Lessons from China – regulation vs. innovation

James Hickson, CEO Mash

China is a perfect storm for innovation, with financial technology offerings scaling at unimaginable speed and velocity. Consider the scale of the electronic payments sector. Fuelled by strong consumer adoption of fintech services, it has become the most advanced in the world. AliPay processes almost 130 percent more transactions every second than Mastercard and Visa combined. Virtually all consumer payments are run through WeChat or AliPay.

To understand the dynamics behind this, it is worth looking at the approach China has taken to drive innovation in the consumer credit sector.

The Chinese government recognises that without credit history, citizens struggle to obtain finance, thereby limiting consumption, economic growth and inhibiting entrepreneurs to grow their enterprises. Also, careful to maintain economic stability and avoid a US-style credit binge, the government understands that capturing more credit data enables more informed decision making.

However, rather than insist on a central credit register, China’s National Internet Finance Association (NIFA) has promoted a self-regulatory approach. Knowing that imposing stringent regulation can inhibit relevance and innovation, the approach has resulted in robust, effective regulation while driving innovation and adoption.

Compare this with Europe, where EU-imposed initiatives are being interpreted differently in each market. Take the revised Payment Services Directive for example, which calls for banks and other fintech players to develop their own protocols for connecting with each other. Consequently, adoption and innovation has been evidently slow. We are also likely to see disparate consortiums emerge that lack consistency and the rigour that is needed for the open banking concept to scale.

China’s regulatory approach has attracted some of the country’s largest fintech providers to participate in addressing unmet needs in the market. Out of its of 1.4 billion people, the National Credit Bureau has credit information for less than 20 per cent of the population. This is because many citizens do not source finance from traditional banks. In fact, China has over 225 million unbanked adults.

With just 30 per cent penetration, China has one of the lowest consumer credit adoption in the world. There is a real opportunity to meet the need of its growing millennial population who are willing to share data, as well as the country’s strong rural population. Targeting these populations can help generate valuable data on individuals who previously had no credit score and unlock new financial services.

So far, NIFA’s approach is proving to be effective, attracting the likes of JD Finance and Baidu Finance to this space. Ant Financial was one of eight tech companies granted by the Chinese government to develop a private credit scoring platform. Its USD $150 billion valuation and recent $10 billion funding round is testament to the size of the opportunity.

The combination of a self-regulatory approach and the resulting desire to address unmet needs is a call for innovation. And this is being met with inventive results.

In a country where individuals are willing to share their data, we’re already seeing new and creative ways emerge when it comes to credit scoring. Tencent is exploring how the quality of a user’s social network could be used as a metric for credit scoring. Harnessing smartphone data for credit scores makes sense. Where China lacks credit score penetration, it makes up with over 663 million smartphone users. AliPay, with one of the lowest fraud rates in the world, last year rolled out the world’s first ‘Smile to Pay’ facial recognition system.

China will likely become the beacon of innovation in data mining and credit scoring. There is a lot that can be learnt by the likes of Google, Amazon and Facebook, that have the scale and richness of data to make them well positioned to offer financial services in Europe. The only question is whether the European regulatory environment can deliver the same infectious and impactful approach which has made the Chinese payments industry a success.

Author: Yash Hirani

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