Regulatory sandbox: Watchdog may need to fine-tune certain proposals

The recent guidelines proposed by the Securities and Exchange Board of India with respect to a regulatory sandbox for market participants to test out innovative ideas are a step in the right direction. Under the regulatory sandbox, SEBI will provide a live testing environment where new products, processes, services and business models can be deployed on a limited set of eligible customers for a specified period of time, with certain relaxations in extant SEBI regulations.

Though most of the guidelines that SEBI has put out on this idea are welcome, some of the proposals appear either difficult to follow or too restrictive for participants who are keen to explore new concepts. SEBI also needs experts who can handle and foresee the impact of the testing programmes under the regulatory sandbox that have the potential to cause disruption in the financial society.

The most difficult proposal to adhere to seems to be the one on risks. According to SEBI, the solution should have proper risk management strategy to incorporate appropriate safeguards to mitigate and control potential risks and contain the consequences, if any, of failure. This would be very difficult to gauge at the time of testing even by genuine participants. For instance, SEBI did not foresee the kind of disruption the co-location facility of the NSE (alleged to have favoured certain brokerages) has caused to the markets.

SEBI proposes that it would not allow a fintech solution that is similar to those that are already being offered in the market, unless the applicant can demonstrate that either an innovative (efficient alternative) technology is being used or that the same technology is used more efficiently (process efficiency). This can easily be checked and verified by the in-house experts of SEBI. SEBI also restricts applicants from deploying the fintech solution in India on a broader scale after exiting from the sandbox. This proposal may attract legal scrutiny, as it restricts individual rights.

Also, the regulator asked the applicant to demonstrate that the solution cannot be developed without relaxing certain regulations. Though this would be applicable on a case-by-case basis, the most important factor could be time taken to arrive at a conclusion. If SEBI defers a decision on a proposal for a long time, then it may not motivate participants. Besides, SEBI should also ensure confidentiality at its end on the entities and their proposals, which may be proprietory to them.

At the same time, it is good that SEBI has taken a strong stance that it would not extend any concessions on the confidentiality of customer information, fit and proper criteria, the handling of customer’s money and assets by intermediaries, prevention of money laundering rules and countering the financing of terrorism, risk checks and principles of KYC.

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