Recent study reveals surprising facts about automated financial advice

In September 2018 the EU supervisory authorities (ESAs)published a Joint Committee Report on the results of the monitoring exercise on ‘automation in financial advice that revealed surprising facts about automated financial advice in the EU.

Following the publication of a Discussion Paper on Automation in Financial Advice in 2015 and a Report in 2016 (on which we reported here) the ESAs  published the present follow up report on the evolution of automation in financial advice in the securities, banking and insurance sectors over the past two years. The report is based a survey with competent national authorities.

Surprisingly, the report shows that while the phenomenon of automation in financial advice (or 'robo-advice') seems to be slowly growing, the overall number of firms and customers using automated financial advise is still quite limited. In addition, while some new trends seem to emerge (such as the use of Big Data, chatbots for customer service and extension to a broader range of products) there seems to have been no substantial change to the overall market since the publication of the ESA Report in 2016. The Report identifies:

• cultural/psychological barriers as one of the main causes of lack of engagement, that can be traced back to low level financial literacy, and a lack of consumer trust and confidence in using digital tools;
• regulatory barriers such as the complexity of the applicable legislation (MiFID II/MIFIR, IDD, GDPR, PRIIPs) that pose special challenges for small, startup FinTech firms.

It therefore seems that the market for automated financial advice has not taken up, and that its full potential is yet to be explored. Given the above identifies barriers, one may wonder whether the time is not ripe for a shift to greater digitization in the financial sector or whether the regulatory environment needs to change both in terms of giving greater room for small Fintech firms to expand on the market, and in terms of the existing consumer protection tools. 

Is there a need to reform European financial supervision for the benefit of consumers?

The European Commission has recently closed its public consultation on the Operation of the European Supervisory Authorities (see the feedback statement here).

The supervision of financial firms in the EU is subject to a complex, multi layered system consisting of national and EU supervisory authorities that has became even more complex after the creation of the Banking Union. For us here most important are the European Supervisory Authorities (ESAs). The ESAs, the European Banking Authority (EBA), the European Securities and Markets Authority (ESMA), the European Insurance and Occupational Pensions Authority (EIOPA) has been created in 2010 as a response to the financial crisis. Although they are primarily concerned with prudential supervision (ensuring that financial firms have enough capital to operate, that they are safely and soundly), consumer protection is also on the list of their objectives.

Consequently, the recently held consultation asked whether the current tasks and powers of the ESAs are sufficient to protect consumers and how they could be improved in this respect.

Many stakeholders found that the scope of ESAs' tasks and powers is adequate and should not be extended. Instead, they should use their existing powers more efficiently, and should be more aligned with the problems at national level. However, some stakeholders saw room for extending ESAs' powers, e.g. by giving ESAs more powers for consumer protect purposes, want to see more work in the financial innovation space, including on virtual currencies, or on financial education, cross-border protection, big data etc. Finally, some, like Better Finance, advocate for the overhaul of the current system of supervision by opting for a 'twin-peak' model instead of the current 'silo' approach. The argument is that the current ESAs prioritise prudential matters over consumer protection matters (see their press release here).

Learning from the experience of the UK, the twin peak model could be an interesting option. In the UK, the former Financial Services Authority, having both the mandates of prudential supervision and consumer protection, failed to properly balance its two limbs of supervision. Although it is said to have paid more attention to conduct matters, having too much to do resulted in a number of conduct failures causing significant detriment to consumers (PPI, payday loans, etc).  The creation of a separate consumer protection authority (the Financial Conduct Authority) has improved consumer protection standards and practice, and the approach so far seems to work well for the UK. However, we must admit, that although the solution of having only one supervisory authority for the entire EU financial market sounds appealing, it is a radical suggestion that requires, among others, substantial background research.

What do you think, is there a need for an EU Financial Consumer Protection Authority, and is it a viable solution?