Plaid Policy Pulse: institutionalizing innovation

Areas once considered the fintech frontier are becoming institutionalized, with governments adopting key features and even building in-house versions.

Welcome to the Plaid Policy Pulse. In this quarterly series, we provide our perspective on public policy developments impacting consumer access to their data.

The big idea💡

How can fintech companies capitalize on government’s recent interest in compelling new products?

Areas once considered the fintech frontier are becoming institutionalized, with governments adopting key features and even building in-house versions.

We are watching closely as the government strives to understand its role in harnessing fintech solutions for the good of the consumer. Three developments over the past quarter caught our eye, and we’ll be providing our take on how we can help shape their future.

  • The Federal Reserve enters real-time payments (RTP) 💸
  • Congress grapples with alternative data 🤼
  • The European Union struggles to enforce SCA standards 🇪🇺

The Federal Reserve enters real-time payments (RTP) 💸

Increasingly, US consumers and businesses expect instantaneous payment options.

Fintech companies like PayPal, Stripe, and Square generated this demand over the past decade by building easy, fast payments that run on top of—or alongside—older and slower rails.

By the end of 2017, banks moved to capitalize on this growing market by launching the Zelle Network, Instant Debit, and The Clearing House Real-Time Payments (RTP). Now the Federal Reserve has entered the race—generating a variety of reactions (and not a little speculation).

The Fed promoted the RTP movement for the last few years, advocating for ubiquitous real-time payments by 2020. In 2018, they looked to be jumping in and issued an RFP to solicit feedback on 1) a real-time interbank settlement of payments and 2) liquidity management tools to protect consumers. Respondents to the RFP included:

  • Large tech companies who supported this move. They cheered fairer pricing and innovation.
  • Excited Democratic lawmakers (including President hopeful Elizabeth Warren) who went so far as to put pressure on the Fed to move.
  • Large banks, including the owners of Zelle and TCH, who were less than enthused. They worried about distractions and delays.

After stirring the pot, the Fed went quiet for a little bit. In the absence of any decisive action, onlookers thought the Fed might stay on the sidelines and cheerlead industry solutions. But their suspicions were quickly proved wrong. As of August 5, 2019 FedNow is happening and, barring any lawsuits, it will be fully operational as early as 2024.

So far, large banks, some Republican lawmakers, and even the WSJ Editorial Board have weighed in with their concerns, and the policy fight will only heat up from here.

⭐️ Our takeaway: If your company processes payments, these decisions will impact you. For that reason, you should consider submitting a comment on the development of FedNow before November 7, 2019.

Congress grapples with alternative data 🤼

For years, fintechs have explored the promise of alternative data—things like cash flow over time, assets, and rent/utility payments—to bring people into the US credit system.

Now regulatory bodies and Congress are pondering how to treat this type of data in credit-decisioning. A few recent developments:

  • At a July 25th hearing by the House Task Force on Financial Technology, Rep. Patrick McHenry (R-NC) said that while there are risks to using alternative data, “…when we are talking about getting unbanked or credit-invisible people and making them visible, I think that is a proper societal tradeoff in order to get more people into the world of being banked.”
  • The CFPB released a blog post highlighting fintech lending company Upstart’s performance. They found that Upstart’s underwriting model, which supplements traditional data with alternative data, “approves 27% more applicants than the traditional model, and yields 16% lower average APRs for approved loans.”
  • A report by the nonprofit FinRegLab found that nontraditional consumers across six fintechs benefited from cash-flow underwriting.

A recurring theme throughout the hearing was how best to regulate the alternative data space. As Chi Chi Wu, of the National Consumer Law Center said, “(s)ome data shows promise, other data is a mixed bag, and some data is harmful enough that it should not be used.”

In the absence of guidance from the Consumer Financial Protection Bureau (CFPB), the body that regulates alternative data, it remains difficult for companies to plot a course.

In our opinion, alternative data underwriting is different than traditional credit underwriting, both in terms of which data is used and how it is used. Under this model, a consumer can choose which data to share, and with whom. This has the potential not only to expand credit access, but also to better predict the creditworthiness of underbanked consumers.

Under this view, alternative data would not fall under the scope of the Fair Credit Reporting Act (FCRA), but would instead be regulated pursuant to the Bureau’s 1033 rulemaking authority.

⭐️ Our takeaway: Policymakers and regulators should hear from more fintech companies about their work in this space. (For instance, how do you navigate regulatory uncertainty?) Plaid is planning to engage actively with policymakers on this issue - please let us know if you would be interested in partnering with us to share your use cases and consumer success stories.

The EU struggles to enforce SCA standards 🇪🇺

Across the pond, Plaid is focused on the ongoing implementation of Strong Customer Authentication (SCA).

SCA is part of the second Payments Service Directive (PSD2), which aims to improve payments security and foster open banking. SCA requires two-factor authentication for all electronic payments over 10 euros, with banks responsible for declining transactions that don’t meet PSD2’s rather stringent requirements.

As you can imagine, SCA will have a huge impact on Europe’s burgeoning digital economy—but as government has moved to mandate implementation of this new technology, many worry that impact will be negative, at least initially. Why?

For starters, there are many different interpretations regarding what, precisely, counts as compliant. That has the potential to create a wide array of different experiences for consumers—some good, others less so.

Add to that these data points, and we see some concerning patterns:

  • A 451 research report, which found that only 44 percent of businesses are ready for the September deadline.
  • An Ekata finding that 25 percent of merchants are not even aware of the SCA requirement.
  • The potential for $57 billion euros in lost revenue due to reduced consumer conversions. And it’s likely not the big businesses who will be hurt: it’s the small, independent merchants whom the regulation was originally intended to protect.

SCA is slated to begin September 14. It will apply to all customer-initiated purchases that take place in Europe—meaning that both the customer’s bank and the merchant’s payment provider are located in the EU.

Because of these difficulties, the European Banking Authority has allowed for a limited extension on a country-by-country basis. This should help to avert a single-day disaster. But with 28 countries—all of whom have interlinked payment systems—now acting unilaterally on a major tech upgrade, we fear that the worst is yet to come.

⭐️ Our takeaway: Expect continued uncertainty. SCA roll-out should be a critical case study in what can go right and wrong for countries considering implementing their own open banking standards.

Katie Neal works on policy partnerships at Plaid. She's committed to building a financial services ecosystem that works for everyone.

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