Dominance of Big Techs in the Financial Sector: Regulatory and Policy Making Dilemma

Emergence of ubiquitous Big Techs

Big techs, more popularly known as Tech Giants, are the large information technology companies, whose dominance across industry sectors is manifested by a marked upshift in the post Dot-com bubble era. Starting their journey in a modest form - offering e-commerce, social media, mobile and digital platforms, and services, they have emerged as behemoths with their portfolio expanding beyond digital services to diverse spheres of business services – including financial services. Big techs’ typical service offerings comprise of core digital services, financial services, and technology platform services. In data-led business ecosystem, non-conventional business model of big techs thrives with underpinning of connected digital platform and data-centricity.

With a global presence, rapidly growing business, wide market share and increasing heft of their financial muscles in recent decades, these tech companies - collectively recognized by acronym GAFAM (Google/Alphabet, Amazon, Meta, Apple, and Microsoft) or FAANG (Facebook, Apple, Amazon, Netflix, and Google), have acquired a massive oligopolistic character in most of the markets. In Asian markets, Chinese companies with acronym BATX (Baidu, Alibaba, Tencent and Xiaomi), GrabFin (Singapore) and Rakuten (Japan) reflect similar kind of domineering patterns. With their entrenched market position in core service areas– e.g., e-commerce, social media, digital devices, or technology-based services (e.g., Cloud, data, and AI solutions), they play the role of ecosystem orchestrator and expand the sphere of network by aggressively adding products and partners on their multi-sided digital platforms.

Big techs led innovation and disruptive models in Financial Sector 

In an era of digital disruption, big techs have changed the traditional structure and boundaries of the markets through set-up of digital market platforms. In a sense, it has democratized access to the market and pricing information along with wider customer reach. In the financial sector, technology led interventions led by big techs have enabled rapid spread of financial inclusion drives and digital literacy, while bringing down transactional costs from economies of scale of their platforms. Harnessing user data gathered from different interactions on the digital platform, they can leverage data insights to innovate financial products and solutions to propel the network effects – particularly in the areas of digital banking, payments, micro credit, investment, and insurance, crypto amongst others. While their business model varies per jurisdiction specific regulatory and market practices, a broad level construct can follow one of the following models: big tech as a digital platform provider directly offers financial services, a third-party financial service provider offers its services on the digital platform on independent basis, or a third-party financial service provider offers its services in partnership with the digital platform provider.

Growing regulatory concern about Big Tech dominance and systemic implications

While issues surrounding personal data protection and privacy aspects have been long debated with legislative formulations in place across major jurisdictions, regulatory concerns about market concentration and anti-competitive practices of big techs have been growing in recent times. Their position of dominance and wide network effects of their digital platforms seriously challenge fair competition and consumer protection issues. Some of these unfair practices involve raising entry barriers, prohibitive switching costs, discriminatory and manipulative pricing etc. Beyond competition and customer protection issues, big techs’ emergence as potential Systematically Important Digital Intermediaries (SIDI) and ‘Too big to Fail’ – akin to Systematically Important Financial Institutions (SIFI) is another big anxiety in the minds of regulators and policy makers.

Their current level of participation in financial services is relatively limited vis-à-vis traditional financial players. However, the prevailing pattern can give only a temporary sense of comfort. Regulators envisage that being at the centre of data-network-activities (DNA) loop as a part of their business model, big techs have distinct abilities to rapidly scale-up their activities, leading to spurt in market concentration in select segments of financial services. More so, given their business model largely relies on wide partnerships with financial services providers, it creates complex interdependencies amongst the network of partners.

In absence of transparent view of their linkages and unclear distribution of individual responsibilities and accountability amongst the network partners, risk management oversight and control can become an uncertain affair, adding to systemic challenges. Further, big techs’ well-established role of critical technology services (e.g., Cloud based PaaS, Saas, IaaS) providers and financial players’ wider reliance on such services creates a new dimension of risk. Amid big techs’ concentrated market position in technology service areas, they potentially emerge as a single point of failure in the larger financial industry. In absence of a well-designed regulatory framework and risk mitigation approach, any disruption in the operations of a big tech may eventually lead to undetermined level of impact on the wider financial system.

Development of regulatory framework: A work in progress

With rapidly growing footprints of big techs, formulation of regulatory framework covering their critical activities has been falling behind the curve on two major counts. Firstly, it follows an activity-based approach for big techs’ supervision under the ambit of sector-specific regulation - e.g., payments, lending, investment funds, insurance, etc. Secondly, without the full grasp of their ecosystem-play and resultant network interdependencies, the regulatory responses mostly remain delayed and improvised without adequately covering the scope of activities in a holistic way. While aiming to protect the interests of depositors, borrowers, policyholders, or investors on a standalone basis, segmented regulatory approach may not be sufficient to address all relevant risks posed by big techs. More so, given the complex legal structure of a big tech group entity in a typical case, the regulatory provision may be applicable only for a limited set of underlying entities of the big tech group.

Evolution of regulatory approach: key contours

Certainly, there appears no ambiguity in the minds of policy makers about the crucial role played by the big techs in driving technology-led innovation opportunities in the financial ecosystem. At the same time, their growing dominance and have triggered a new level of debate to consider appropriate regulatory approaches - bringing an optimal balance so as technology innovation levers controlled by big techs do not unduly pose additional risk to the financial stability or jeopardize customer protection norms. While restricting big techs involvement in financial activities can also be an option, it could be a least preferred options for regulators for the reason of denying the benefits from innovation opportunities, besides inventive models of services and platforms.  

To devise a broad level regulatory framework, following foundational approaches are under analysis and evaluation:

Entity-based approach: Combining activity-based rules with entity-based requirements for specific big tech entity. In a broad sense, typically banking and insurance regulations attempt to address such risks from non-financial activities of the regulated financial institutions by stipulating specific constraints and conditions – including arrangements of separation by creating Chinese Wall. By adopting additional entity-based regulatory standards, it can effetely address spillover effects from other sets of activities of Big Techs, which are not covered under the segment-based regulation and potentially pose risks to financial stability.

Segregation approach: imposing a specific group structure for any big tech by ensuring a ring-fenced financial subgroup within the Big tech group. It requires that entities offering financial services be legally separated from non-financial activities and grouped together under the umbrella of a Financial Holding Company (FHC). Such FHC can be held responsible for fulfilling prudential, governance and transparency requirements on a consolidated basis for the financial subgroup of a big tech.

Inclusion approach: Creating a new regulatory category for big tech groups with significant financial activities. It sets regulatory requirements for the group as a whole – i.e., both the parent and all its regulated and unregulated entities, factoring nuances of interactions between financial and non-financial activities. Focusing on controlling the risks of interdependencies inherent in big tech business models from, regulatory requirements encompass the foundational issues of governance, conduct of business, operational resilience, and the financial soundness of the group as a whole.

Way forward: A coherent global regulatory framework

To mitigate new dimensions of risks, jurisdictional regulators and international standards setting bodies have been actively deliberating to devise well-framed policy approaches. However, given the complexities of the issues involved and its varied policy-level implications as well as data sovereignty and its extraterritoriality nuances, evolution of a global framework will take its own time. It will require an enhanced level of cooperation and coordination amongst the national and international policy makers. In the meantime, jurisdictional regulators have limited tools in their hands - other than proactive monitoring and relying on trial-and-error manoeuvring to drive risk perception-led mitigation approach.

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