This blog post is written by Mimi Zou, Ellen Logan, and Tatiana Botskina.

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‍Consumer Duty: a paradigm shift in financial regulation

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The UK’s fintech sector has long been a breeding ground for innovation, driving advances in technologies and business models that have brought welcome competition and progress to financial services. Yet, innovation in the financial sector has not always been without risks, and regulators have a vital role in safeguarding consumers while allowing for fintech breakthroughs. The recent introduction of the Consumer Duty by the Financial Conduct Authority (FCA) signals a paradigm shift in how the sector will be regulated, placing consumer protection at its heart. In this piece, we will explore the likely impact of the Consumer Duty on fintech innovation.

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The Consumer Duty is designed to provide consumers with enhanced protection by ensuring that firms put their interests first. The FCA’s approach is outcomes based and the wording of relevant guidance and policy documents have been intentionally high-level and broad. This approach places onus on firms to figure out ‘how’ to comply, and leaves the door open for intervention from the regulator through enforcement. It should be noted that the FCA's role has been evolving over the years; concerns about the potential for financial scandals, like those that have marred the industry in the past, have led to a more cautious approach.

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Consumer Duty signifies a paradigm shift not only for regulators but also for financial firms. Compliance must no longer be viewed as a burdensome overhead or annoyance but as a fundamental aspect of business. Just three months on from the Duty coming into force, its power to drive meaningful change from firms deemed to be non-compliant is already clear.

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One of the first targets of heightened scrutiny is the long-established wealth manager St James’s Place (FT, Jul-23). The firm is facing pressure to change its upfront fee structure, which, under the Duty, the FCA deems to be overly complex. In July, the announcement of a small reduction in onboarding fees resulted in a loss of £3bn in the company’s market cap. Further restructuring of fees, as the regulator is requesting, will have a meaningful impact on the company’s cash flow and likely further impact valuation.

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Recent improvements in the available savings rates at banks and building societies are also no coincidence, following the opening of a fair value assessment review under the Duty in July (FCA, Jul-23).

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2. What does this mean for fintechs?

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The fintech industry is diverse, encompassing various sub-sectors, from challenger banks to crypto firms. The challenge for regulation is to differentiate between innovations that genuinely benefit consumers and those that may pose risks. Consumer Duty can play a crucial role in guiding fintech firms to develop products that align with societal needs and benefit consumers.

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In a speech at the start of November, the FCA stated that compliance with the Duty is not a “once and done” event. They want to see firms “learning and improving continuously” (FCA, Nov-23). To meet this expectation, fintechs will have to integrate compliance into their product design and development processes from the outset, and on an ongoing basis. Compliance must become part of a company's DNA, inspired by leadership from the top. Moreover, it is crucial for firms to use the available tools and adhere to standards that allow them to report to the regulator efficiently and build trust with customers, industry partners, and investors.

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There are concerns that an overly cautious regulatory approach could stifle fintech innovation. However, consumer trust is paramount to the fintech sector. The FCA's move towards a more stringent regulatory environment can, in fact, foster innovation by strengthening consumer trust and confidence in adopting solutions offered by new players. Fintech companies that prioritise transparency, ethical conduct, and consumer well-being can build strong relationships with their customers, which is essential for sustainable growth.

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3. A Call for Further Regulatory Guidance and Transparency

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The FCA have stated their intention to share examples of good and bad practice to support industry adoption of the Duty, building on initial vertical-specific guidance shared by letter in early 2023 (FCA, Nov-23). However, many feel the guidance from the regulator has not gone far enough, leaving questions around how to fully comply and how to report. To ensure that confidence in innovation and investment in the fintech sector are not undermined by remaining ambiguities, the FCA should consider providing specific guidance for start-ups and emerging players within different sub-sectors.

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Guidance on good practices, tailored to company stage and sub-sector, could offer clarity for firms to ensure they meet their regulatory obligations. However, a crucial question remains: Does the FCA have the appetite and resources to deliver such guidance in the near term, or should the industry itself and other stakeholders take the lead in developing and sharing best practices?

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A new multi-stakeholder initiative has emerged in this regard, driven by the mission to gather and spotlight the outstanding practices of diverse firms. The Consumer Duty Leadership Awards, initiated by an industry-academic consortium backed by Innovate UK, seeks to recognise and share leading industry practices in the implementation of the Consumer Duty. The judges, comprising top industry and academic experts, are looking for approaches that not only exemplify excellence in achieving Consumer Duty outcomes, but also contain innovative elements and address relevant customer vulnerability concerns. The Awards are an excellent opportunity to showcase the pioneering approaches that fintechs are harnessing to fulfil the Duty, especially through the use of novel data- and tech-driven solutions.

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The FCA has made clear its aims of promoting competition and financial inclusion, and compliance with the Duty is not intended to create undue barriers to entry. However, it will be important to monitor the extent to which application and approval rates for new fintechs are impacted in the years ahead. Transparency in this regard is critical. In enhancing trust between the regulator and firms, the FCA could provide more granular data on the types and segments of new market entrants and their approval rates, and where possible, (anonymised and general) explanations for withdrawals and/or rejections. Making this information publicly available on an ongoing basis is essential for healthy, informed interactions between the industry and regulator.

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4. Conclusion

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Consumer Duty has marked a significant shift in the financial sector. The FCA's move towards a more cautious regulatory stance is understandable in the wake of past scandals, but it is essential that this approach does not stifle innovation. To navigate this delicate balance, the FCA should consider providing sub-sector- and stage-specific guidance for emerging fintechs while encouraging transparency and data accessibility. Only with such an approach can we ensure that innovation continues to thrive in the era of Consumer Duty, fostering products that not only meet the needs of consumers but also protect their interests. Ultimately, it is through a collaborative effort between the regulator and the industry that we can achieve a more responsible and innovative financial sector.