In this article, Goh Hui Wen examines the proposed regulatory framework for digital banks in Malaysia.
The global financial services industry has seen a momentous evolution over the past decades driven by new technology innovations. As customers gravitate towards digital experiences and products, the transformation of the traditional banking system has become inevitable. This is even more so with the on-going COVID-19 crisis which has undoubtedly spurred the need for the adoption of digital banks in Malaysia.
What is a digital bank? According to the Ministry of Finance, a digital bank is “a virtual bank which operates in a digital environment and is devoid of brick-and-mortar presence of a traditional bank” and which offers similar services to that of incumbent banks through digital and automated platforms1.
Many countries or territories in the Asia Pacific region including the Republic of Korea, the Republic of Philippines, the Hong Kong SAR and Singapore have in the recent years established their own digital bank regulatory framework.
While the development of digital banks may be seen as a disruption to the traditional banking scene, it has been observed that the financial regulators in the Asia Pacific region “tend to view technological development in financial services as a way to grow their economies and provide better outcomes to customers”2.
In Malaysia, Bank Negara Malaysia (“BNM”) had in March 2020 issued the Exposure Draft on Licensing Framework for Digital Banks (“Draft Licensing Framework”) which outlines its proposed licensing framework for digital banks subject to feedback received by 30 June 2020. A balance approach was adopted by BNM to support technological developments by enabling the establishment of digital banks whilst maintaining the stability and integrity of the financial industry and safeguarding the interests of depositors3.
These outcomes are aimed to be achieved through the concept of a “foundational phase” whereby in the initial three to five years of operations, a defined asset threshold as well as a simplified regulatory requirement will be applied to licensed digital banks4. Initially, up to five digital bank licenses would be issued to qualified applicants under the finalised licensing framework5.
WHO MAY APPLY?
It has been made clear in the Draft Licensing Framework that existing licensed banks and licensed Islamic banks may digitalise their current business operations without having to apply for a separate license for digital banks6. Therefore, it would appear that the Draft Licensing Framework is catered to new players in the banking industry who do not currently hold a banking license under the Financial Services Act 2013 or the Islamic Financial Services Act 2013.
Incumbent banks that wish to form a joint venture company with other parties for the purposes of carrying out digital banking business are, however, required to apply for a digital bank license under the licensing framework7.
In Singapore, the Monetary Authority of Singapore has indicated that incumbent banks may set up digital banks as subsidiaries under the existing internet banking framework and be assessed separately from the applications for digital bank licenses8, implicitly suggesting that the five licenses to be issued under the Singapore digital bank licensing framework will not be made available to incumbent banks or their subsidiaries.
BNM may require a shareholder which holds an interest in shares of more than 50% in a proposed licensed digital bank to organise all its financial and financial-related subsidiaries under a financial group, headed by a licensed institution or a financial holding company as the apex entity9.
This is similar to the digital bank regulatory framework in the Hong Kong SAR whereby sponsors of the proposed licensed digital bank may either be a financial or non-financial firm, and the shareholder which holds more than 50% shares in the proposed licensed digital bank is required to be either a bank, a financial institution supervised by a recognised financial supervisor or an intermediate holding company subject to supervisory conditions10.
Whilst the Monetary Authority of Singapore requires an applicant for a digital full bank license or a digital wholesale bank license to demonstrate that at least one entity in its group has three or more years of track record in operating an existing business in the technology or e-commerce field11.
ABILITY TO ACHIEVE FINANCIAL INCLUSION
As part of the effort by BNM to achieve financial inclusion and boost economic growth, the proposed regulatory framework on digital banks focuses on reaching the underserved and unserved segment which includes retail as well as micro, small and medium enterprises (“MSMEs”).
In the Draft Licensing Framework, one important factor that will be taken into consideration in assessing applications for a digital banking licence is an applicant’ commitment and ability in driving financial inclusion and ensuring access to the underserved and unserved populations in a sustainable manner without jeopardising the depositors’ interests12.
This is similar to the regime in Singapore where the Monetary Authority of Singapore expressly requires applicants for digital banking licenses to provide:
“clear value proposition, incorporating the innovative use of technology to serve customer needs and reach under-served segments of the Singapore market, that differentiates it from existing banks”13.
BNM also requires a licensed digital bank to always maintain capital funds with a minimum of RM100 million during the foundational phase14. Thereafter, a licensed digital bank will be subject to the same capital requirement as all other licensed banks, that is RM300 million15. This is different from the approach in the Hong Kong SAR where digital banks are required to maintain a minimum paid-up capital like other commercial banks at the onset16.
In Singapore, a successful applicant for a digital full bank licence will commence its operations as a restricted digital full bank before becoming a full functioning digital full bank, and this transition is expected to take place within three to five years from commencement of business.
A restricted digital full bank is required to maintain at least SGD15 million as minimum paid-up capital throughout the entry phase (which is expected to last for one to two years). Thereafter, the minimum paid-up capital shall be progressively increased to SGD1.5 billion during the progression phase before it transitions into a fully functioning digital full bank17.
On the other hand, the Monetary Authority of Singapore expects a licensed digital wholesale bank to meet similar minimum paid-up capital as the incumbent wholesale banks, which is SGD100 million18.
In Malaysia, a limitation will be imposed on the asset size of licensed digital banks whereby the total asset size of a licensed digital bank shall always not exceed the limit of RM2 billion during the foundational phase19.
In Singapore, business restriction comes in several forms. For example, a restricted digital full bank is subject to an aggregate deposit cap of SGD50 million during the entry phase (may be increased in progression phase subject to approval) and an individual deposit capped at SGD75,000 during both the entry phase and the progression phase20.
During the entry phase, a restricted digital full bank is also not allowed to widely solicit deposits from the public, and may only solicit deposits from its shareholders, employees, related entities and any other persons who are familiar with the restricted digital full bank’s parent or major shareholders’ businesses21.
As the regulatory requirements for digital banks in both Malaysia and Singapore are seemingly more relaxed during the initial phase of a digital bank, it would appear that limitations or restrictions are imposed by the regulators in order to minimise the impact of any potential operational issues during the initial operation phase and to safeguard the interest of the depositors.
To-date, many established digital conglomerates have expressed their interest in pursuing a digital bank licence in Malaysia. These include incumbent banks as well as non-bank players such as Grab (ride-hailing company, which owns e-wallet GrabPay), Axiata Group Bhd telecommunication company, which owns e-wallet Boost), Razer Fintech (gaming company, which owns e-wallet Razer Pay with Berjaya Corporation Berhad), all of which are familiar names in the financial services industry as well as digital consumer platform22. Property firms such as Sunway Berhad and Paramount Corporation Bhd were also reported to be interested23.
Although the on-going Covid-19 crisis may have possibly delayed the issue of a Policy Document on Digital Banking following which applications may be submitted in Malaysia, it has no doubt put a focus on the need for a digital transformation in the banking industry in order to meet the increasing demands from consumers for uninterrupted and seamless digital banking services. No matter how the future unfolds, a robust regulatory framework must always be prioritised to safeguard the stability of the financial system.
For further information regarding financial services matters, please contact our Financial Services Practice Group.