Congressional Research Service Analyzes Prevailing Policy Issues and Considerations for Fintech Products
On March 15, 2023, the Congressional Research Service (CRS) released a report [1] to analyze both benefits and risks of an expanding Consumer Finance and Financial Technology (Fintech) sector. According to CRS, the new technology has the potential to “improve consumer experiences, lower the cost of providing financial products, and expand access to underserved consumers.” However, they could also raise new policy issues, as many of the existing financial laws and regulations do not address the most recent technological changes.
Consumer Electronic Payments and Accounts
As electronic retail payment services and mobile and online banking gain popularity among United States consumers, fintechs have followed suit with new products, including peer-to-peer (P2P) payments, digital wallets, and data aggregation services. With new electronic products, consumers may also face increasing data security and fraud risks.
New fintech products may not be covered under typical laws to protect debit, credit, and prepaid card users. For example, while the Electronic Funds Transfers Act (EFTA; P.L. 95-630) and the Truth in Lending Act (TILA; P.L. 90-321) “establish procedures for resolving errors and limiting consumer liability for unauthorized transactions[,]” some fintech payment services may not be subject to these protections. Because the protections apply to the payment device and not the place where the account information is stored, transfers of funds from digital wallets, such as a cash balance in a P2P service, may not be protected if the transfer did not originate from a covered account.
Additionally, the fintech products might not be covered by deposit insurance and bankruptcy protections. While some wallets and pre-paid cards provide “pass-through insurance” to act as a custodial agent and deposit the money into an insured account, others offer no protections. As such, “policymakers may consider whether wallet users are under the false impression that their wallet balances are insured.”
Consumer Lending
In recent years, consumer loan underwriting has seen a change as new technologies emerge to go beyond traditional numeric credit scores and instead include internet applications, alternative data, and artificial intelligence (AI).
Alternative data refers to data that the national reporting agencies do not use to calculate a credit score. Examples of alternative data may include “payments on telecommunications; rent or utilities; checking account transaction information; educational or occupational attainment; how consumers shop, browse, or use devices; and social media information.” While access to this information could lower the cost of credit for consumers “without extensive credit histories,” some alternative data may be “considered unfair,” “negative[,] or derogatory,” and used to harm consumers existing credit scores.
AI can also have benefits in the lending process, such as improving efficiency and reducing costs to financial institutions and consumers. Currently, machine learning (ML), a subfield of AI, can be used to “(1) flag unusual transactions for fraud detection and financial crime monitoring, (2) personalize consumer services, (3) make credit decisions, (4) inform risk management forecasting and auditing, and (5) identify potential cybersecurity threats.” CRS worries that ML may pose risks due to the lack of being able to explain why a program made a particular decision and the risk of dynamic updating, “which is when models evolve over time without oversight.”
Buy Now Pay Later (BNPL) has also attracted the attention of financial regulators. BNPL is often offered online to allow a consumer to purchase a product and pay for it on an agreed-upon payment schedule. BNPL can be offered at a low cost and attract customers who lack credit histories. In 2021, CFPB issued a monitoring inquiry to collect information on the most prominent BNPL companies.
Selected Relevant Laws and Regulations
While nonbank financial companies are not regulated the same as banks, they typically need to comply with federal consumer protection and data security laws, and potentially relevant state laws. The Consumer Financial Protection Bureau (CFPB) has authority over nonbank consumer financial markets to write regulations and enforce laws, but their supervisory authority varies based on the institution’s charter, activities, and size. This means there are currently some fintech companies that incur few, or no, supervisory exams.
Policy Issues
Because of the existing regulatory environment, fintech companies possess uncertainty regarding how, or if, the laws and regulations apply to them. As such, some fintech companies may even be designed to “avoid legal or regulatory jurisdiction.” This has led policymakers to their current debate as to whether existing policies can be updated, or if a new regulatory framework is needed to address the fintech sector.
[1] https://crsreports.congress.gov/product/pdf/R/R47475