Are fintech sandboxes a consumer protection desert?

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“Fintech sandboxes” are all the rage. The Consumer Financial Protection Bureau (CFPB) recently proposed a disclosure sandbox, the Arizona attorney general has adopted a fintech sandbox, and both legislators and regulators in Washington are discussing ways to use sandboxes to promote financial innovation.

A sandbox is a safe place to play, outside of the real world, and outside of real-world rules. Sandboxes are great for little children. But letting companies “play” in the real world, taking real money from real people and exposing consumers to real risks without following the rules, is not child’s play.

{mosads}I don’t mean to besmirch all efforts to promote financial innovation. Outreach programs can bring together regulators and market participants to share information about new technologies, for instance, as well as identify potential risks in the early stages of product development, clarify how new approaches fit into existing frameworks, and identify places where those frameworks should be updated.

But we cannot let the dazzle of shiny new innovations blind us to the need for consumer protection rules and the potential down side of new approaches, which are often not apparent at first. 

New research shows that algorithms used in digital mortgages discriminate and result in higher prices to equally qualified people of color. Pick-a-payment and exploding adjustable rate mortgages were an innovation. So was the technology that enables a $35 overdraft fee on a $5 cup of coffee bought with a debit card. Online payday lenders are making it easier and faster to get trapped in 100 percent or higher APR loans.

Some sandbox proposals are thinly veiled efforts to waive consumer protection laws for any product or service that claims to be “innovative.” It is one thing to encourage dialogue. It is quite another to invite regulators to hand out waivers left and right to favored companies — with none of the public notice and comment, or transparent and careful analysis of costs and benefits, required of rulemaking.

{mossecondads}The CFPB’s proposed “fintech disclosure sandbox” would allow “pilot” programs that could last a decade or longer and apply to an entire industry, potentially waiving laws that require disclosure of critical information about the price or risks of a product. 

In barely two months from the opening date for applications under its new sandbox law, the Arizona AG has already waived licensing requirements (including related safety and soundness conditions and supervisory oversight by the Arizona Department of Financial Institutions) for three companies. The approvals came quickly and with no opportunity for public input; it is unlikely there was any significant analysis of the risks that the products pose. 

Certainly new products and services may trigger a need to update older regulations, be it discarding rules not applicable to newer products or adopting new rules in light of new risks. But that is best done through the normal regulatory process, in an even-handed manner, with input from the public and all facets of an industry — not through special deals crafted out of public view.

New approaches can pose regulatory uncertainty that is unsettling for innovators and investors. But some uncertainty is a good thing. I want companies to ask — and to keep asking, over and over again — hard questions about whether they are violating rules against unfair, deceptive or abusive practices. 

Regulators who listen to a slick presentation may not anticipate what can go wrong. The last thing we want is for the agencies that are charged with protecting us and overseeing markets to offer up-front guarantees that a company is doing everything right.

A “sandbox” that loosens rules for untested products or for any company that can claim to be innovative is not a child’s play space — it’s an entire Sahara Desert parched of consumer protections.

Lauren Saunders is associate director of the National Consumer Law Center, focusing on fintech and banking consumer finance issues. Follow her on Twitter @lsaundersnclc

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