An interview with Ariadne Plaitakis, Deputy Director, Regulation, Research and Policy, Inclusive Financial Systems, Gates Foundation

AFI’s Competition Enablers Knowledge Exchange is a new initiative, supported by the Gates Foundation, which aims to foster innovation and capacity building in digital financial services, using the lens of competition. Can we start by setting out the role of regulation in financial inclusion?

For decades, regulation has played a key role in widening access to finance in low and middle income countries. It has most recently focused on four basic enablers, concerning: the use of agents; non-bank e-money issuance; risk-based consumer due diligence; and consumer protection.

After the most recent Findex data came out in 2021, I looked at countries that had robust legal regimes around these basic enablers. I wanted to see whether that produced corresponding increases in financial access and usage. To my surprise, there was no clear direct link. Some countries, like Mexico and Pakistan, have really robust regulatory frameworks but haven’t seen a subsequent significant rise in financial access or usage. Other countries have seen significant and larger than expected increases, one example being Brazil.

I used to be a competition lawyer, and I wondered whether a critical factor here might be the extent to which regulators were supporting competition in digital financial services. 

What does the financial services competitive landscape typically resemble?

Almost all financial services possess natural characteristics that make them opaque and concentrated. Protecting consumers, payment systems, and monetary supply requires stringent regulatory requirements. Capital requirements and high operational costs create steep barriers to entry.  As a result, incumbents don’t face much competition.

Generally, financial service providers in LMICs are concentrated in towns and cities, making their profits from the urban elite, and there’s little incentive for them to serve remote rural areas, low-income groups, or excluded populations.

This structural problem with financial services is exacerbated by anti-competitive behavior of some incumbents. For example, financial service providers can make it very difficult for customers to switch bank accounts and providers.  They own and can control access to customer data if there’s no open banking framework, and can control payment infrastructure.

Similarly, mobile operators can refuse to let competitors access USSD channels. They can refuse to interoperate, promote their services over those of other operators, and impose restrictive terms on agents.

So what you have is a very complex, opaque market, that’s to a certain extent a natural consequence of regulatory barriers, but which gets re-reinforced by anti-competitive behavior. 

What can central banks and financial regulators do about this?

Financial sector regulators have a whole arsenal of regulatory levers, each of which will affect the market – it might generate a synergy with competition, or a tension with competition. 

One of a central bank’s main objectives is financial stability, and regulators can achieve this objective in different ways. They may feel that a diverse sector will be more resilient, and aim to reduce systemic risk by supporting competition. Alternatively, they may concentrate on bolstering financial resilience and capital requirements, which will increase barriers to entry, creating a tension with competition.

Regulators can apply a whole range of pro- or anti-competitive regulatory levers. If we take licensing as an example, the regulator might decide to take an activity-based licensing approach, which can result in a diverse array of players providing different types of regulated activities.

Equally, they might opt for staged market entry, where an entity can obtain a light form of permission, and then, as they refine their business model, apply for a full license. This allows businesses to develop, and supports the entrance of new players into the market.  

Do you have a specific blueprint for how central banks can regulate through a competition lens?

You need to start from a strong base. That means laying the groundwork for a robust digital economy that protects the consumer with effective safeguards, and which facilitates the development of DFS. To do this, key elements are a stable and capable regulatory regime, and the introduction of data protection, consumer protection, and cybersecurity regulation. Equally are important accessible and reliable basic public infrastructure, such as credit bureau, ID register, retail payment system…

Those are the fundamentals. But to widen access to all, non-banks should be allowed to issue e-money accounts, agents should be regulated to provide DFS services, and you need risk-based customer due diligence that makes it easier to open accounts and transact – these are CGAP’s ‘basic enablers’.

To ensure competition, the objective is to remove  barriers to entry and create a level playing field. To ensure a diversity of market players at a retail level, you should license – payment institutions, payment initiators, account information aggregators, digital credit providers, crowd-funding, peer lending…

Because banking is a vertically integrated market, you should also think about all the levels of the value chain. Outsourcing allows you to introduce competition upstream in the value chain, and you need appropriate rules for outsourcing using the cloud, including Banking as a service (BaaS). 

All these different market players need to interact easily,  interoperability between them is key. And you need inclusive digital public infrastructure, so everyone can access payment systems, digital IDs, and credit information.

Once you’ve removed the barriers to entry, the next step is to tackle barriers to expansion. Regulators can apply sophisticated levers which serve as competition accelerants and catalysts for growth. They can implement instant payment systems that allow non-banks to offer new services, build data sharing frameworks such as Open Finance, or wholesale central bank digital currencies that enable new business models to emerge. 

If financial sector regulators are going to be focusing on competition, won’t they be stepping on the toes of competition authorities?

The two are complementary. They intervene at different times and in different parts of the process. 

A competition authority’s main effect is deterrence – they go after cartel infractions and so forth. But enforcement takes a long time. By the time a sanction is issued, the illegal behavior may have ceased, and the market structure may have permanently changed. You can’t undo what happened with antitrust enforcement, you can only hope it deters others in the future. 

Equally, through their role in approving mergers and acquisitions, if competition authorities see that a market has become too concentrated, they can try to address that pre-emptively. But competition authorities can’t tweak what’s going on in the market. They can only influence big structural organizational changes, or launch long drawn-out sanctions procedures.

Supervisors, in contrast, can tweak. Within a couple of months, they can see how a particular regulation or policy has affected the market. And if it doesn’t have the desired effect, they can change it. They can constantly work to bring the market to where they want it to be. In doing so, they’re working with the private sector, rather than necessarily sanctioning them.

Financial regulators and competition authorities need each other’s information. If a competition authority is investigating a market, they will have information that the regulator/ supervisor might not have, and would benefit from. The regulator may be studying the effectiveness of regulatory levers and may see that it hasn’t been able to move the needle because of something systemic or structural, which it can bring to the competition authority.

So they need to collaborate, and work in tandem. 

You mentioned Brazil’s high levels of financial inclusion. To what extent is that due to competition-focused regulation?

In 2011, Brazil’s account ownership level was 56%. By 2021, it had risen to 84%. Today, it’s probably around 95%. This huge increase, not just in access but in usage, is largely due to the Central Bank having a clear agenda to achieve competition in the financial sector.

In 2013, the Payments Law created a payment institution category, similar to a mobile money/ e-money issuer, but broader. PayPal, for example, is a payment institution that’s not tied to a mobile money operator; there’s a transaction account that can be accessed on a phone or on a computer through the internet, but Paypal doesn’t provide the telecom service behind it, they just provide the account that is accessed through an app or an internet connection. And this new payment institution category allowed for the rise of a bunch of digital payment institutions like Nubank and Mercado Pago in Brazil, which low-income people have opened accounts with.

Also, the Central Bank passed regulation for simplified Customer Due Diligence, and allowed people to open accounts remotely. They also supported new business models through new licensing categories.

Nubank has now accumulated licenses for many activities.  For example, they offer the payment of interest on Nubank e-money accounts by linking them to certificates of deposits, which are offered by another Nu company – a financeira – also regulated by the central bank, and they have a specific credit license. The regulator calls this ‘Lego banking’ – you take all these licenses, pile them together, and create something like a Lego structure.

Another interesting thing about Brazil was how COVID accelerated financial inclusion. In regard to the Bolsa Familia social welfare programme, people traditionally received money from Caixa, a state-owned bank, on a card, and then went to a bank or agent to withdraw their cash. But during COVID, these recipients were not allowed to cash out immediately. People had the Caixa app on their phone and realized they could easily open an account with a payment institution like Nubank or MercadoPago, transfer the money to these new payment institutions, where there were no restrictions on withdrawals.

When Pix, an instant payment system, launched in November 2020, it initially only worked for accounts at the large banks and digital payment institutions. Unfortunately, the Caixa app didn’t offer it, but low-income individuals were able to access Pix from their other digital banking/ payments apps. And it was so easy to use that huge numbers of low-income people began using their phones for digital payments. Today, the central bank estimates that Pix payments have surpassed cash payments in total value.

What Brazil achieved was only possible because everything was in place due to its competition focused agenda – licensing regulations, simplified customer due diligence, the instant payment system… 

We mentioned that the Gates Foundation is supporting AFI’s Competition Enablers Knowledge Exchange. What can you tell us about this initiative?  

At the AFI 2023 Global Policy Forum in Manila, we launched  the CEKX, a pilot project, as a subgroup within AFI’s Digital Financial Services Working Group, to focus on competition issues. Today about 20 members are working through various competition issues, exploring how regulatory levers can help them to deal with the issues they face in their markets. It’s a real-time laboratory, and over the last year we’ve seen a huge amount of demand and high levels of participation around the topic.  UNCDF is co-leading this initiative with AFI, and we plan on bringing in the expertise of some of our other grantees, including Toulouse School of Economics.

There is space for more countries to join, and it could potentially evolve and grow from a DFS subgroup into something bigger. Given AFI members’ interest and engagement in the area, we’re excited to see how it develops from here.