"The CFPB is attempting to exercise regulatory authority over the digital payment application market without needing to determine the specific risks faced by consumers, indicating a fundamental flaw in the agency's regulatory approach."

Author: Jack Solowey

Translated by: TaxDAO

When you use a product that is subject to government regulation, you may think that regulation is necessary for the smooth operation of the product or its industry. However, when a regulatory agency proposes specific regulation for a product years after it has been operating as expected, you may not help but ask, "Why is regulation still needed?"

When it comes to the Consumer Financial Protection Bureau (CFPB) proposing to include popular payment applications (such as Apple Pay, Google Pay, PayPal, Venmo, and Cash App) in the regulatory system, the CFPB's answer to this question is: the applications are quite popular—CFPB only sees success as a reason for more stringent supervision.

The digital payment application market does not urgently need regulatory agencies to save consumers, and the proposed rule by the CFPB provides a real-time display, showing how regulatory agencies will "fix" certain issues without hesitation, even in cases where, perhaps especially in cases where, as the old saying goes, "it ain't broke."

This month, the CFPB proposed designating major digital consumer payment applications as "larger participants" in the consumer financial services market, placing them under institutional supervision. The Dodd-Frank Act gives the CFPB the power to regulate these larger participants, which means that the CFPB not only has the ability to take enforcement action against violations of consumer financial protection laws, but also to actively monitor and inspect these specific companies.

The proposed rule suggests that the covered digital payment applications will face a range of potential CFPB regulatory activities, including record requests, regulatory meetings, record reviews, as well as on-site inspections for compliance assessments, reporting, and ratings. These inspections typically take about eight to ten weeks on average.

When a company tries to get the job done, all these messy things are reminiscent of the scene in which Homer Simpson (a character in the animated series "The Simpsons") supervises an engineering team:

Homer: "Are you working?"

Engineers: "Yes, sir."

Homer: "Can you work harder?"

According to the proposal, who will be subject to CFPB regulation? The proposed rule will cover providers of "general digital consumer payment" applications (including fund transfers and digital wallet applications) that meet transaction volume (500 million transactions per year) and company size (not classified as small businesses under legal requirements) requirements. The proposal includes some notable exemptions, including exemptions for applications that only facilitate payments for specific goods or services (i.e., non-general purposes) and exemptions for transactions with markets through their own platforms.

The proposal mentions "digital wallets," raising another question of whether cryptocurrency transfers and wallets are within the scope. The answer is: "Maybe."

According to the CFPB, covered fund transfers include cryptocurrency transfers, so the rule may cover custodial cryptocurrency wallets (service providers that control access to users' private keys). However, the proposed rule does not include the purchase or trading of cryptocurrencies, as it does not involve one form of funds exchanging for another form of funds, and it also does not include the purchase of securities and commodities regulated by the Securities and Exchange Commission (SEC) and the Commodity Futures Trading Commission (CFTC). (The unresolved issue of jurisdiction over cryptocurrencies by the SEC and CFTC has led to unhelpful regulatory ambiguity.)

The proposed rule for self-custody cryptocurrency wallets (where users control their own private keys) may depend on interpretive issues (including issues related to the definition of "wallet functionality"), which may leave room for the agency to include certain self-custody wallets in its regulatory scope. (If the CFPB goes this route, it would be another example of subjecting core cryptographic technology to poorly conceived regulation.)

When it comes to the reasons for the CFPB's proposal, it is anomalous that it is precisely the absence of data showing a collapse in the digital payment application market that is cited by the CFPB as the basis for special regulation of the market. "The CFPB proposes to regulate non-bank participants, which are larger participants in this market, because this market has enormous and increasingly significant implications for consumers' daily financial lives." In other words, meeting consumer demand alone requires stricter scrutiny.

How popular are these applications? According to the CFPB's own data, 76% of Americans have used one of the four major payment applications; 61% of low-income consumers report using payment applications; merchants' acceptance of payment applications "has rapidly expanded as businesses seek to make it as easy as possible for consumers to make purchases using their preferred payment methods"; and the adoption by young users may drive further growth.

Individual survey data often support the view that consumers' positive evaluations of these applications align with their revealed preferences. According to Morning Consult's 2017 survey data, a considerable number of American adults are very satisfied or somewhat satisfied with various digital payment applications, including Venmo (71%), Apple Pay (82%), Google Wallet (79%), and PayPal (91%). Recently, some have even tried to define Apple Pay as making payments "too easy" and not in the interest of consumers.

The CFPB's proposal is not an example of a regulatory agency seeking to establish much-needed order in a fragmented and lawless industry, but rather an example of an agency raising compliance requirements in an already regulated area. For example, consumer financial products and services (including consumer payment services provided through any technology) are already subject to the CFPB's authority to prohibit unfair, deceptive, or abusive practices. In addition, the CFPB already has the authority to supervise related financial service providers and can issue orders when there are reasonable grounds to determine that a provider poses risks to consumers, but the agency has not done so in any convincing way in the proposal.

The CFPB is attempting to exercise regulatory authority over the digital payment application market without needing to determine the specific risks faced by consumers, indicating a fundamental flaw in the agency's regulatory approach.

As for digital payment applications, the proposed regulatory system is not aimed at the failure of the consumer financial services market, but at the success of the market. In this regard, we cannot help but ask: for what problems did consumers originally believe that the regulatory system, which they now take for granted, was initially established to solve?

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