators, and is largely a proactive choice for technology companies and innovative financial firms. The Financial Conduct Authority of the United Kingdom describes RegTech as "the use of new technologies to facilitate the achievement of regulatory requirements", while the Institute of International Finance defines RegTech as a type of technology application that helps to achieve regulatory and compliance requirements efficiently. It can be said that regtech is the disruptive innovation of technology companies and innovative financial companies to "respond to regulation with technology".

Second, the integration of fintech and financial regulation is driven by the reversal of fintech on the financial regulator and its traditional financial regulatory model. The rapid evolution and development of financial technology requires the integration of technology and financial regulation, and promotes the origin and development of financial technology. Financial markets are inherently dynamic and volatile, and are typical complex adaptive systems. The inherent volatility of financial markets is largely due to their position at the center of the network of interconnected markets. Not only are national and global banking markets intertwined, but there is also a distant, intricate, and even more volatile "shadow banking system" that forms many different borders and textures in different parts of the global market. However, our regulatory model fails to address this market reality. We aspire to the ideals of the rule of law, which are interpreted by the expectations of many participants in financial markets as the need for a framework of predetermined rules and prohibitions in the "rules of the game". These rules and prohibitions provide the basis and code of conduct for the enforcement of the law by the financial regulators. Participants in the financial market include a wide variety of individuals and institutions, who are constantly adapting to the rules in order to pursue profits; On the other hand, it has done everything possible to break through the barriers set by the rules through technological innovation and financial innovation, so as to maximize its interests. The market risks inherent in technology-driven financial innovation may induce systemic risks, forcing financial regulators to respond positively and forcefully. Due to the lack of regulatory technology, lagging regulatory laws and conservative regulatory concepts in the traditional financial regulatory system, the traditional regulatory system and regulations built with prudential supervision, functional supervision and behavior supervision as the core cannot effectively deal with the current situation of disintermediation and decentralized financial transactions. In the face of rapid financial innovation, the traditional regulatory mechanism is increasingly overstretched in terms of its regulatory concepts and supervision methods. In order to avoid the formation of a very serious information asymmetry between financial regulators and the supervised and the phenomenon of more advanced and more hidden regulatory arbitrage, financial institutions have adopted a large number of financial technology, which has formed a huge force for financial regulators, and further strengthened the pressure and determination of financial regulators to adopt regulatory technology, so as to promote the integration of financial technology and financial supervision.

Finally, the integration of financial technology and financial supervision to form regulatory technology is the application of the concept of "governing technology with technology" in financial supervision, which shows that the regulator has taken the initiative to implement the innovation-driven development strategy in response to financial technology innovation, and has the spirit of reforming, innovating and enterprising the regulatory mode. For example, China's central bank recently took the initiative to carry the banner of artificial intelligence + supervision, announcing that it would establish a financial technology committee, aiming to strengthen the research planning and overall coordination of financial technology work, and the central bank also emphasized that it should strengthen the application of regulatory technology through the financial technology committee. The outside world has noticed that this is the first time that supervision has appeared in the official external statement of the financial regulatory department. The central bank announced that the committee has the following three main tasks: (1) It will organize in-depth research on the impact of financial technology development on monetary policy, financial market, financial stability, payment and clearing, etc., and earnestly do a good job in China's financial technology development strategic planning and policy guidance. (2) Further strengthen exchanges and cooperation at home and abroad, establish and improve a financial technology innovation management mechanism suitable for China's national conditions, handle the relationship between security and development, and guide the correct use of new technologies in the financial field. (3) Strengthen the application and practice of regulatory technology, actively use big data, artificial intelligence, cloud computing and other technologies to enrich financial supervision methods, and improve the ability to identify, prevent and resolve cross-industry and cross-market cross-cutting financial risks. For financial regulators, the use of regulatory technology can not only quickly perceive and discover financial risks, improve the real-time nature of supervision, quickly and accurately identify and capture illegal operations, and then timely warn and stop, greatly reducing regulatory costs while improving the accuracy and effectiveness of risk prevention. These advantages of regtech have a strong impetus for regulators to actively implement innovation-driven development strategies.


3. RegTech: A typical manifestation of the integration of financial technology and law


RegTech, to some extent, is a typical manifestation of the convergence of fintech and law. In the context of the birth and wide application of digital technology, information technology, and data technology, innovative science and technology are gradually integrated into the process of financial supervision, financial rule of law, and financial legal norms, as well as the implementation and revision of financial laws, so as to promote the integration of data-driven, technology-driven, and algorithm-driven innovative technological ideas with financial legal ideas and financial regulatory concepts such as macro-prudential, micro-prudential, and inclusive supervision.

The vigorous development of scientific and technological innovation is inseparable from the norms of the legal system. The new technological revolution has brought challenges and impacts to traditional legal rules and their application, and the adaptation and evolution of legal rules will further provide a good institutional environment for technological progress and social development. The more intelligent and technological it is, the more governance and supporting legal mechanisms are needed to ensure the deep integration of scientific and technological concepts such as "technology" and "scientific and technological innovation" with the normative concept of "law", and produce the functions of law in safeguarding national financial sovereignty and financial security, maintaining the stability of the financial market, and protecting the legitimate rights and interests of financial investors and financial consumers. This is a major issue that every country's financial regulators need to pay attention to. It can be said that RegTech is a model of the combination of fintech and financial law. Professor Kenneth Bamberg argues that programmers who develop automated compliance systems actually decide how best to understand financial laws, regulations, and compliance regulatory norms, and how to translate financial laws, regulations, and compliance regulatory norms into computer code. Once this shift is over, the applicable financial laws, regulations, and compliance regulatory norms are likely to change the financial laws, regulations, and compliance regulatory norms created by legislators and regulators to a large extent, mainly because the choices of regulators are focused on principles rather than rules, and the implementation of financial laws, regulations, and compliance regulatory norms, the implementation of digitalization, will translate more legal principles into specific legal rules. As our financial system moves from a know-your-customer principle to one based on know-your-database approaches, a whole new regulatory paradigm will have to encompass areas of law ranging from dealing with digital identities to data sovereignty. At the same time, the law itself has also complied with the requirements of the digital age in the process of self-renewal, integrated the concepts of science and technology and financial supervision into the legal system and legal norms with an open and inclusive attitude, and made the financial law and legal discipline continue to develop in the process of extending to science and technology and digitalization.

The successful application of regulatory technology is conducive to the identification of legal requirements and compliance guidelines through accurate and clear algorithms on the one hand, and on the other hand, it can make accurate judgments on the public policies determined by the financial regulator through a series of flexible and ingenious program design, which is conducive to promoting the values of financial market stability, fairness, efficiency, transparency and manageability. Through the adoption of a series of new and innovative science technologies and skills, this goal will be gradually achieved over time, and a reasonable and standardized financial compliance system will be established. In the process of development, regtech is also accelerating the promotion of the cooperative supervision model of financial regulators. In this regard, financial regulators guide financial institutions to find satisfactory ways to comply with financial laws and meet compliance requirements through research, while innovative companies in turn provide solutions for financial regulators and financial institutions to develop effective implementation of financial laws, regulations and guidelines, and best practices through RegTech. From the perspective of the history of human society, the technological revolution will inevitably lead to profound changes in the relations of production and social structure, and then promote the adjustment and change of legal rules. At the same time, the law is not just a neutral tool or practice. The philosophy of law in the digital age requires us to strive to liberate the law from the concept of neutral tools, and clearly state that law is a tool with a guiding function, and then require legal professionals to choose and make decisions on how to effectively use this tool with a guiding function, so that law can play a positive role in the development of regulatory technology. In order to effectively use regulatory technology, the financial regulator needs to coordinate and standardize innovative science and technology by formulating a reasonable legal framework and legal norms, consider changing at the level of combining the regulatory legal system and technical architecture, create a regulatory legal system environment for financial institutions to use efficient analysis technology, encourage real-time monitoring and sharing based on cloud computing, and improve the efficiency of financial supervision. At the international business level of fintech, despite the lack of harmonization of regional specifications for international cooperation, financial institutions such as banks will have to comply with all international financial laws and regulations, as well as the specific laws and regulations of the countries in which they provide products and services.

At present, the development of RegTech is facing the challenge of legal complexity, and the legislatures and financial regulators of different countries often stipulate different regulatory laws and regulatory rules, which is also the biggest challenge faced by financial regulators. The financial regulatory rules set by the financial regulator themselves will contain many policy options and legal validity issues as a norm for the behavior of the financial market. Financial regulators must demonstrate that their financial legal systems are sound and that whatever discretion they exercise in establishing and maintaining such systems falls within the scope of their legal authority. The development of RegTech must face legal issues and reflect the requirements of financial legal norms, and in this sense, RegTech itself is a typical manifestation of the integration of fintech and law.


4. RegTech: The beginning of a new paradigm shift in financial regulation


The interpretation of Regtech cannot stay at the technical level, and it cannot talk about technology in terms of technology. If we look at RegTech from a broader perspective, we can find that in addition to these related technical aspects, RegTech also has great social significance.


4.1 RegTech has triggered discussions on the topic of paradigm shift in financial regulation

In addition to providing effective compliance and financial regulatory tools, RegTech has become a key factor in driving the discussion of the financial regulatory paradigm. RegTech represents the next logical evolution of financial services regulation and will develop into a fundamental element that supports the construction of the entire financial services industry regulatory system. The focus on RegTech has shifted the focus from delivering efficiency gains to date to the potential of RegTech as a transformative tool to reform financial regulation. In fact, the speed of regulatory technology innovation, especially in countries like China, is obvious to all. As a new force with strong technology genes, both fintech and Regtech will have a significant revolutionary impact on the global financial industry. The innovation of financial technology not only ensures that regulatory technology can be used to make financial supervision more efficient and reduce regulatory costs, but more importantly, regulatory technology can be well used to redefine and redesign financial supervision, promote the extension of the discipline field of financial law to the direction of technology and digitalization, trigger the discussion of the industry and academia on the topic of paradigm shift in financial supervision, and promote the financial rule of law and financial legal norms in the digital era to better adapt to the needs of changes in financial market infrastructure and financial ecology.


4.2 RegTech adapts to the regulator's requirement to adopt a balanced strategy for fintech innovation and compliance supervision

Technological innovation enterprises are competitors in the traditional financial services industry, and new scientific and technological innovation enterprises in the financial industry often carry the banner of financial innovation, and can directly penetrate into the business areas of the traditional financial industry without being regulated by the current financial laws and breaking the status quo of the traditional financial industry, and gradually seize the business share of the traditional financial industry through whale swallowing. Due to the low cost of compliance, science and technology innovation enterprises have gained strong competitiveness with the help of the advantages of financial innovation.

The principle of the rule of law in the financial market is fairness and impartiality, which requires all financial institutions and personnel to follow laws, regulations, compliance regulatory norms and codes of conduct without discrimination. Financial regulators should not only support the financial innovation of science and technology innovation enterprises, but also need to bring the business and behavior of science and technology innovation enterprises into the track of financial laws, regulations, compliance supervision norms and codes of conduct. Regtech adapts to the regulator's requirements for a balance between fintech innovation and compliance supervision. Only RegTech fully takes into account the characteristics of technological innovation of fintech companies. While encouraging and supporting fintech companies to continue to innovate in financial technology, RegTech incorporates the code of conduct of fintech companies into the framework of financial laws, regulations and compliance norms, ensuring that similar activities are regulated in a similar way to prevent regulatory arbitrage of financial institutions or technology innovation enterprises. This balance constructs a new paradigm and dimension of financial supervision, overcomes the single mode of regulatory failure and over-regulation, non-regulation or one-size-fits-all rough supervision in traditional supervision methods, and at the same time improves the ability of government financial regulators to supervise the financial market. For regulators, RegTech provides an approach that takes a proportionate risk-based approach that enables more nuanced and effective regulation of markets and market participants while acquiring and managing data, shifting regulators from a large number of ex post penalties and enforcement oversight activities to precautionary risk prevention activities.


4.3 RegTech has accelerated the evolution of the traditional vertical regulatory model to the horizontal cooperative regulatory model

From the perspective of financial regulators, what are their regulatory objectives? In this regard, China can be observed from two levels: at the macro level, the goal of the financial regulator is to guide the transformation of the financial market. Just as the sudden and transitional opening of financial markets is detrimental to both participants and consumers, rapid technological transformation also introduces new risks. For example, simplifying and automating wealth management services into color-coded advisors provides a simpler and cheaper solution for end users. However, it also poses new risks as it deviates from the full disclosure regime and threatened work within the industry. At the micro level, fintech is becoming more data-driven, and these newly created fintech companies rely on new transparent information systems, which allows them to explore new compliance mechanisms, such as following compliance systems in real-time as part of the licensing process. This will provide a way for financial regulators and innovative fintech companies to monitor the behavior of their staff in real-time and identify any violations. In this case, the result is a win-win: the innovative fintech company wins because it limits the risk of misconduct; Financial regulators, on the other hand, win with better regulatory outcomes. With the help of the technical advantages of regulatory technology, the financial regulator has gradually transformed the traditional vertical supervision model into a horizontal cooperative supervision model, and achieved a win-win situation for the financial regulator and the supervised.


Conclusion


As General Secretary Xi Jinping emphasized in the report of the 19th National Congress of the Communist Party of China, we must "more consciously participate in the trend of reform and innovation" and "more consciously guard against various risks". On the basis of risk prevention, we must do a good job in reform, Development, integration and innovation work. It can be seen that reform, innovation, development and risk prevention have become the main theme of the digital era and an important thread for the improvement of my country's financial rule of law. Innovation leads development, and integration breeds innovation. The cross-border integration of innovative science and technology with the traditional financial industry has given rise to new business formats such as financial technology and regulatory technology, and has brought about major changes in the financial industry ecosystem, thereby causing new changes in financial supervision, financial rule of law and financial legal norms. The cross-border integration of technology and finance has resulted in financial technology, which has triggered a positive response from financial regulatory and law enforcement agencies. Regulatory technology is a new concept of financial law in the digital era that is produced through the integration of financial technology and supervision. It is also a typical expression of the integration of financial technology and law. The origin of regulatory technology heralded the beginning of a new paradigm shift in financial regulation.

It is foreseeable that as my country's financial legal environment further improves, new business formats such as financial technology and regulatory technology will flourish and become a model for cross-border integration and innovation of different industries in the digital era.