I have a piece with Mihir Deshmukh on the “The New inter-operable regulatory sandbox makes things easy not just for innovators but also for regulators”. The full piece is as below:
On October 12, 2022, the Reserve Bank of India (RBI) issued the standard operating procedure (SOP)for inter-operability of regulatory sandbox. This SOP was issued pursuant to a report of an inter-regulatory technical group on fintech, and provides for a framework for testing of innovative hybrid products/services that fall within the domain of multiple financial sector regulators, and provides a common window to obviate the need of innovators to coordinate with multiple regulators in relation to their innovations.
The working group had members from various financial sector regulators such as the Securities and Exchange Board of India (SEBI), the Insurance Regulatory Development Authority of India (IRDAI), and the International Financial Services Centre Authority(IFSCA). In addition to the members from Financial Sector Regulators, has representation from Department of Economic Affairs (DEA), Ministry of Finance and Ministry of Electronics and Information Technology (MeITY), Government of India. The working group was chaired by the general manager of the Fintech Department of RBI.
A regulatory sandbox refers to live testing of new products or services in a controlled/test regulatory environment for which regulators may permit certain regulatory relaxations for the limited purpose of the testing. The regulatory sandbox allows the regulator, the innovators, the financial service providers (as potential deployers of the technology) and the customers (as final users) to conduct field tests to collect evidence on the benefits and risks of new financial innovations, while carefully monitoring and containing their risks. It can also provide a structured avenue for the regulator to engage with the ecosystem and to develop regulations that facilitate innovation that facilitate delivery of relevant, low-cost financial products.
The approach taken for the framework towards the inter-operable regulatory sandbox is to provide such regulatory sandbox opportunities on an ‘on-tap’ basis, such that any person seeking such option may apply to the Fintech Department of the RBI that is to act as the nodal point for this process. In order to determine which regulator may exercise primary control over such regulatory sandbox, it is pertinent to determine the dominant feature of the proposed product/ service. Two sets of tests are made applicable to determine such dominant feature such that, the first test takes in consideration the type of enhancement proposed to the existing product such as loans, deposits, capital market instruments, insurance, G-sec instruments, pension products, etc., and the secondary test takes in consideration the types of relaxations sought by the entity seeking to test under the inter-operable regulatory sandbox. The dominant feature shall be decided with greater weightage to the number of relaxations sought.
On the basis of such dominant feature, it is determined as to which financial sector regulator would be considered as the principle regulatory for such inter-operable regulatory sandbox, and which regulators may be considered as the associate regulators. On the basis of such determination, the coordination group i.e. the Fintech Department of the RBI is required to conduct the preliminary scrutiny to determine whether the proposed sandbox application satisfies the minimum eligibility criteria prescribed by the primary regulator. In this regard, it is pertinent to note that in order for an entity to apply for a regulatory sandbox with SEBI as either the primary or the associate regulator, such application would be required to be made either by a SEBI registered intermediary, or jointly with such intermediary. It is also pertinent to note that which RBI generally provides regulatory sandbox facility to applicants through various thematic cohorts, it will be providing the regulatory sandbox opportunity on anon-tap basis for the purpose of the inter-operability of such regulatory sandbox. Furthermore, it may be noted that all applications from Indian fintech applicants that seek to take their proposed products/services global, or foreign fintech players looking to offer their products/services in India will be sent to the IFSCA as the principle regulator.
Once the co-ordination group conducts its preliminary scrutiny, it is to forward its findings to the primary regulator for it to conduct a detailed scrutiny of the proposed product/services as per its standards, and to co-ordinate with the associate regulator(s) regarding the features of the product, that may fall within their purview. Such provisions would provide an efficient single channel of communication to the innovators in relation to all regulatory concerns that maybe applicable to their proposed products/services. The primary regulator shall determine whether the proposed product/service may be allowed to operate within the inter-operable regulatory sandbox, and shall determine the efficacy of the product on the basis of the guidelines issued by such primary regulator in this regard. As such, the primary regulator is required to set the parameters of the proposed regulatory sandbox, and the associate regulator(s) are required to provide their specific inputs in relation to the parameters to be tested, within 30 days of the primary regulator sending such reference, and the test for the proposed regulatory sandbox is to be finalised by the primary regulator in consultation with the secondary regulator.
The evaluation of the sustainability and the efficacy of the proposed products/services that are tested in such inter-operable regulatory sandbox is to be carried out primarily on the basis of the framework prescribed by the primary regulator, with specific inputs from the associate regulator(s). Once the inter-operable regulatory sandbox comes to an end, the applicant would be required to separately apply to the primary and secondary regulators to seek specific exemptions/relaxations for authorisation and for seeking regulatory dispensation before launching the product in the market.
In our view, provision of inter-operable regulatory sandbox will provide a further push to the booming fintech industry in India that has been introducing various innovative products to the markets that have revolutionised the way we approach finance and investments in today’s world. By providing an opportunity to test their hybrid products/services through a single channel, the SOP allows the innovators to avoid the hassle of applying to, and co-ordinating with various regulators for the same product, while also providing the regulators an opportunity to propose solutions that not only facilitate innovation, but also allow the regulators themselves to create frameworks in harmony with one another. Such sandbox will also encourage innovators to adopt a multidisciplinary approach and offer solutions across sectors.
(This article was first published in Financial Express)