In response to an executive order signed by President Trump on February 3, 2017, the U.S. Department of the Treasury released a series of reports. These reports identify government policies that promote or inhibit regulation of the U.S. financial system in a manner consistent with the administration’s stated Core Principles. The most recent of these reports, released in July 2018, addresses nonbank financial institutions, financial technology, and financial innovation.
Both the administration’s Core Principles and a summary of Treasury’s recommendations are listed below. In summary, at the President’s behest, Treasury suggests adapting the regulatory framework to accelerate financial innovation in the United States. The report identifies opportunities to embrace the use of data, encourage advanced data processing and support the creation of alternative delivery systems.
Being competitive in the financial services industry of the future will increasingly require expertise in the use of data and technology. The current administration seems to recognize this, and the industry is embracing what is often referred to as simply “Fintech.” But, how will Fintech affect the fair lending practices of financial institutions?
Fintech: Cautions for Fair Lending
Both the Treasury report and the Federal Reserve caution Fintechs about fair lending risks. Neither big data nor complex data processing techniques are an absolute safeguard against fair lending violations.
Big Data, a term describing the aggregation of large and complex datasets from multiple sources, presents unique dangers to fair lending risks. While using data with a clear link to creditworthiness poses little risk of violating fair lending rules, using data with a less-than-clear link to creditworthiness may pose a significant risk of violating fair lending rules.
For example, an individual’s online social network may be a statistically significant predictor of creditworthiness, but an individual’s social network may be a function of the community in which the individual lives. And, an individual’s community may be affected by historical discrimination, such as redlining and segregation. Therefore, using this predictor may lead to discrimination against those living in disadvantaged areas.
As we’ve stated before, data modeling techniques are mathematical tools, like calculators. The calculator’s answer is strictly a mathematical formulation of the information that it is given. Using the calculator does not automatically guarantee a correct answer. So it is with data processing.
In the case of fair lending, if the data (even big data) reflects social inequalities, the result of the model may also reflect and perpetuate those social inequalities.
Fintech: Benefits for Fair Lending
On the other hand, Fintech, big data and advanced data processing techniques can mitigate fair lending risk when used appropriately. For example, a financial institution may appropriately use data and modeling techniques to establish a pricing model that is independent of race, ethnicity or gender. Implementing this pricing strategy rather than allowing lenders to subjectively determine prices will protect financial institutions from fair lending risks. More importantly, a lender can leverage technology to manage pricing and, therefore, further reduce risk.
Like many things in life, big data, Fintech and advanced data processing techniques are neutral as it pertains to fair lending practices. As recognized in the agency reports cited earlier, innovations could exacerbate or mitigate fair lending risk. They, therefore, must be used thoughtfully.
Core Principles from Executive Order 13772
- Empower Americans to make independent financial decisions and informed choices in the marketplace, save for retirement, and build individual wealth.
- Prevent taxpayer-funded bailouts.
- Foster economic growth and vibrant financial markets through more rigorous regulatory impact analysis that addresses systemic risk and market failures, such as moral hazard and information asymmetry.
- Enable American companies to be competitive with foreign firms in domestic and foreign markets.
- Advance American interests in international financial regulatory negotiations and meetings.
- Make regulation efficient, effective, and appropriately tailored.
- Restore public accountability within federal financial regulatory agencies and rationalize the federal financial regulatory framework.
A Summary of Treasury’s Recommendations
- Adapting regulatory approaches to changes in the aggregation, sharing, and use of consumer financial data, and to support the development of key competitive technologies.
- Aligning the regulatory framework to combat unnecessary regulatory fragmentation, and account for new business models enabled by financial technologies.
- Updating activity-specific regulations across a range of products and services offered by nonbank financial institutions, many of which have become outdated in light of technological advances.
- Advocating an approach to regulation that enables responsible experimentation in the financial sector, improves regulatory agility, and advances American interests abroad.
How to cite this blog post (APA Style):
Premier Insights. (2018, August 23). Treasury Report Promotes Use of Innovation & Technology in Financial Industry [Blog post]. Retrieved from https://www.premierinsights.com/blog/treasury-report-promotes-use-of-innovation-technology-in-financial-industry.
