These consultants want some regulatory slack for fintech startups

Two former political advisers want to make Delaware a hub for the emerging financial technology sector. The effort is still in its early stages, but the basic idea is to create a regulatory lab or sandbox where companies can test their products without the burden of certain rules and regulations.

Meghan Wallace, a consultant and former education adviser to Gov. Jack Markell, compares the idea to a kind of clinical trial. “Before a pharmaceutical goes to market, there’s a trial period,” she said. “These companies are essentially testing in the same way that a drug trial functions.”

Financial technology, or fintech, which includes innovations such as cryptocurrencies and distributed ledger technology, faces a strict regulatory environment. Sandboxes provide regulatory relief in exchange for oversight and limits such as capping the number of customers, the volume of transactions, or the time span of the testing period.

“If you think about how technology development works for creating a social media network or a photo sharing app, two guys can do that in their basement and not really worry about the government coming to get them or shut them down,” said John Collins, a consultant and former adviser to Sen. Tom Carper. “It doesn’t work like that in financial services, and for good reason. There’s a certain level of trust that people expect from the system.”

Given the state’s robust banking industry and tech startup scene, economic development groups such as the Delaware Prosperity Partnership and the Wilmington Leadership Alliance have touted fintech as key to the state’s economic and employment future. Wallace and Collins see regulatory labs as one way to clear the way for both startups and existing companies to help build the sector here in Delaware.

Collins stressed that the initiative is not married to a specific approach, but that generally the way it works is companies apply to whatever entity is running the sandbox for some kind of exemption or other kind of safe harbor. In many cases, the regulator will also work with the company to bring them into compliance and implement their product on a wider scale. He said the current goal is to a kick-start a conversation with lawmakers, regulators and business interests about what would work best in Delaware.

Whether this will require legislation or simply an administrative tweak remains to be seen, Wallace said.

“It depends on how quickly our government partners would like to move forward and their comfort with the approach of legislation versus no legislation,” Wallace said, adding that they are reaching out to lawmakers on both sides of the aisle regardless.

If Delaware does try out the idea, it would be the first in the country to do so. Internationally, places such as Hong Kong, Singapore and the United Kingdom have embraced various types of regulatory labs, but the United States has yet to hop on the trend.

The United Kingdom allows testing of products in a live market setting, with safeguards in place to protect consumers. The testing rounds last six months.

Political gridlock and a fragmented federal system, Collins said, are partly to blame for the lack of progress in the U.S. Individual states, he added, are best positioned to take the lead.

Indeed, other states are beginning to show interest. Arizona Attorney General Mark Brnovich recently came out in support of the idea in an op-ed for American Bankers. A number of New England legislatures have also floated the idea, according to Wallace.

Collins and Wallace have other plans outside of the regulatory sandbox. They want to develop an education and workforce component to help train the next generation of fintech employees and entrepreneurs. Wallace said that will likely entail working with companies to provide training to help fill skills gaps in their respective industries.

“The basic concept is setting up an organization that’s going to make Delaware the fintech capital of the United States and make it the most attractive place not only for small startups but larger institutions that want to operate in the financial technology space,” Collins said.

Collins said the initiative will push for broader reforms of the state’s financial system as well. He cited the Financial Center Development Act — the sweeping 1981 law that overhauled finance and banking rules in the state — as an example.

“That set us up for the next 30 years,” Collins said. “It’s probably time we engage in that kind of effort again, because financial services and the way they’re consumed has dramatically changed.”

Specifics, including the name of the effort and how it will expand, will likely emerge in the coming month, Collins said.

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