Regulation of crypto assets – a more united approach?
by Adam Topping, Partner at HFW
The last few years have seen a rise in mainstream popularity of crypto assets and, consequently, increased scrutiny of this sector by financial regulators. In 2021, cryptocurrency market capitalisation trebled in value and, as of March 2023, the total market capitalisation of crypto assets is estimated to be around USD1.06 trillion.
This crypto boom has left regulators grappling with how best to characterise and oversee these non-conventional assets within the existing regulatory framework. Coupled with a backdrop of legislators exploring whether new regulations are necessary for the protection of consumers and market integrity, this has led to much uncertainty.
In the US, difficulties applying the current regulatory framework to crypto assets have resulted in a patchwork approach, and the interplay between federal and state level rules is often unclear. Both the Securities and Exchange Commission (SEC) and the Commodities and Futures Trading Commissions (CFTC) assert overlapping regulatory oversight over this space. The CFTC has authority over the derivatives market in relation to “commodities”, and the SEC has authority over “securities”, as well as any instrument that might be sold as an investment. Crypto assets do not fall neatly into either category. Regulation of crypto assets also varies at a state-level, influenced by a range of factors, including, in some cases, a state’s desire to attract investment in this space.
In the UK, the Financial Conduct Authority (FCA), as the UK’s main financial regulatory body, has oversight of the crypto asset market. The FCA classifies crypto assets into broadly three categories for the purposes of regulation: exchange tokens, which are outside the regulatory perimeter; utility tokens, which are generally outside the regulatory perimeter but might be regulated if they fall within the definition of e-money; and security tokens, which are tokens with specific characteristics providing rights and obligations akin to traditional regulated investment products, such as shares, debt securities, units in a collective investment scheme and derivatives, and which consequently fall within the existing regulatory perimeter. As a result, an analysis of each relevant crypto asset’s substantive characteristics is required to determine whether or not it is to be regulated.
The regulation of crypto assets in the UK is currently under review. The Financial Services and Markets Bill 2022, currently at the report stage in the House of Lords, introduces a regulatory regime for stablecoins. In essence, stablecoins are crypto assets that are purported to have been “stabilised” in a variety of manners, such as where backed by fiat currency.
Beyond the Bill, the UK government has just closed a consultation on proposals for a phased expansion of the regulatory scope of crypto asset activities. If these legislative proposals are introduced, all crypto assets, including exchange and utility tokens, will come under the FCA’s regulatory scope. The proposals have met high profile resistance however, with a group of cross-party MPs suggesting handing regulatory authority to the FCA would give a misleading impression to consumers as to the safety of crypto assets.
How the regulatory landscape in relation to crypto assets will evolve remains to be seen.
If the UK government’s current proposals to give exclusive regulatory authority to the FCA are adopted, the UK may benefit from the relative simplicity of its regulatory structure and the FCA’s exclusive jurisdiction. This could allow it to adopt a unified approach and introduce a framework capable of defining and classifying crypto assets with relative clarity providing certainty to market participants as to the path ahead.
It could also give it the flexibility and adaptability to keep pace with technological developments in this sector. Until then, the correct identification of crypto assets remains key to not falling foul of current regulation.