Financial innovation oversight: a policy framework

This paper proposes a policy framework for containing the unintended, and potentially harmful, effects of financial innovation. The total costs of conduct failures are often related to innovative products or services. The current approach, adopted by several authorities, makes extensive use of the tools of transparency and disclosure, mainly for consumer protection. There has been a growing recognition that this approach needs to be supplemented with more stringent organizational solutions, which mainly include corporate governance and risk management. In particular, we discuss the necessity to have in place a “new product committee” in order to promote a responsible risk culture and rigorous risk measurement, an appropriate remuneration policy, an explicit ethical standard, and, more generally, a set of internal controls related to both process and product innovation. In addition to retail financial products, the policy framework also deals with the harmful effects of complex and bespoke financial contracts for non-retail customers. This paper provides a number of practical examples of internal governance procedures, as well as discussing some more intrusive policy options, including guidelines, product pre-approval and restrictions. The suggested framework should be enforced through appropriate on-site visits.