Does MiCA bring the turning point in crypto regulation?
POSTED ON 28. June 2021 BY David Kruse
The upheaval in the payment behaviour of German consumers
After more than 15 months, COVID-19 as well as the resulting implications still dominate national and international media. The most diverse restrictions in everyday’s life as well as the actual everyday behaviour of Germans have been strongly influenced by ever-new developments. Especially the payment behaviour of the Germans, who are considered a cash-loving nation, has changed enormously. According to the scientific institute of the retail industry (EHI) the German retail sector at the Point-of-Sale has increased in 2020 by 5.6% in cashless payments measured by turnover to reach a share of 56.3%. The same applies to consumer behaviour.
Home office and payment processing
Widespread home offices as a sign of the pandemic-induced (forced) digitisation of the mid-sized sector made online retail grow in all industries and across every segment. Delivery services such as “Flaschenpost”, Flink and Gorilla created supply chains to serve a need that many users were previously unaware they existed. Payment processing here is of course, digital and thus complies with the dogma resounding in stationary retail: “Please pay by card and preferably contactless”. It is also exciting to observe that the user profile of John Doe, who is otherwise considered risk-averse, is increasingly being invested with providers of speculative financial products. Companies such as Trade Republic grew significantly during the crisis and apart from the Gamestop turmoil in February this year, did not make any negative headlines.
Reactions to price fluctuations
Considering the will to progress of the average German, the speed of adaptation of the above-mentioned behaviours can be described as ground-breaking. Despite the fact that this could rather be described as an old hat for many EU member states, another innovation has evolved secretly past the attention radar of many people. In the shadow of the insane price fluctuations of Bitcoin, which were not at least further boost by the entrepreneur and CEO of TESLA Elon Musk, as well as the price explosion (+900%) of the cryptocurrency Dodgecoin, which until then had been described as a fun currency, a regulation of the European Union was announced in September 2020. The aim of the regulation is nothing less than to define a set of rules for the issuing and use of digital money. This regulation, summarised in 168 pages, has caught our attention. For this reason, we want to take a closer look at the so called MiCA.
What exactly is MiCA?
The MiCA Regulation, or Regulation on Markets in Crypto-Assets, has set itself the ambitious goal of regulating the handling of issuers and crypto-assets as well as corresponding service providers at an European level. In that respect, crypto-assets are referred to as the representation of a value that has not been issued by a central bank nor another public body, does not have the status of a legal currency or money, but is accepted as a means of exchange or payment or serves investment purposes. These assets are generally transferred, stored and traded on the basis of the distributed ledger technology. Distributed ledger means that in contrast to the classic, central ledger as the place of documentation/custody, a public, decentralised approach is chosen. Thus, all participants in the distributed ledger can access all relevant records and the technology provides a verifiable history of all stored information. Distributed ledger technology is thus characterised as a digital (decentralised) system for recording transactions or assets.
Against this background, the EU draft published since September can be seen as a European response to national efforts, such as the expansion of the fifth Money Laundering Directive to include wallet providers or the publication of an Electronic Securities Act (eWpG). The control of the adopted regulation is to be carried out by national authorities such as the German BaFin as well as the European Banking Authority (EBA), which in this way mutates into a supervisory authority itself. The regulation pays particular attention to crypto-assets, which are currently not regulated. A close examination of the regulation reveals that, in addition to the general reference to crypto-assets and utility tokens, which grant the holder services or functions but do not create monetary incentives, the primary focus is on asset-referenced tokens, e-money tokens and the service providers that develop services and business models around these tokens.
The term asset-referenced token describes a crypto-asset whose primary purpose is to be used as a medium of exchange and that pretends to maintain a stable value by referencing to the value of multiple fiat currencies, one or more commodities or one or more crypto-assets respectively a combination of such assets. The criteria for such an asset would be met, for example, if the equivalent value of a newly created currency were deposited in gold, silver and euros. A real-life example of such a token is the DAI currency. The DAI coin is a cryptocurrency that represents the equivalent of exactly 1 US dollar. Among experts, this cryptocurrency is called a stablecoin and is always characterised by a stable value, or at least that is the declared goal. In contrast to an asset-referenced token, e-money tokens only focus on a fiat currency. This would be the case, for example, if a digital euro were issued that did not originate from a central bank or a public body. Finally, companies that offer services related to crypto-assets are examined. These services and business models can deal with custody, as well as trading and exchange or financial advice. After various attempts have been made in the past to tame this still almost unregulated economy, the question arises as to why, in addition to the classic speculative investment products, payment-related services are now also being examined more closely.
In recent years, several attempts have been made by privately run companies to create their own currencies and use them across their own ecosystem. Facebook’s plan to issue its own stablecoin can be cited here as an appropriate example in this context. The project, which became known as Libra, envisaged an asset-referenced token based on different currencies and government bonds. The advantages of a self-contained and closed loop system like Facebook, which counted around 1.5 billion users per day in 2019, are obvious. The same applies to the reservations of classic banks and financial institutions, which saw a threat to their various sources of income. The attempt to active euthanasia was rounded off by innovation-averse politics, which tried to slow down the venture through massive resistance. Although it can be argued that money creation and its issuance should be the responsibility of central banks, the harsh approach underlines a clear fact. Once again, tech companies have taken away their share of the market from the existing players through innovation. Despite the fact that the criteria published in September 2020 regarding asset-referenced and e-money tokens abolish a general ban on stablecoins, the same criteria demonstrate the protectionist attitude of the authors. For example, companies that want to create assets to exchange their currency for goods outside their own ecosystem are required to produce a white paper (comparable to a securities prospectus) in which the opportunities and risks are outlined in detail. In addition, the founder must be a natural person and have a registered office in one of the EU member states. This applies from an asset creation of more than 5 million euros in 12 months. When issuing an asset-referenced token, “reserve assets” amounting to 350,000 euros or 2% of the created sum of money must be deposited in addition. The question remains open as to whether these hurdles are in fact exclusively protectionist and promote stagnation or perhaps there is more to it.
A clear argument in favour of protectionism is the fact that the barriers to entry for companies are significant, since in addition to complying with various regulations and applying for a licence, risk and control mechanisms also have to be created and maintained. In this way, companies that have a good concept but not the (financial) backing of an existing player run the risk of never becoming visible on the market.
Advantages of this license
In fairness, it must be emphasised that the planned regulation also has many positive aspects. For example, after obtaining a licence in one EU member state, it is possible to offer the services in other countries as well. This is made possible by so-called EU passporting, which we already know from banking and financial services. Regulations like these and the implications to be derived from them create the potential for European harmonisation and standardisation. As an analogy to the “banking-as-a-service” approach, licensed institutions could offer services that enable third-party providers without a licence to develop and implement business models in this complex industry. A modular crypto-as-a-service infrastructure would foster innovation while protecting consumers. Complementary consumer protection is created through appropriate transparency. For example, Art. 23 et seq. of the MiCA defines that disclosure obligations, the duty to inform clients or also regulations on conflicts of interest are created, which must be complied with by the issuer at all times. This is underlined by the mandatory formulation and review of the white paper mentioned above. Such a verification mechanism would have saved many private small investors from total loss in 2017 at the time of the ICO or Bitcoin bubble.
But what is the conclusion?
The efforts of the legislator make it clear that what was already understood years ago by everyone from FinTech enthusiasts to bankers has finally arrived in the political arena. Crypto-assets, regardless of their form, are here to stay. However, the question of how they will be regulated to “control” their proliferation and protect consumers remains open. As a result, it remains to be seen whether the regulation, hastily cobbled together, is able to define a standard that is adhered to in the EU and can be implemented sustainably or whether this is a similarly incomplete attempt to combat money laundering as with fiscalisation. Certainly, there are still many questions to be answered in this regard. For example, is a stablecoin that consists of 99.5% USD and 0.5% EUR subject to the regulations of an asset referenced token or an e-money token? And does the resulting white paper have to be written and approved by BaFin? Certainly, however, the most important question remains to be clarified. Does Europe want to play a role in this forward-looking financial and technological economy or not? Should this be the case, timely action is necessary that gives young companies the opportunity to bring their products and services to the market without a time-consuming process and puts the need of existing (central) banks to maintain the status quo in the background. Should this not be the case, it is likely that once again a non-European provider will develop the dominant design for a global or European solution and exclude national players from this ecosystem. Fortunately, at least the UEFA will then be able to attract another sponsor for the side-lines alongside Alipay.
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