EU supervisory authorities outline challenges and risks for innovation hubs, regulatory sandboxes

Maria Nikolova

Some regulators voiced concerns that propositions tested in a regulatory sandbox may be perceived by consumers and/or the market as ‘endorsed’ by a regulator.

The rise of innovation hubs has been omnipresent with Europe being no exception: over the past several years, a number of countries, ranging from the UK to Cyprus, have launched such initiatives. Earlier today, the European Supervisory Authorities (ESAs) published a joint report on innovation facilitators (regulatory sandboxes and innovation hubs), with the document also setting forth the challenges such initiatives face.

Overall, the authorities did not identify any issues that differ from those arising in the course of more traditional interactions with firms in the context of performing traditional supervisory tasks. However, some competent authorities felt that some operational challenges or risks could be slightly increased by innovation facilitators.

For instance, some authorities noted the difficulties in finding and retaining staff with the appropriate knowledge and experience of FinTech, noting the pace of change in the financial sector and variety of innovations proposed.

Some authorities also voiced their concerns about the impact on the level playing field if material divergences were to emerge between the approaches of the competent authorities to the design and operation of innovation facilitators. They noted that different approaches could affect the relative attractiveness of jurisdictions as centres for financial innovation.

In addition, some competent authorities noted that firms could potentially mistake indicative guidance from the competent authorities as being binding or final, resulting in the risk of legal challenges against the competent authority if the authority were to shift its view (e.g. in the period prior to a firm submitting an application for authorisation and in the context of the consideration of an application for authorisation). To avoid this situation, the need for clear articulation of the nature of the guidance provided by the competent authorities in the context of innovation hubs is underlined.

Regarding regulatory sandboxes, some authorities raised concerns about the possibility that propositions tested in a regulatory sandbox may be perceived by consumers and/or the market as ‘endorsed’ by the competent authority. This, in turn, may lead to: a. potential preferential access to financing and/or preferential market positioning; b. legal risk to the competent authority in the event that consumers were to suffer detriment as result of services provided in the course of sandbox participation.

Finally, some competent authorities warned that the active guidance and close monitoring of the participants in the regulatory sandboxes could give rise to level playing field issues, creating two tiers between those firms in the sandbox and those outside it. That is why, it is emphasised that the objective of the regulatory sandboxes and the entry criteria should be clear and made public in order to ensure a high degree of transparency in the entry process.

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