A sandbox is a term synonymous with software development and refers to a virtual space in which new or untested software or coding can be run securely. A regulatory sandbox, on the other hand is a framework set up by a regulator to allow small scale, live testing of innovations by various firms in a controlled environment (operating under a special exemption, allowance, or other limited, time-bound exception) under the regulator’s supervision.
Challenges faced by the Regulators
The Securities and Exchange Board of India (SEBI), as the sole regulator of capital markets in India has always strived to ensure the investor protection goes hand in hand with adaptation of new and upcoming technology. The Indian capital markets, in general, have always been the early adapters of upcoming technology, be it providing Direct Market Access to clients or Smart Order Routing or use of Algorithmic Trading Strategies.
However, whenever a new technological advancement comes, it comes with its own set of challenges and implementation issues. And especially, with the current meteoric rise of the financial technology (FinTech) industry, it is imperative to understand that the laws/regulations for brick-and-mortar financial companies cannot be always successfully be expected to regulate the FinTech industry. And neither can a straight jacket formula be made applicable to all the FinTech entities.
The Innovation Sandbox
With a view to promote innovation and also to ensure that the securities market is not left untouched by the FinTech Companies, SEBI recently came out with the framework for innovation sandbox on May 20, 2019. The said framework is a version of the regulatory sandbox by which SEBI seeks to promote the adoption and usage of FinTech.
SEBI proposed to create an ecosystem which promotes innovation in the securities market, in which the FinTech companies would be provided access to market related data, particularly, trading and holding data, which is otherwise not readily available to them, to enable them to test their innovations effectively before the introduction of such innovations in a live environment.
The said testing environment would be accessible to FinTech firms and entities not regulated by SEBI including individuals who may use it for offline testing of their proposed solutions in isolation from the live market, subject to fulfilment of the eligibility criteria, based on market related data made available by Stock Exchanges, Depositories and Qualified Registrar and Share Transfer Agents (QRTAs).
The said framework is just a basic framework which deals with the basic feature and design components of the innovation sandbox and any entity which wishes to innovate on the products, services, and/or solutions for the securities and commodities market in India can be part of the said Innovation sandbox.
Benefits of Innovation Sandbox
The proposed innovation sandbox would provide plethora of benefits for all stakeholders. First, of all, it would allow the Regulator to understand the functioning of a FinTech service/product in a holistic manner which would enable the Regulators make necessary modifications in the existing laws (or make new ones) to ensure level-playing field for all financial companies. Secondly, it would allow the FinTech firms to test their product’s viability prior to live market launching.
Thirdly, it would reduce the dependence of the regulator on industry/stakeholder consultations for making changes in the regulations, now the regulators can make regulations prior to allowing the launch of new FinTech service/product for the general public. Lastly, this would promote innovation which would only lead to increased range of products and services and reduced costs.
However, the said framework is just basic framework for introduction of the concept by SEBI and the SEBI has proposed a Steering Committee comprising of representatives from the Market Infrastructure Institutions (MIIs) and QRTAs which shall be responsible for developing the operating guidelines related to the functioning and structure of the Innovation sandbox in the upcoming future.
This indeed is a very welcome move by the capital markets regulator and would only lead to betterment of the Indian securities market if proper implementation is ensured.