Since the late 1990s, the banking industry has experienced a profound digital transformation, making it impossible for these institutions to continue with their traditional operations.
In a heavily regulated banking environment, Fintechs have significantly disrupted the industry through advancements in AI and Big Data. This disruption has shifted consumer behaviors and preferences and altered market forecasting.
Fintech technologies have been developed and implemented through various business models that impact our daily lives. Examples include the marketplace model, the payment processor model, and the neo-bank model represented by digital banks such as Wio, which launched in the UAE in September 2022.
Here, I will focus on the alternative credit score and lending models, discussing its frameworks, risks, and regulatory responses. The demand for credit has surged among retail consumers and SMEs, prompting fintech firms to develop new credit scoring and lending solutions, despite significant credit risks and heavy regulation on lending.
Based on my banking background, I strongly believe that collaboration between banks and Fintech firms could enhance value for banks’ stakeholders, improve operational efficiency, and mitigate credit and technological risks. Two key lending frameworks to consider in this context are the lending facilitation and co-lending models.
When I joined the banking industry in the early 2000s, traditional bank credit operations involved extensive processing, from receiving a client's application to disbursing funds. This included numerous manual procedural steps to assess applicants’ creditworthiness, getting the right approvals among multi-bank stakeholders, and file all documents in custody.
A combined effort with banks
In the lending facilitation model, Fintech companies collaborate with financial institutions by providing technical support and credit-related services. These services include data gathering, creditworthiness assessment, credit scoring, approvals, and digital documentation, leveraging advanced technologies and extensive databases.
In the co-lending model, Fintech firms and banks partner to contribute to the loaned funds based on the relevant licensing regime. This collaboration enables both parties to share associated risks, enhance credit efficiency, and extend funding to a larger customer base.
I believe the disruption caused by innovative financial technologies in the financial services sector can be effectively managed through a win-win partnership approach among financial institutions, technology firms, and regulators.
Meeting the growing credit needs of retail consumers, SMEs, and underprivileged segments promptly through tech innovations – by using Big Data analytics to understand evolving consumer behavior - and introducing digitally innovative credit products and services with effective cost optimization can be key drivers for banks to build positive relationships with tech companies.
Conversely, Fintech firms gain significant advantages from collaborating with banks. For instance, launching technological innovations within a highly regulated and secure financial environment provides a valuable opportunity to access the market and navigate regulatory
barriers. Additionally, combining knowledge and innovation in a competitive market, along with reputational benefits and enhanced branding, are substantial rewards for Fintech firms.
Ease all uncertainties in banks -Fintech alliances
Any relationship between banks and Fintech providers is surrounded by uncertainties. Contractual agreements do not guarantee the proper execution of each party's responsibilities within the credit framework. And operational complexity might expose banks to additional risks when collaborating with external or outsourced parties.
Another challenge lies in adherence to data protection and privacy policies by fintech companies, which are not as highly regulated as the banking sector. Today, cyberattacks and data leaks are closely monitored, and the rapid development of e-services and products has led to stringent cybersecurity regulations.
Fintech firms would invest heavily in building exclusive databases and state-of-the-art tech infrastructure to attract banks and other financial institutions for collaboration. This could lead to a monopolistic market position, potentially locking banks into a partnership with high switching costs.
Furthermore, when Fintech firms establish multiple partnerships with various banks in the credit business, reliance on the tech company's data algorithms for credit decisions could pose systemic risks that could lead to widespread credit delinquencies, impacting the financial market as a whole.
What UAE is doing for Fintech industry?
Despite these challenges, many global financial hubs have been keen to support and promote the innovation of financial technology, recognizing how digital solutions can foster banking system effectiveness and performance based on local legislation for each jurisdiction.
The UAE has supported both industries by allowing parties to connect and test possibilities of financial digital innovations using sandboxes like the Innovation Testing License (ITL) in Dubai and the Regulatory Laboratory (Reglab) in Abu Dhabi, started in 2016 and 2017, respectively. The UAE Central Bank launched the FinTech Office in 2020, aiming to build a mature Fintech ecosystem in the UAE and position the nation as the foremost hub for the category regionally and globally, based on the five pillars of demand, capital, policy, talent, and infrastructure.
