Innovation meets regulation: A sandbox for artificial intelligence (AI)

1. Starting point

Digital innovation and the use of artificial intelligence (AI) are leading to massive changes in almost all areas of life and business. This increases the need for companies whose concepts are based on the use of AI to test new technologies and business models under real conditions before their market launch. [1]

The draft of the AI Regulation (“AI Act”) of the EU Commission of 21.4.2021 contains harmonised regulations for the placing on the market and the putting into service of AI systems within the EU.[2] The basic idea of the draft is to promote the development of AI systems within the EU and at the same time to subject them to a regulation that does not endanger innovation in the field of AI. [3]

The German government also sees AI as a key technology. It is viewed as having high potential for additional economic growth and productivity gains. In this context, it has drawn up a framework for action in the form of the so-called Artificial Intelligence Strategy (AI Strategy). With this strategy, the Federal Government is pursuing the goal of further expanding AI ecosystems in Germany and Europe and strengthening Germany as a location for research, development and application of AI in international competition. [4]

 

2. Regulatory sandboxes as a means of promoting innovation

So-called “regulatory sandboxes” are one means of creating regulatory freedom and thus enabling technological innovations. [5]

The term “regulatory sandbox” originally comes from information technology (IT). In this context, sandboxes were used to test new potentially insecure codes in a delimited framework in order to reduce the risk for the user when introducing new products to the market as a whole.[6] A generally accepted definition of “real lab” or regulatory sandbox does not yet exist. Other terms such as “experimental spaces”, “innovation spaces”, “living labs” or “real experiments” can be found for real labs and similar testing projects in research, business practice and politics. [7]

Regulatory sandboxes are not a novelty in law either. In the past, the vast majority of these projects have focused on the – traditionally very heavily regulated – financial sector.[8] The players in the financial market are regulated and can only operate in compliance with legal organisational, compliance and equity requirements after obtaining a licence from the German Federal Financial Supervisory Authority (BaFin). This high hurdle is not easy to overcome for many young companies (“start-ups”) in the financial sector (“FinTechs”) in the start-up phase. [9]

The model of regulatory sandboxes, has already been successfully introduced in numerous neighbouring EU countries, but also in the American and Asian regions. It means that FinTechs in particular can enter the market swiftly and cost-effectively and can start their business activities more quickly, which would not be possible or only possible with difficulty under the onerous regular regulatory framework conditions.[10]Sandboxes allow innovative business models to be temporarily tested under real conditions in a legally secure and delimited area without having to meet all regulatory requirements at the outset. [11]

Proponents of the concept see regulatory sandboxes as a way of avoiding overregulation. Critical voices, on the other hand, point to a possible undermining of legal standards. [12]In contrast to the EU Commission and the European Banking Authority, which view [13]regulatory sandboxes positively, BaFin takes a negative stance on regulatory sandboxes. BaFin applies supervisory law equally to established and new players. It is not decisive for BaFin whether a FinTech sells a financial service using modern technology (such as so-called robo-advisers, which enable their customers to invest capital and have assets managed by means of AI) or whether this service is provided personally by a human being. [14]Thus, there are no independent legal standards for licensing issues for innovative financial service providers in Germany. According to BaFin’s principle of equal treatment under supervisory law, “same business, same risk, same rule” applies to these companies (so-called “level playing field”). [15]However, the principle of proportionality also applies, according to which a FinTech with a manageable or simple business model will have a leaner regulatory set-up than a fully regulated credit institution.

 

3. Regulatory sandboxes in the context of the AI Act

The EU Commission’s draft AI Act – presented in April 2021 – now explicitly includes the possibility of using real laboratories as measures to promote innovation.

In accordance with Article 53 of the AI Act, AI real laboratories, established by the competent authorities of one or more Member States or by the EDPS, provide a controlled environment to facilitate the development, testing and validation of innovative AI systems for a limited period of time before they are placed on the market or put into service according to a specific plan.[16]These will open up the possibility of testing innovations in the field of AI. [17]

The modalities and conditions for the operation of the AI real laboratories will be laid down in implementing acts, see Article 53(6) of the AI Act. Article 55 also provides for measures by the Member States for so-called small-scale providers and users. According to Article 3(3) of the AI Act, “small-scale providers” are micro or small enterprises within the meaning of Recommendation 2003/361/EC of the European Commission. According to Article 55, the Member States should, for example, grant small-scale providers and start-ups priority access to the AI Regulatory Sandboxes, provided they meet the eligibility conditions.

 

4. Outlook

AI real labs are not to be understood as unlegislated spaces for young innovative companies to operate as they wish without complying with applicable legal norms. Instead, they create a regulatory framework for new companies and thus enable the company to develop into a fully regulated market participant. [18]They offer the possibility of checking how new innovative technologies function in the existing regulatory environment and thereby also offer legislators the chance to gain important insight into whether and where there is a need for regulation.

[1]  EU Commission, White Paper on Artificial Intelligence – A European Approach to Excellence and Trust, p. 1 ff.

[2] Ebert/Spiecker gen. Döhmann: Der Kommissionentwurf für eine KI-Verordnung der EU in NVwZ 2021, Heft 16, S. 1188.

[3]  EU Commission, White Paper on Artificial Intelligence – A European Approach to Excellence and Trust, p. 1 ff; Valta/Vasel: Commission Proposal for a Regulation on Artificial Intelligence, ZRP 2021, Heft 5, p. 142.

[4]  Cf. Strategy on Artificial Intelligence of the Federal Government, Update 2020, p. 2 ff, available at: https://www.ki-strategie-deutschland.de/files/downloads/201201_Fortschreibung_KI-Strategie.pdf (last accessed on 13.10.2021).

[5] Federal Ministry for Economic Affairs and Energy, Neue Räume, um Innovationen zu erproben, Konzept für ein Reallabore-Gesetz, p. 2 ff.

[6]  Wendt, CF No. 11-12/2020, 366, 367; Global Financial Innovation Network, Consultation document, 2018, p. 17.

[7] Federal Ministry for Economic Affairs and Energy, Freiräume für Innovationen – Das Handbuch für Reallabore, July 2019, p. 9.

[8] Nathmann, CF No. 07-08, p. 248; https://www.bafin.de/DE/Aufsicht/Uebergreifend/

UnauthorizedBusinesses/unauthorized_businesses_node.html (last accessed 10/13/2021).

[9] Möslein/Lordt, ZIP 2017, p. 797.

[10]  Cf. for example BMWi, Freiräume für Innovation – Das Handbuch für Reallabore, p. 12.

[11] Wendt, CF No. 11-12/2020, 366; Krimphove/Rohwetter: Regulatory Sandbox – Sandbox Games also for Germany? , BKR 2018, 495.

[12] Krimphove/Rohwetter: Regulatory Sandbox – Sandbox Games also for Germany?, BKR 2018, 494, 496 f.

[13] Möslein/Omlor: The European Agenda for Innovative Financial Technologies (FinTech) (BKR 2018, 239)¸ FinTech Action Plan (footnote 1), p. 9 f.

[14] https://www.bafin.de/SharedDocs/Veroeffentlichungen/DE/Reden/

re_171130_consumer_forum_p.html (last accessed Oct. 13, 2021); Gurlit, WM.

2016, p. 2060 ff.

[15] https://www.bafin.de/SharedDocs/Veroeffentlichungen/DE/Pressemitteilung/

2016/pm_160628_FinTechs.html (last accessed 10/13/2021).

[16] Article 53(1) of the AI Regulation.

[17] Cf. for example Basis: Concept and functions of experimentation clauses Noerr LLP / B-1719-2019, 29951741_1, page 16 et seq.

[18]Eberle, The Regulatory Sandbox, LR 2020, 175