Comment on “Chinese Fintech Innovation and Regulation”

Abstract

While the digitalization of finance is a global phenomenon, the trend is most remarkable in China, which is now home to two of the largest tech companies—big techs—in the world (Alibaba and Tencent). Against this backdrop, Chinese regulators have been confronted with the Herculean challenge to find a balance that embraces the promise of fintech while reducing potential harm to the financial system.

Chorzempa and Huang (2022) offer a review of the development of fintech in China and related regulatory actions. They highlight a number of yet unresolved policy issues, draw lessons from China's experience and offer some recommendations for Chinese authorities. Their paper concludes by assessing the regulatory response to fintech in China as being largely successful.

In China, to a large part, discussing fintech means discussing big techs. China is the largest market for both fintech credit and big tech credit in the world (FSB, 2020); and two big tech firms jointly account for 94% of its mobile payments market (Carstens et al., 2021). In 2018, big techs processed payments equivalent to 38% of gross domestic product (GDP) and they now have market capitalizations and credit ratings comparable to those of large banks (FSB, 2020).

Big techs have unique business models that differ from those of fintech players. Most importantly, big techs are exploiting activities with strong network effects, under which every additional user creates value for all others (see chapter 3 in BIS, 2019). Chui (2021) argues that these network effects can help explain the rise of Alibaba and Tencent, and that they ventured into financial services as a means to survive against competition, which is why he sees them as “accidental financiers” rather than “aggressive invaders”, at least during the initial stage.

Big techs' activities in financial services come with several policy challenges. Some are traditional policy concerns: financial risks, consumer protection and operational resilience; others are new challenges surrounding the concentration of market power and data governance (Carstens et al., 2021). These challenges are increasingly attracting the attention of policymakers. China is one of the countries where policy initiatives have emerged to cope with the risks presented by big techs, specifically in the areas of competition, data, conduct of business, operational resilience, and financial stability (Crisanto et al., 2021a).

Against this backdrop, Chorzempa and Huang review how fintech developed in China and what factors contributed to its growth. Their discussion usefully refers to the underlying economics of financial services in the context of digital innovation (Feyen et al., 2021); and contrasts the Chinese experience with that of other countries. Building on this, Chorzempa and Huang provide an overview of fintech policy developments based on a conceptual framework, the “Fintech Tree” (Ehrentraud et al., 2020). Policy areas reviewed are payments, peer-to-peer lending, cryptocurrencies, financial holding companies, competition policy, data protection and the “rectification” of Ant Group.

As one of their key recommendations, in line with Restoy (2021) and Crisanto et al. (2021b), Chorzempa and Huang advocate for more entity-based regulation to address the unique risks posed by big tech firms' unique characteristics and reduce the scope for regulatory arbitrage.

This recommendation should receive much support. The main rationale for an entity-based approach is that the risks generated by different entities performing a similar activity are not necessarily the same. Fintech/big tech players offering financial services must already satisfy regulatory requirements which are aligned, in principle, with those imposed on other market participants. But these activity-based rules are probably not enough. To the extent that risks emerge not only from the provision of a particular service but also from the combination of activities (as is the case for big techs), entity-based rules are called for.