Fintech – European Chinese Law Research Hub

A new paper by Robin Hui Huang and Christine Menglu Wang

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A regulatory crackdown on China’s Big Tech in the past years has drawn attention to a blossoming business model: Micro loans extended on a massive scale through collaborations between banks and fintech firms such as Alibaba’s Ant Financial. The application of information technology has disrupted the traditional way of providing financial services and products in recent years. In China, a pioneer in developing new models for credit business based on fintech-bank partnerships, two main forms evolved, namely the model of loan facilitation and the model of co-lending (see figures below). The model of loan facilitation refers to the practices of fintech firms providing financial institutions with technical support and credit-related services. Under the model of co-lending, apart from the provision of ancillary services, fintech firms also contribute some funds to extend loans together with their partner financial institutions. This paper observes the FinVolution Group and Ant Group as examples to illustrate the two business models of FinTech-bank partnership.

By establishing business partnerships, fintech firms can leverage massive customer data and innovative platform technology to provide important assistance for financial institutions at some key junctures of the credit extension process, thus improving access to finance for more customers. The collaboration with fintech firms enables financial institutions to concentrate on their core business by outsourcing certain work and serve their customers with greater efficiency. Fintech firms can take advantage of the funds, expertise and resources of financial institutions to engage in credit-related business without applying for a separate license. The partnership with financial institutions can bring reputational benefits for fintech firms and strengthen their brand image in the credit market.

While fintech-bank partnerships may bring many benefits to China’s credit business, they also pose serious risks and problems. Firstly, the collaboration with fintech firms increases the operational complexity of financial institutions. Due to regulatory arbitrage, fintech firms are not subject to strict financial regulations. A challenge for financial institutions lies in dealing with outsourcing risks arising from misconduct of their partner fintech firms. Secondly, the exclusive control of data and technology on the part of fintech firms is likely to reinforce their monopolistic practices, thus leading to a vendor lock-in problem for their partner financial institutions and customers. Thirdly, as fintech-bank partnerships involve the processing and sharing of vast amounts of customer information, concerns regarding data security and privacy issues grow. Further, algorithms and other data-processing technologies are applied to conduct creditworthiness assessments of customers. Fintech firms risk extending loans to customers based on credit assessments that are inaccurate due to the input of biased data and a defective design of assessment technologies. Last but not the least, the risks that financial institutions face when outsourcing data security services and assessment are even greater due to the fact that a small number of fintech firms dominate the provision of such services. The operational failure of or cybersecurity incidents at dominant fintech firms can easily give rise to financial contagion and systemic events in the market.

In response, China’s government has endeavoured to address the above problems by strengthening laws in related areas, such as anti-monopoly law, data protection law and financial law. Specifically, antitrust regulators have issued guidelines for the platform economy to prevent monopolistic practices and safeguard customer interests. China has further consolidated its regulatory regime for data security and privacy protection to tighten oversight of fintech firms’ business. The formulation of industry standards for algorithmic applications has also improved compliance with requirements for financial innovations. These regulatory responses have both strengths and weaknesses. This paper focuses on the particular issue of regulatory arbitrage arising from outsourcing activities.

Our study suggests that in case of the co-lending business model, there is a regulatory loophole that allows some fintech firms to circumvent licensing requirements and carry out credit business in an indirect way. The loophole may be closed by clarifying that relevant requirements apply equally to indirect participation in co-lending business. In the loan facilitation model, under the current framework, fintech firms do not need to hold a credit business license but can rather ride along on the license of their partnering financial institutions. This gives rise to challenges since reliance is unduly placed on financial institutions who have to oversee their partnering fintech firms and are ultimately responsible for the performance of outsourced services.

Drawing upon the experiences of overseas jurisdictions, including the US, the UK, the Netherlands, Luxembourg and Switzerland, this paper argues that China can adopt a staged and differentiated approach to regulate fintech-bank partnership. The UK initiated the regulatory sandbox regime in November 2015, which allows fintech firms to develop and test innovative products and services in a controlled environment. It sets out plans for implementing the regulatory sandbox, including the entry and exit criteria, a tailored authorization process for different firms and appropriate safeguards for customers. A similar model, adjusted to local circumstances, would be suitable in China. As fintech firms need time and resources to meet relevant sandbox requirements, China may also create a special test environment for start-ups by introducing an umbrella regime. It allows fintech firms to conduct innovative business under the shelter of an umbrella entity. The sandbox umbrella, as a regulated entity, will provide ample experimental space and ensure better customer protection, because fintech firms can use its license for trial services and products under the actual circumstances.

After fintech firms complete the sandbox process and proceed to operation, the key issue becomes the continuous supervision of their partnership with financial institutions. Switzerland has introduced a new fintech license with relaxed requirements to promote innovation. The licensing process depends on the quality of each application and the complexity of the fintech business. Based on that model, China is advised to implement a sophisticated licensing regime to set out differentiated rules for fintech firms according to the nature and types of services they engage in. In this regard, more categories of special licenses can be created as ‘limited licenses’ as distinct from the traditional ‘full licenses’ to address the problem of regulatory arbitrage. Further, it is worth experimenting with a mentorship scheme, under which the monitoring responsibility of financial institutions is limited to compliance violations of their partnering fintech firm and emphasis is placed on helping start-ups.

The paper FinTech‑Bank Partnership in China’s Credit Market: Models, Risks and Regulatory Responses was published in European Business Organization Law Review. Robin Hui Huang 黃輝 is Chair Professor at the Faculty of Law, Chinese University of Hong Kong. Prior to joining CUHK, Professor Huang was a tenured staff member in the Faculty of Law at the University of New South Wales, where he now holds a position of Adjunct Professor. He is also Li Ka Shing Visiting Professor in McGill Law School and Honorary Professor at East China University of Political Science and Law. Christine Menglu Wang 汪夢露 is a Post-doctoral Fellow in the Department of Law, the University of Hong Kong.

A new book by Robin Hui Huang

Financial technology (Fintech) brings about paradigm changes to the traditional financial system, presenting both challenges and opportunities. In 2020 when this book was largely written, unlike many traditional businesses, Fintech seemed to be accelerated rather than hampered by the outbreak of the COVID-19 pandemic. Due to the various restrictions and even lockdowns imposed during the pandemic, more people and institutions have embraced Fintech, doing shopping, payment, and investment through online platforms. In any event, Fintech looks set to reshape the financial landscape, producing significant impact on the business community and society at large.

This is the first book-length treatment of the regulation of Fintech in China. At the international level, there has been a fierce competition for the coveted title of global Fintech hub. One of the key enablers of success in this race is regulation. As the world’s leader in Fintech, China’s regulatory experience is of both academic and practical significance. This book aims to present a systematic and contextualized account of China’s Fintech regulation, identify relevant institutional factors contributing to the development of the Chinese law, and illustrate why and how China’s Fintech regulation has been developed, if and how it differs from the rest of the world, and what can be learned from the Chinese experience.

Fintech is an evolving concept with new products or services emerging constantly. Hence, it seems neither desirable nor feasible to discuss all Fintech sectors in this book, and it would be necessary to be selective about the topics to be covered. This book chooses to focus on the following topics: online P2P lending, cryptoassets, initial coin offerings, mobile payments, data protection, robo-advisory, equity crowdfunding and central bank digital currency. In fact, China has both stories of success (e.g., mobile payments) and lessons of failure (e.g., online P2P lending).

Although different sectors of the Fintech market have different features and issues, this book shows some common threads running through them. First and foremost, the regulatory goal is to achieve two main objectives, namely facilitating financial innovation and market development on the one hand, while ensuring risk control and investor protection on the other. Second, the regulatory balance is a delicate and dynamic one, which needs to be carefully designed and adjusted according to the local conditions of any given jurisdiction. Third, the regulatory regime for the Fintech markets is a work-in-progress, which is not surprising given the fast-changing pace of the underlying Fintech markets.

Given the novel and disruptive nature of Fintech, a fundamental question here is whether we can still use the traditional regulatory framework for Fintech, or we need to think outside the box and introduce a new one specifically for Fintech? Indeed, Fintech regulation presents a cutting-edge and largely uncharted territory, and the right key can be found only after lots of trial and error.

From a political-economic perspective, this book also ventures to demonstrate the Chinese characteristics of China’s Fintech regulation. For instance, it does not only examine the substantive rules, but also the enforcement issues, particularly the interest group politics of relevant regulators. At a higher level, China’s Fintech market can be labelled “policy market” in that the development and regulation of China’s Fintech markets have been heavily influenced by the policies of the government (or even the Chinese Communist Party). Data privacy and cybersecurity have become increasingly important in the regulation of China’s Fintech business, with far-reaching implications for the financial markets domestically and internationally (via overseas-listed Chinese Fintech firms). There can be more uncertainty arising from these issues due to China’s growing concerns over national security against the background of the ongoing competition (confrontation) between China and the US.

In sum, the Chinese experience can have important implications for the international discourse and debate on the regulation of Fintech. This book has several features which readers may find useful as a source of information. Firstly, a systematic and contextualized account of China’s Fintech regulation helps readers gain a holistic view of the regulatory approach and regulatory perimeter in China. Secondly, the book tries to identify and analyze factors the interaction of which has contributed to the constitution of the institutional environment in which China’s regulation of Fintech has been made and enforced. This will help readers understand not only what the law is, but also why the law is the way that it is. Thirdly, it takes a comparative approach to critically evaluate Fintech regulation in China. The comparative analysis covers some major Fintech jurisdictions in the region and internationally, such as the US, the UK, Singapore and Hong Kong.

Robin Hui Huang’s book, Fintech Regulation in China: Principles, Policies and Practices was published with Cambridge University Press and is available here.

Robin Hui Huang is Professor (senior level) at the Faculty of Law, Chinese University of Hong Kong. He is a leading expert in corporate and financial law with a focus on Chinese and comparative issues. He is also Adjunct Professor of Law at the University of New South Wales, Li Ka Shing Visiting Professor of Law at McGill University, Honorary Professor at East China University of Political Science and Law, and Guest Professor at China University of Political Science and Law. He is Specially-Invited Research Fellow of the Supreme People’s Court of PRC and Expert Advisor of Shanghai Financial Court. He has had about 120 publications, including 10 books and many papers in premier publishing houses and top journals in the United States, United Kingdom, Australia, Canada, Germany, Israel, Hong Kong, Mainland China, and elsewhere. He acts as a Chinese law expert in international litigations and serves as an arbitrator in China and overseas.

European Chinese Law Research Hub

Tag: Fintech

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