Getting it right on crypto regulation

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BrusselsReport.eu
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By Guy Burton, an Adjunct Professor at the Brussels School of Governance, where he teaches politics and international relations.

Crypto assets are moving into the mainstream. Over the past year their value has exploded and with a number of ambitious initiatives taking place across Asia and the Gulf, digital assets are becoming a financial force to be reckoned with. Can the emerging crypto hubs become role models for European policy makers?

In its most recent report, Thomson Reuters highlighted that between November 2020 and the end of 2021 their value rose from $500 billion to over $3 trillion. More than 16,000 cryptocurrencies are believed to be operating with trading volumes calculated at around $240 billion across 400 trading platforms a day.

Growing pressure

The rise of cryptocurrencies has attracted growing government interest on a number of fronts. One is the lack of regulation and oversight, which has made the cryptocurrency market a highly volatile one – one in which regulators have been struggling to manage risks.

At the same time, regulators themselves are facing a risk to be sidelined if they do not manage to get in on the act. Such realization prompted their interest in Central Bank Digital Currencies or CBDCs, a version of cryptocurrency which is backed by a central bank. Just in the past year, ten countries have launched CBDCs, meaning that it will give respective governments a highly desired stake in what might be the financial system of the future.

All this points to growing pressure on governments to establish clear and effective guidelines and regulations.

For now, the process of rolling out adequate regulatory framework has been largely unstructured and slow; where there is regulation, it is patchy and uncoordinated.

In Europe for instance, jurisdictions vary across borders, with some like Germany and Belgium, being more thorough than others, like France. In the US, meanwhile, responsibility for overseeing the cryptocurrency world is split across different agencies, prompting the government there to encourage greater coordination, the latest example being President Biden’s Executive Order on cryptocurrencies.

Ambitious initiatives in Asia and the Gulf

Elsewhere, in Asia and the Gulf the record is similarly varied, but more determined and ambitious overall, with signs of promising regulatory frameworks in certain historically dynamic markets.

Take China, for instance, a huge potential market for cryptocurrencies, which has banned its financial institutions from dealing in cryptocurrencies while aggressively exploring the possibility of floating a digital yuan.

Alternatively, Japan and Singapore have among the most advanced and integrated forms of regulation in East Asia. Just a couple of weeks earlier, Singapore announced the launch of “Project Guardian”, a collaboration between different financial authorities and private sector.

The official aim is to give a stress-test to various aspects of digitals assets and decentralized finance while simultaneously working to manage risks. Coincidence or not, Project Guardian was introduced after a departure of several major crypto players from the city-state.

The Gulf should not be overlooked as well, where attitudes and policy towards cryptocurrencies also vary.

Although they are legal in Saudi Arabia, they are not catered for in the current regulatory framework and financial institutions do not trade in them. By contrast, in neighbouring UAE, the Dubai Financial Services Authority explicitly included a crypto regulatory framework in its 2021 business plan.

Since the start of the year the country has begun to put it into action. The UAE has adopted elaborate regulation as well as established a dedicated regulatory body. The country has already issued licenses for more than 30 exchanges to be set up. That, along with officially sanctioned crypto mining, should mean that the country’s share of the global crypto market should grow more than the $26 billion from last year.

European interest

By pushing ahead to promote cryptocurrencies and ensure official oversight, the UAE puts it ahead of other countries and jurisdictions, who will be keen to see what effect the recent changes will have. The EU may be especially interested: in 2012 the European Central Bank showed interest in the need for crypto-regulation, but it was only in 2020 that the European Commission put forward its proposed regulation on Markets in Crypto Assets (MiCA). When established, MiCA will bring crypto assets into line with other financial assets and harmonise them across its 27 member states.

However, MiCA is unlikely to come into effect before 2024. In recent months it has been scrutinised in the European Parliament and is expected to become the basis of trilateral negotiations between the European Commission, Parliament and Council of Europe later this year.

The talks between the three are expected to last several months, after which the law will come into force, with the crypto industry having to institute the requirements between 9 and 18 months.

A danger for the industry is that the negotiations between the different European institutions could mean that new developments and innovations in the global crypto market or CDBCs may be overlooked. That may become significant, since the EU’s size and scale means that many of its regulations often become global standards.

Similarly, there remains little consensus as to whether the proposed MiCA will be sufficiently robust or too lax. For some, the regulations currently being discussed are too restrictive; the regulation being proposed would constrain the market and assert government control over the authorization, management and access of digital assets and thereby restricting consumer choice and use of the market and crypto assets. For others, however, the current MiCA proposals are too light – much lighter than the current regulation for financial instruments – and would therefore leave consumers exposed to more malevolent forces in the industry.

Whatever the outcome is for MiCA, it will be significant in terms of scale. By contrast, while Singapore or the UAE lack the EU’s size, they have another advantage: they can be fleet of foot. Countries like the UAE have a comparative advantage over other jurisdictions like the EU, US and which are just starting their regulation journey. Unlike the US, the UAE has moved past the stage of appealing for existing authorities to work together. Unlike the EU, it does not have years to wait before the legal framework is fully in place. With measures already in place, the Emirati authorities are able to see what will work and what does not – and giving it the chance to respond in a timely and effective fashion.

Future of finance

In sum then, it is very likely that plenty of eyes will be on such trendsetters as Singapore and the UAE in the next few years as the digital assets market solidifies its role in the future of finance.

As it does, there is a need to balance the development of the crypto market and the creation of new products and innovations on one side while also ensuring that there are sufficient safeguards and protections in place, from consumers through to states.

Achieving that balance will be a challenging task, but if either of these ambitious global hubs are able to manage it successfully, it will provide a model that ensures that one side of the equation is not overweighted to the detriment of the other.

Given the track record of these hubs in digital transformation and facilitating international trade, their bet on crypto seems promising. Should their initiatives withstand the challenges, the prospects for crypto products could determine the financial centers of the future.

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