Regulation is coming for crypto. After more than a decade when cryptocurrencies and related technologies have surged, boomed, and busted in a regulatory vacuum, lawmakers in both the US and Europe are writing new rules for a sector that has grown dangerously large in both value and reach, touching $2.9 trillion at its peak in November 2021. The ongoing crash on crypto markets has only strengthened rule-makers’ resolve.
On Thursday, EU institutions announced an agreement on two landmark pieces of regulation: the Market in Crypto-Asset Act (aka MiCA), regulating most providers of cryptocurrency services, and an anti-money-laundering package imposing robust checks on cryptocurrency transfers. In the US, several proposals have been put forward over the past few months. One notable example is the wide-ranging bipartisan bill sponsored by Republican senator Cynthia Lummis and Democratic senator Kirsten Gillibrand, which the crypto industry has saluted as beneficial, while others have condemned it as a capitulation to the crypto lobby’s requests. On the other end of the spectrum is Democratic senator Elizabeth Warren, a fierce crypto critic who sponsored a bill calling for robust checks on cryptocurrency transactions in order to stop the evasion of sanctions against Russia.
While none of these changes will come to pass in the immediate future, and some may never materialize, the age of untrammeled crypto experimentation (and bald-faced crypto scams) might be on the way out. The EU’s MiCA Act is “quite frightening for the crypto industry, actually,” says William O’Rorke, a Paris-based lawyer from ORWL Avocats, who specializes in crypto assets compliance. “We’ve never seen a financial sector being regulated so quickly.”
Anne Termine, a partner and cryptocurrency lead at the US law firm Bracewell predicts that even if none of the bills up for discussion so far were to be passed, “in two years’ time, there will be a bill out there.” She thinks that introducing rules for stablecoins is particularly high on lawmakers’ to-do list—echoing what US treasury secretary Janet Yellen said after the collapse of the terra-luna stablecoin.
But that is just the start. Here are all the hot-button crypto issues we expect legislators to grapple with—and what their proposals may look like.
A Fight Between Securities and Commodities Emerges
While the OG cryptocurrency bitcoin was launched in 2009 as a type of digital money, other tokens launched after it have been marketed as ideal “shares” giving voting rights in cryptocurrency-based startups, or as purely speculative assets. That has raised the question of whether selling a token to the public is tantamount to peddling unregistered securities. If you ask the US Securities and Exchange Commission (SEC), in fact, crypto does not need more regulation: Most of the tokens launched and sold today should simply stick to existing securities regulations.
The SEC has generally submitted cryptocurrency projects to the so-called Howey test—by which every asset sold with the promise of profits deriving from someone else’s efforts qualifies as a security—and has slapped major players with lawsuits and fines for selling crypto tokens to the public without abiding by securities law. “A security issuer is supposed to file a registration statement with the SEC and disclose to investors a number of risk factors so that investors can really try to understand whether this is a good investment or not,” explains Todd Phillips, a financial expert with the think tank the Center for American Progress. “Cryptocurrency issuers aren’t providing those disclosures, and investors and speculators are getting harmed.”
SEC chair Gary Gensler famously thinks that most cryptocurrencies in existence, with the exception of bitcoin, are likely securities. Crypto entrepreneurs disagree, maintaining that some tokens have functionalities other than making their holders rich, and are therefore out of the SEC’s jurisdiction. Some have complained that the SEC’s approach lacks clarity on what kinds of crypto products are securities.
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The Lummis-Gillibrand bill appears to espouse that view, much to the crypto crowd’s delight. The bill—which was unveiled in early June and will likely not make it to the floor until after the midterm elections—posits that most crypto assets should be regarded as commodities rather than securities, and should therefore be regulated by the Commodities Futures Trading Commission. There are exceptions for crypto tokens that are explicitly marketed as shares in a venture (with rights to profit, liquidation, etc.) and those controlled by a centralized company, who will have to provide biannual disclosures to the SEC. Crypto’s reaction to the potential sidelining of an increasingly hostile SEC has, unsurprisingly, been positive. “If we equate a lot of these crypto assets to commodities, you don’t require issuers to provide disclosures,” Phillips says. “That is one of the things that the industry is trying to go for: to not have any one individual or entity be liable for misstatements in their securities filings or for harms that are done to consumers and investors and things like that.”
What's Going to Happen to Stablecoins?
Stablecoins are assets whose prices are theoretically pegged to the value of national currencies like the dollar or the euro. Stablecoin issuers such as Tether or Circle guarantee that parity by keeping cash or cash-equivalent asset reserves so that each stablecoin is backed by a unit of the relevant currency, and they commit to redeeming tokens for cash. Over the years there have been insistent questions on whether Tether’s reserves are sufficient and liquid enough to back the more than 60 billion dollar-denominated coins it has issued.
Algorithmic stablecoins, such as the infamous terra-luna, are not backed by any real-world assets, but their value is theoretically kept stable by a system of incentives and algorithmic tweaks. Historically, that never works.
The Lummis-Gillibrand bill—and another bill sponsored by US senator Pat Toomey of Pennsylvania—would require stablecoins to be fully backed by “high quality” assets, add periodical disclosures on the reserves, and demand that stablecoins are always redeemable for legal tender. That means that companies such as Tether would have to provide a more detailed breakdown of the assets making up its reserves—and reverse its current practice of only redeeming tethers into cash for sums of at least $100,000. Algorithmic stablecoins like terra-luna would likely not qualify as stablecoins, given that they have no underlying assets.
The EU’s MiCA Act would require that stablecoin issuers keep a one-to-one ratio between coins and underpinning assets, and ensure sufficient liquidity by not putting their assets in risky or illiquid investments. MiCA also demands that issuers of both traditional stablecoins and what it calls “asset-referenced tokens” (stablecoins backed by a basket of assets and currencies, along the lines of Meta’s now-defunct Diem token) have a presence in the EU, where they would be regulated by the European Banking Authority. Stablecoin issuers would need to either register as e-money providers, or—for asset-referenced tokens—apply for authorization from financial authorities in a European country. To avoid a stablecoin’s popularity threatening the EU’s monetary stability, MiCA also establishes that stablecoins should cap their daily transactions at €200 million ($208 million). “It will be something not dissimilar to the GDPR,” says O’Rorke, referring to the EU’s influential data protection regulation. “If you want your stablecoin to access the European market, you will need to follow the MiCA regulation.”
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In the UK, which is Europe's biggest financial center, the situation is still in flux, but stablecoins appear to be a priority too. The British government is intent on forging a new identity as a buccaneering, business-friendly actor in a post-Brexit world. In a recent speech, economic secretary to the treasury John Glen announced that the government would be bringing stablecoins into the British payment framework and encouraging stablecoin issuers to set up shop in the country.
Will Crypto Exchanges Be Regulated?
Cryptocurrency exchanges have grown into financial behemoths underpinning the global crypto sector, and they are the usual first point of contact for people looking to buy cryptocurrency. At the same time, some of them have come under fire for loose security, financial opacity, and lack of clarity on their corporate structure. Case in point: The world’s largest exchange, Binance, has been banned from operating in the UK and other countries (although it recently secured a digital asset service provider in France) and has evaded questions for years about where it is headquartered.
Both in the US and the EU, lawmakers are planning to introduce rules that would make exchanges more transparent.
The Lummis-Gillibrand bill mirrors some of the provisions put forward in another bill under discussion, the Digital Commodity Exchange Act, allowing crypto exchanges to register with the CFTC. Exchanges would be required to observe standards of consumer protection, prevention of market manipulation, conflict of interest, and information-sharing, and adopt measures to protect customers’ assets in case of bankruptcy. Registering with the CFTC would be voluntary, but it would afford registered exchanges some advantages.
Over in Brussels, MiCA would require exchanges who wish to cater to EU citizens in the EU to have an office in the EU, and be authorized to operate by a member state’s government. If they do not comply with those requirements, exchanges would be forbidden from advertising their services across the EU. MiCA would also introduce stronger customer protection standards for exchanges, besides rules against insider trading and market manipulation, and resource and cybersecurity requirements.
Non-Custodial Wallets Would Still Be Out of Reach
Exchanges and providers of cryptocurrency wallets are already bound by anti-money-laundering and know-your-customer rules in the US and many European countries. The one bit of crypto that remains out of reach is non-custodial, or self-hosted, crypto wallets. These are wallets that are run not by a centralized company but by users themselves, which grants them anonymity.
Non-custodial wallets had their moment in the spotlight last week with the passing of the EU’s new anti-money-laundering regulation, which the EU described as complementary to MiCA. The law deals first and foremost with company-managed “custodial” wallets. It requires that crypto service providers in the EU screen potential customers for red flags (terrorism, money laundering, crime) and that they log the identities of people sending and receiving cryptocurrency on their platforms, according to a “first euro sent” principle—that is, regardless of how much crypto changes hands. That information will have to be stored and provided to law enforcement if needed.
In addition, the law requires the organization managing a wallet to verify that the unhosted wallet also belongs to the user when a custodial wallet user receives more than €1,000 ($1,045) from a non-custodial wallet. In other words, unless a user is self-transferring between their non-custodial and custodial wallets, transactions exceeding the threshold will not be allowed. The norm does not apply to peer-to-peer transactions between two non-custodial wallets—because, how could it? As long as it remains confined to the crypto-verse, anonymity will still be allowed.
Additional reporting by Gilad Edelman.