Alexander Prognimak, CFA from the CFA UK Future of Money Working Group, looks at European Union plans for crypto-assets.
Gone are the days when London’s famous red buses would be carrying adverts promoting the dream of a shiny post-Brexit future for the NHS.
As one ad (that has attracted the advertising regulator’s attention) read: ‘If you’re seeing bitcoin on a bus, it’s time to buy’.
Beyond individuals, the list of potential cryptocurrency buyers is expanding rapidly – it now includes not just traditional risk-seekers such as hedge funds, high net worth individuals (HNWs) and family offices, but even a few S&P 500-listed corporations (which have acquired positions in bitcoin). In short, the brave new world of the ‘crypto-assets’ market is here.
Ironically the technology behind the craze was born out of anti-establishment sentiment, yet it has managed to convert even such bastions of the established financial world as central banks to explore the possibility of creating new digital complements to cash (central bank digital currencies).
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Timely and necessary regulation
This surging interest makes a proposal of the first supranational regulation for crypto assets – Europe’s Markets in Crypto-Assets Regulation (MiCA) brought forward in late 2020 as a part of the European Union (EU’s) Digital Finance package – both timely and necessary.
To complement the proposal, an EU regulation on a pilot regime for market infrastructures based on distributed ledger technology (DLT Infrastructure Regulation) has been announced – in a way, a pan-European sandbox that aims to create regulatory safe space for incumbents and allow the regulator to learn more about ‘market realities’ of DLT-based products. Participants will be exempt from certain requirements introduced by MiCA.
Arguably a proposal created to address intentions of certain corporations to run their own payments ledger with token referenced to fiat currencies, MiCA attempts to cover multiple different types of the ‘crypto-assets’ and classify them in a precise manner.
Exploring MiCA’s approach
Title I of MiCA details its scope and definitions, including definitions for crypto-assets, asset-referenced tokens and e-money tokens. Titles from II to IV constitute the core of MiCA, the rules on issuers of crypto-assets. Title III specifically deals with stablecoins (re-branded as ARTs – asset referenced tokens).
Among other sections, Title V provides general authorisation and operating requirements for certain service providers to crypto-assets, aka CASPs; and Title VII stipulates the supervisory competencies of national competent authorities (NCAs) for ART and EMT (e-money token) issuers, the competencies of the European Banking Authority (EBA) for SARTs, and joint competency with NCAs for significant EMTs. The remainder of MiCA deals with a legislative technique.
MiCA – explaining some of the terms
|MiCA term||Definition||Real-World Example|
|Crypto-asset||A digital representation of value or rights which may be transferred and stored electronically, using distributed ledger technology or similar technology||Bitcoin|
|Utility token||A crypto-asset which is intended to provide digital access to an application, service or resources available on a distributed ledger and are accepted only by the issuer of that token to grant access to such application, services or resources available.||Filecoin, Flow|
|Asset-referenced tokens (ARTs)||A crypto-asset whose main purpose is to be used as a means of exchange and that purports to maintain a stable value by referring to the value of several fiat currencies, one or several commodities, or one or several crypto-assets, or a combination of such assets.||DAI|
|E-money tokens (EMT)||A type of crypto-asset whose main purpose is to be used as a means of exchange and that purports to maintain a stable value by being denominated in (units of) a fiat currency.||USDC|
|Significant Asset-referenced tokens (SARTs)||An ART that is designated significant by EBA either per request of the issue or via an EBA initiative||Diem (Libra)|
|Significant E-money tokens (SEMTs)||An EMT that is designated significant by EBA either per request of the issue or via an EBA initiative||Tether|
|Crypto-asset service providers (CASPs)||Service provider in relation to custody, trading, exchange, brokerage, promotion, or advice related to crypto assets||Coinbase|
Any company, regardless of its country of incorporation, which advertises or offers business to European clients would need to follow the proposed regulation.
Hence the main benefit of compliance is the EU-wide passport given to crypto-asset service providers (CASPs) allowing them to conduct and market their business anywhere within the EU.
However, the price of such ‘passport’ is what arguably can be described as ‘mini-MIFID’ requirements, which include among other things: having an entity established in the EU and obtaining a licence; satisfying ongoing capital requirements; and complying with organisational requirements (employee qualifications, IT security, record-keeping, anti-money laundering, etc). Issuers of tokens have additional requirements.
What does the future look like?
MiCA is an ambitious legislative project. Typically, it would take some years for such a proposal to work its way through the EU policymaking apparatus.
It will be interesting to see if discussions are able to address some of the weaknesses within the proposal that have been highlighted. This includes providing clarity with regards to the scope, for example how specific instruments will fall into the MiCA or MIFID framework.
Another issue that discussions would probably need to articulate and clarify are the responsibilities of the crypto-asset custodians in the event of ownership transfer due to technological issue: for example, if an update to the codebase results in vulnerability that leads to illegal transfer of ownership of the tokens to third parties who would be legally obliged to compensate clients.
The DLT Pilot Regime that accompanies MiCA could lead to a (welcome) pan-European sandbox for innovative companies. However, industry groups have already pointed out that proposed requirements ‘are disproportionate or these exemptions are unenforceable’. One can argue that established players might benefit more from the proposed regime than future newcomers.
How will the UK (and the US) move forward?
Given the UK’s exit from the EU, it will also be interesting to see how closely (if at all) the UK’s proposed regulatory approach to crypto will be to the proposed framework.
According to a recent HM Treasury consultation, the UK government is still considering whether to expand the scope of the UK financial services regime to capture crypto-assets. Meanwhile, lobby group TheCityUK released a report on the topic in the UK context, ‘Cryptoassets: Shaping UK regulation for innovation and global leadership’ on 25 May.
Across the Pond, despite active participation and discussions by multiple US regulatory bodies, there is still lack of uniform definitions or much of a formal rulemaking at federal level with regards to crypto-assets.
Sometimes, what starts as an ad on a bus can quickly lead to regulatory headaches – and significant legislative time.
Originally published at the CFA Society United Kingdom Professional Investor Blog.
All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.
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