How Regulation Becomes the Disease not the Cure

There are two main branches of Chinese culture – Confucianism and Taoism.  Broadly speaking Confucianism is the rule-based, central-planning vibe – the State (via its wise mandarins) knows best.  The opposing attitude is Taoist – no straight lines in nature, everything in flux, water finds the best way down a hill on its own.

a large group of people on a beach

One reason that “Tech” per se has had relatively little impact on FS so far compared to other sectors is that Tech is essentially Taoist.  You make an app that allows folks to send pictures that last a few seconds, call it Snapchat and release it into the wild where folks find a use for it.  And before you know it a hundred million folks a month use it.

There is absolutely no equivalent in FS Tech or Fintech. If we take the most impactful sector – P2P – add up all the users around the globe after a decade it’s well short of the number of folks that use Snapchat.

The reason for this is simple – FS is amazingly heavily regulated.  Just like Gulliver there are zillions of tiny details that tie you down.

And they are increasing by the day.  Gulliver gets ever more pinned down. 

Just like Confucianism the system eventually ossifies and in essence becomes brittle (see 2008).  

The upcoming event in P2P land is that as of April 2016:

“giving advice on investing in P2P agreements will be a regulated activity. Firms providing the service will need FCA authorisation and will need to abide by FCA rules.”

Just to put this into context, as I wrote last month at the Treasury Select Committee neither the CEO or Chairman of the FCA could state how many crowdfunded companies had gone bust and ventured that P2P loss rates were “around 1%” – a bizarre statistic in itself as it doesn’t differentiate between platforms with provision funds (where the major ones haven’t lost a penny) and the marketplace models. Nor does it take into account the yield – 1% losses on 1% income is drastic, 1% losses on 10% income is irrelevant.

Anyway in our Confucian world if I provide advice on investing in P2P I will have to abide by rules written by the very same folks.

At this point, continuing the literary frame, one recalls Kafka’s book where the main character wakes up as a beetle.

To be clear I don’t blame the regulators as individuals – like all of us they do the best they can in the game that has been proscribed for us all.

But the game is all wrong. Fintech Regulation is becoming the new square peg.

As economic historian Niall Ferguson has said (about FS regulation):

“excessively complex regulation is the disease of which it purports to be the cure”

Let’s look at this case of advising on P2P. Let’s introduce the law of unintended consequences which will certainly help us leap from cure to disease – after all I doubt many try to regulate to create disease.

I was at a conference recently for Independent Financial Advisers – who have certainly borne the brunt of regulatory capture.  Now like everything this has two sides – on the good side you have a higher degree of confidence that some shark isn’t going to take your mum to the cleaners.

But then the challenge begins.

What would you do if you were a regulated IFA and had to advise on P2P?

After all as I have written extensively (eg here) P2Ps do not quantify lender risk and they do not communicate it well.  You can watch me try to pin down the major platforms at the Lendit Europe P2P conference in 2015. About 2% of the audience thought they did a good job.

So basically no-one knows right now.  Who is riskier – Zopa or Ratesetter?  I have no idea. I could guess but that’s all.

So back to the IFA.  He (mostly “he”s) lives in fear of being thrashed to death in the future by some standard later invented re “mis-selling”.

So what can they do?

They can’t actually give any advice in re!


So all they can do is to recommend investing in a collective investment scheme – ie pass the buck to “professionals” in that sphere.

At which point we are back to the same old FS story about chains of folks, as it were passing a barrel of beer from one to the other and each taking a pint or two out of it.  By the time it gets to the end investor – you – rather a lot has gone missing.

It was just this process that gave birth to P2P – cutting out the middleman. Whilst firms like Funding Circle are trying to de-reintermediate with their own low-cost fund, it would be a brave IFA who recommended one firm, in case that firm ever failed.

So back to the title.

Regulation leads to higher costs (I haven’t even mentioned the costs of complying with regulation) and makes it less likely that you will get any quality advice re P2P.

And so the cure becomes the disease. 

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