CryptoUK (“CUK”, “we”) and its members welcome the opportunity to comment on the Discussion Paper regarding the proposed approach to stablecoin regulation in the United Kingdom (“UK”). CUK is the UK’s self-regulatory trade association representing the cryptoasset sector. Our members comprise leading companies from across the sector. 

In responding to the Discussion Paper, we set out the views of our members and others in the community. We seek to offer pragmatic and relevant suggestions as to how we believe the Financial Conduct Authority (“FCA”) could implement a new regulatory regime that achieves the intended outcomes, whilst still enabling the UK to remain competitive as a destination for the burgeoning cryptoasset market.

Although we consider the points below in both our general comments for each chapter and in our responses to each question, we have included a summary of our overall position as well as the specific points and recommendations that should be considered alongside our comments and answers throughout this response document.

Overall position 

We believe that the recommendations are generally appropriate, however our comments in this response are subject to detailed draft rules being released.  We have identified a number of specific points within this response where we consider we are not able to give a full response until further information has been provided, and we would also flag that future draft rules may raise additional points which we would want to address at the time.

We would stress our desire to see the FCA take a ‘same risk, same regulation’ approach, i.e. where a digital asset firm faces the same type and level of risk as a traditional finance firm, the level of regulation should be equivalent and should not be any more onerous than that which applies to the traditional finance sector.  This approach is based on the principle of technology neutrality.  We acknowledge that there are of course differences between digital asset firms and traditional finance firms, and agree that any framework cannot be operated on a ‘copy-and-paste’ approach.  Instead, the proposed framework should be closely reviewed to ensure that it is fit for purpose and tailored to be appropriate for stablecoins and the digital ecosystem generally. 

It appears to us that some questions in the Discussion Paper are looking at the appropriate framework for digital assets generally rather than just stablecoins.  We consider that the FCA should focus very tightly in the first instance on the framework for stablecoins, and any feedback that is relevant to the wider digital ecosystem should be considered separately and in detail in due course.

Specific points/recommendations

We have identified a number of areas where there may be a risk of jurisdictional fragmentation.  The FCA should consider, and build into its own framework, the approach taken in other jurisdictions.   Further to this point, we would highlight that any requirements set by the FCA should not restrict the competitiveness of the proposed regime.  In terms of backing assets for example, we  would contrast the proposed regime with the approach taken in Singapore, which recognises and allows a range of currency-backed stablecoins to be used.

Consultation Questions

Chapter 2: A new stablecoin regime

1. Should the proposed regime differentiate between issuers of regulated stablecoins used for wholesale purposes and those used for retail purposes? If so, please explain how?

While we agree that the proposed regime should differentiate between stablecoins used for retail and wholesale purposes (and their corresponding issuers), we believe that the resultant differences in regulatory approach must not be so wide or so onerous as to create, in effect, two parallel or mutually exclusive regimes.  Whilst stablecoins are inherently fungible between retail and wholesale use, we acknowledge the different levels of risk posed to wholesale/institutional users and retail users (particularly given the potential gap in sophistication each may have with regard to the access to stablecoins), and the corresponding differences in protections necessary for each. We therefore agree that the proposed regime should include specific obligations on each type of issuer to ensure consumer protection and proportionality, and that the regime should seek to regulate activity relating to stablecoins, rather than the stablecoin itself.

That being said, a proportionate approach would also recognise and reflect the similarities in use cases between the types of stablecoins. For example, businesses can make use of native interoperability, near-instant settlement time, and the low transaction cost of most public blockchains to improve their processes. This is most evident for businesses that must transact internationally. Taking a company with global suppliers and clients, as of today it can use payment stablecoins for secure, low-cost, borderless international payments. Instead of having to wait days for a cross-border payment to settle, stablecoins can be used to make secure global payments that settle within minutes and cost only a fraction of the price of an international wire transfer. Additionally, because digital currencies are programmable, businesses can engage new, custom-made money flows such as programmatic mass payouts, automatic escrow, and complex trade financing arrangements – all with unprecedented levels of transparency and audit-ability.

Instant payments can reduce counterparty risk and assure more reliable cash flow. Today, many industries suffer from long delays in settlement that stem from out-of-sync international payments systems, communication breakdowns, and other challenges ¹. Delays in payments, and an industry of business financing that compensates for a bloated system, clog up the supply chain and increase the cost of goods to end consumers. 

To the extent that borrowing is payment for liquidity, faster settlement structurally decreases the cost of doing business as businesses no longer need to bridge short term cash flow disruptions.

The accessibility and technological improvements of blockchain-based digital currencies like fully fiat-backed stablecoins also present opportunities for individuals to fully optimise the digital landscape and improve personal financial health. For example, faster access to personal funds will particularly benefit those who may otherwise be limited to high-cost alternatives, such as payday loans. While access to stablecoins may not necessarily improve sporadic loans, it may improve access to income which will reduce stress on the consumer and reduce the consequences of relying on high-cost alternatives. Many low-income consumers who take expensive payday loans have enough money to pay expenses but lack the liquidity to reconcile the exact timing of large expenses like rent with sporadic or delayed income payments. 

Additionally, the borderless nature of stablecoins is important for decreasing the cost of international remittances, a key United Nations goal ². Web3 companies are today working in partnership with traditional financial services companies to address inefficiencies that impact traditional remittance transfers, such as slow delivery and high fees for sending money across borders. For example, today one of the world’s largest money transfer companies enables USDC-denominated remittances on the Stellar blockchain and facilitates cross-border payments and cash-outs for millions of customers worldwide.  Consumers are able to convert their cash into and out of USDC, anywhere in the world, in their local currency, giving them access to fast and affordable services that may have previously been out of reach.

2. Do you agree with our assessment of the type of costs (both direct and indirect) which may materialise as a result of our proposed regime? Are there other types of costs we should consider?

We generally agree on the costs in the assessment made, but believe that the potential impacts that such costs may have on competition need to be considered further. Firstly, we believe that further consideration needs to be given to the potential creation or increases in “hidden” costs arising from more stringent layers of compliance and regulation. For example, from an exchange’s perspective, the European Union’s (“EU”) Markets in Crypto-Assets Regulation (“MiCA”) provisions on redemption (which are to be, in effect, zero-cost and immediate under MiCA) do in reality impact an exchange’s ability to perform operational processes (such as know-your-customer (“KYC”) and enhanced due diligence (“EDD”) procedures), and its corresponding operational expenditure. 

Secondly, we believe that the cost assessment should factor in the choices that smaller or more niche operators may need to take, due to the impact on bottom-line revenues that the regime may cause. In particular, our concern is that there is a high risk of businesses choosing to (i) limit their specific market operations or target customer groups, or (ii) move compliance and/or operational functions to large organisations where these costs are more easily absorbed due to scale. 

Thirdly, the costs associated with stringent capital requirements should be further considered.  Given that capital and prudential requirements are intended to address market, operational and credit risks, the capital requirements should take into account that credit risks are mitigated in relation to stablecoins, since these should be fully backed.  

In summary, we believe that the cost assessments need to fully consider the above issues to avoid inadvertently lowering the level of accessibility for smaller or niche operators, and thus limiting a competitive environment.

3. Do you agree with our assessment above, and throughout this Discussion Paper, that benefits, including cheaper settlement of payment transactions, reduced consumer harm, reduced uncertainty, increased competition, could materialise from regulating fiat-backed stablecoins as a means of payment? Are there other benefits which we have not identified?

We agree that the benefits set out are achievable, though only through the implementation of robust, fit-for-purpose, and consistent regulatory obligations, particularly where they can be/are introduced and applied across multiple jurisdictions.

In addition to the benefits stated in the Discussion Paper, we believe that the potential increase in financial inclusivity (both in the UK and generally) should not be overlooked. Stablecoins have the potential to enhance financial accessibility (and therefore financial literacy) through the very nature of their design, which sit in contrast to the high fees, volatile and unfavourable foreign exchange (“FX”) rates, extended transmission times, and saturation of middlemen in traditional remittance markets. 

Stablecoin-enabled, device-centric blockchain financial services are already expanding access to affordable, digital financial services. FCA research highlights that more than 1.2 million UK adults do not have access to banking services ³. Additionally, around 7.1 million people (around 14% of the adult population) in the UK fall into the definition of “financially excluded,” meaning they could potentially struggle to access affordable and fair financial services ⁴. Not having a bank account can impact how someone is paid their wages, pension, and social benefits, and making payments for everyday bills is increasing in difficulty as more and more cash services in councils, post offices, and neighbourhood bank branches are closing down. 

In addition to the logistical challenges faced by the unbanked, there is also often a price premium. The best rates for utilities, mobile phones, and insurance are reserved for those who sign up to a contract and pay by direct debit. According to a report by Fair by Design and the University of Bristol, the unbanked – who are often those with the lowest incomes – end up paying an extra premium of up to £430 a year for things like electricity, gas, and loans simply because they don’t have a bank account ⁵.

There are many reasons that a person may be unbanked or underbanked. A person may distrust the banking system, or they may be ineligible for a bank account because they are unable to meet the ID requirements set by a bank. This latter problem has been particularly acute for victims of human trafficking, victims of domestic violence, and refugees looking to access banking services after moving to the UK Stablecoins are obtainable and usable without a bank account, making them accessible to UK. adults.  

The economics of the digital assets ecosystem are fundamentally different from traditional systems and enable expanded financial inclusion. Banks make money on credit spread, collecting low-cost deposits while making loans to businesses and households. Because low-balance customers don’t provide deposits and the opportunity for maturity transformation, banks may arguably have less incentive to service low-income households, who are often the under- and unbanked. In contrast, digital asset services are unbundled i.e the functions of custody, payment processing, and lending are separable and conducted by different actors. This reduces overhead costs and allows financial institutions to provide tailored financial services to consumers.

It is the experience of CryptoUK members that while stablecoins are not necessarily more accessible than e-money, a range of factors, such as lack of access to e-money, lack of infrastructure, lack of public awareness and a view of e-money as ‘traditional’ and therefore subject to the same restrictions as fiat, means e-money is arguably viewed as less attractive to consumers than stablecoins.  There is an increasing appetite for access to stablecoins due to the public perception that stablecoins are more closely linked to innovation, technological revolution, and technological democratisation.  Stablecoins are seen as an alternative to CBDCs.

Stablecoins can also help increase access to safe, digital financial services precisely because many digital asset financial institutions are not banks. As stated above, many Britons may choose to be unbanked because they distrust the banking system or are afraid to incur overdraft fees or take on debt they cannot afford. Currently, they can access digital financial services through non-bank digital asset financial institutions. There is an incongruity in the nomenclature of financial inclusion: it is access to digital financial services that is important, not access to bank services. With digital asset services and stablecoins, not only can unbanked and underbanked Britons still access affordable, safe, digital financial services through non-bank means, but these populations may be more likely to adequately meet their needs through non-bank financial services, including those built on digital assets.

An additional benefit not considered within the Discussion Paper is the potential increase in net new economic activity which stablecoins could facilitate in the UK, given the introduction of a new form of payment method will intrinsically create new business models/use cases and transactions related to stablecoins and device-centric payments. Privately-issued digital money has demonstrated that it supports robust economic activity and the conveyance of monetary policy. For example, USDC has enabled over $12 trillion in on-blockchain payments and settlements as of 31 December 2023 ⁶ and the number of USDC wallets with a balance of at least $10 has grown 59% in the last year alone to a total of about 2.7 million ⁷. Empirical and anecdotal evidence makes clear that USDC has evolved into a form of general-purpose money, and this data demonstrates how USDC is generating novel economic activity based on the U.S. dollar. Data today also supports evidence of the decline of stablecoin use for speculative use-cases – of more than 90% – to non-speculative use cases, such as enabling remittances and cross-border payments, reducing frictions in payroll flows, or as a store of value for people who are seeking additional options to diversify their investment portfolio.

If designed and regulated appropriately, a pound-denominated, privately-issued digital currency could bring digital versions of the pound to the UK digital asset economy.

As above, one of the benefits of robust and practical regulation is an increased consumer and industry confidence to use, adopt, and invest in new products and technologies related to stablecoins. While we understand that this may be hard to quantify, we believe more recognition could be given to this benefit generally.

Chapter 3: Backing assets and redemption

General Comment:

Please see our comments in the Overall Position regarding the ‘same risk, same regulation’ approach that we would like to see the FCA adopt.  We would also like the FCA to adopt the approach that promotes the greatest level of flexibility.

4. Do you agree with our proposed approach to regulating stablecoin backing assets? In particular do you agree with limiting acceptable backing assets to government treasury debt instruments (with maturities of one year or less) and short-term cash deposits? If not, why not? Do you envision significant costs from the proposal? If so, please explain.

We agree with the approach generally, and note that it is consistent with the regulatory frameworks introduced/being introduced in other jurisdictions, although we submit that it could benefit from a further analysis and incorporation of MiCA’s approach to the definitions of in-scope financial instruments, for example, the use of repo facilities.  

We would recommend that the limitation of any backing assets should be approached with a high degree of caution and a wider range of backing assets should be permitted.  We would encourage the FCA to endorse a high degree of flexibility in allowing issuers to rely on all standard HQLA management tools that may be beneficial in managing liquidity, credit and duration risk.  Limiting available backing assets to a subset of highly liquid reserve assets widely available in reserve management may have the unintended effect of concentrating risk and increasing the stress in that area of the financial sector.  A higher degree of flexibility in backing assets will increase diversification and reduce the risks facing issuers, and by extension the risks that consumers face by investing into this sector.

We would also note that the proposal places digital assets on a more precarious and onerous footing than equivalent traditional financial products, notwithstanding the overall principle of ‘same risk, same regulation’.

As an additional and specific point of consideration, we also suggest that further detail on the impact on business models be provided at a later stage, particularly on what happens when an issuer becomes systemic (in which case the issuer will need to hold everything with a central bank in any case), as well as what happens in the event that negative interest rates are adopted (as our understanding is that in this current regime issuers will be “on the hook” if 1-to-1 redemptions occur in a negative rate climate, in addition to existing operational costs).

5. Do you consider that a regulated issuer’s backing assets should only be held in the same currency as the denomination of the underlying regulated stablecoin, or are there benefits to allowing partial backing in another currency? What risks may be presented in both business-as-usual or firm failure scenarios if multiple currencies are used?

We consider that there is more work to be done in this space and refer back to our Overall Position comments. We acknowledge however that this approach has the benefit of being in line with the development of regulation in other jurisdictions (thus facilitating easier cross-border transactions and innovation), as well as mitigating risks related to FX fluctuations, controls, and liquidity requirements/reserves. 

We note that allowing partial backing in other currencies may expose both service providers (including issuers) and consumers to additional complexities and risks, such as FX fluctuations, capital controls, settlement risk, and potentially discrepancies in the legal protections for holders. Given that not all service providers or consumers may share this risk appetite, such an approach will likely exclude some service providers from the UK market. 

However, we do also note that under the current financial market infrastructure regime, there exists a contingency plan that allows the use of different settlement assets in exceptional circumstances. We believe that a similar approach of allowing different currencies may be acceptable in order to manage systemic risks and consumer harms in exceptional circumstances. There are currently a number of jurisdictions that take this approach, and have developed proportionate and appropriate risk management frameworks.  The FCA may like to consider these jurisdictions as a means of avoiding jurisdictional fragmentation.

6. Do you agree that regulated stablecoin issuers should be able to retain, for their own benefit, the revenue derived from interest and returns from the backing assets. If not, why not?

We agree that regulated issuers should be able to retain the revenue derived from interest and returns from backing assets for their own benefit. Firstly, these revenues are almost always part of the stablecoin issuer’s business model, and are required to fund the issuers operating costs to comply with prudential and conduct rules. This revenue model also reduces transaction costs passed on to the consumer. Secondly, a consumer who exchanges fiat currency for an entitlement to a stablecoin is not making an investment with the expectation of a financial return. Thirdly, disallowing stablecoin issuers from receiving interest while allowing banks to do so would create an unequal playing field that would be anomalous to the regulatory approaches taken by other countries. Our understanding is that this logic, and subsequently similar legislative approaches, are and have been adopted in other jurisdictions such as the EU and Japan.

7. Do you agree with how the CASS regime could be applied and adapted for safeguarding regulated stablecoin backing assets? If not, why not? In particular:

As a general point and in lieu of viewing the actual draft rules and obligations, we find it difficult to agree with the proposed application of the CASS regime to the safeguarding of regulated stablecoin backing assets. While we agree that the CASS is the right starting point, we do not believe that all of it is applicable, proportionate, or ideal. Further, we believe that the draft rules will require careful consideration and application with regard to the technological considerations specific to stablecoins, which in our view will vary on a case-by-case basis.

i. Are there any practical, technological or legal obstacles to this approach?

As above, we find it difficult to identify specific practical, technological, or legal obstacles as that will depend on both the language of the rules themselves (as and when those are released) and the assets they will apply to.

However, we do note that there is an opportunity in designing the regime to leverage distributed ledger technology (“DLT”). For example, on-chain analysis can supplement the CASS reporting requirements, with the potential to move reporting mechanisms fully on-chain, which can be done instantly if each firm provides the appropriate regulator access to that blockchain. 

In our view, the priority with regard to the application of the CASS regime is that the rules that are eventually implemented are sufficiently flexible and are not tied to specific or prescriptive methods of compliance, such that they can evolve alongside the technology. We believe that this sits well with the “same risk, same regulatory treatment” and technology neutrality outcome the Discussion Paper strives to achieve.

ii. Are there any additional controls that need to be considered?

See above at question 7(i). Through considered integration in any proposed rules and proper implementation, we believe that the use and transparency of DLT may act to enable additional controls. 

iii. Do you agree that once a regulated stablecoin issuer is authorised under our regime, they should back any regulated stablecoins that they mint and own? If not, why not? Are there operational or legal challenges with this approach?

We agree with this approach at a high level, and that where a regulated stablecoin can be and is sent to another party, it should be backed by the issuer. However, we believe that the phrase “mint and owned” needs to be clearly defined.

8. We have outlined two models that we are aware of for how the backing assets of a regulated stablecoin are safeguarded. Please could you explain your thoughts on the following:

i. Should regulated stablecoin issuers be required to appoint an independent custodian to safeguard backing assets?

ii.What are the benefits and risks of this model? 

iii. Are there alternative ways outside of the two models that could create the same, or increased, levels of consumer protection?

We find it difficult to give a definitive answer to this question, as it is unclear in both the Discussion Paper as well as our members’ discussions with the FCA industry roundtables who or what may be considered an “approved” custodian in this context. If no definition or parameters have been established yet, we believe that this could be an opportunity for further harmonisation with MiCA, which requires that backing assets be held in a mix of facilities, such as commercial bank deposits, as well as high-quality liquid assets (“HQLAs”).  

Because it is difficult to understand what is intended by reference to an “approved” custodian, it is also difficult to identify the benefits and risks of this model.  In principle, we support the concept that regulated stablecoin issuers should be required to appoint an independent custodian to safeguard backing assets, however this is conditional on the specific rules and requirements that will be imposed on the approved custodian.

Therefore, at a high level and subject to this caveat, we believe that one of the main sources of risk may arise from claims against the issuer, where the backing assets have been inadequately ring-fenced from the issuer’s own property. There is also a corollary risk that the backing assets may be used by the issuer as part of its own resources. In order to appropriately limit those risks, the use of an independent custodian is important. 

Consequently, we also believe that separating the custody function could potentially prevent conflicts of interests which could arise from the vertical integration of the business, as highlighted in the recent FSB Report. Referring to the risk associated with the independent custodian, the contractual arrangements between the stablecoins issuers and the independent custodians should indicate that the backing assets are protected against claims of the custodians’ creditors (in line with MiCA). 

However, we would like to confirm whether the FCA is considering an alternative under which custodians appropriately regulated within other jurisdictions may be accepted.  This alternative method would be especially useful to overseas participants who are seeking to enter the UK market and are regulated under an equivalent regime in an overseas jurisdiction.

9. Do you agree with our proposed approach towards the redemption of regulated stablecoins? In particular:

i. Do you foresee any operational challenges to providing redemption to any and all holders of regulated stablecoins by the end of the next UK business day? Can you give any examples of situations whether this might this be difficult to deliver?

It is important that the FCA’s expectations here are in line with what the industry can deliver from a practical perspective.  We consider that this is a question that would be more usefully considered when detailed draft rules and guidance has been prepared, since this question requires a high degree of clarity on the FCA’s understanding of operational parameters for digital asset firms.  Our response below should be considered in this light.

Generally, we are against the strict enforcement of such a deadline, as we believe that it is neither proportionate nor practical, and recommend that the FCA reconsider a hard rule on the redemption period and opt for a principle-based standard which takes into account the timing related to fiat banking rails and for the satisfactory completion and verification of all the necessary/requested documents to enable the issuer to complete relevant AML/CTF checks.

In our view, the two main foreseeable operational challenges to providing redemption to any, and all, holders of regulated stablecoins by the end of the next UK business day is that the backing assets become illiquid, temporarily, or the financial infrastructure needed to facilitate payments is interrupted for some period of time. For example, the October 2023 interruption to the Japanese Banks’ Payment Clearing Network has served as a reminder that ICT problems can cause delays with significant impacts. 

Additionally, even where the backing assets are highly liquid, liquidation of such assets still requires some amount of time and is not always instantaneous. Under the proposed requirement in the Discussion Paper, the responsibility is placed on the issuer even where the delay is the fault of an intermediary or the result of normal liquidation processes. We stress that any redemption timeline requirements must allow for exceptional circumstances, and also account for the practical reality with regard to the cascading redemption flow especially when redemption is executed through intermediaries.

Even under normal conditions, direct, timely redemption rights can complicate robust AML/CFT and KYC requirements, which may include redemption requests originating from, or subject to, third-country AML/CFT requirements. In contrast, such a tiered structure (see our further comments below) creates requirements and incentivises intermediaries and service providers to safeguard holder funds and undertake appropriate risk management.  

However, in the event that such a requirement is still implemented, there would need to be further clarity on who may be exempt, and in what circumstances.

ii. Should a regulated issuer be able to outsource, or involve a third party in delivering, any aspect of redemption? If so, please elaborate. 

We agree that a regulated issuer should be able to outsource or involve a third party in delivering any aspect of redemption. We do not see any specific risks that are inherent and exclusive to stablecoins that are not also a feature of other existing financial instrument operations, where outsourcing and third-parties are allowed. For example, an asset manager might be involved in liquidating assets to fund redemptions, a bank might be involved in transferring funds, and an administrative agent might be involved in confirming identities and undertaking AML/CTF checks. There are no aspects that ought to be impossible to outsource or delegate, provided that the regulated issuer is managing the process and retains overall regulatory responsibility. We believe such a prohibition would go against the ‘same risk, same regulatory treatment’ principle. 

Most large stablecoin issuers serve wholesale accounts only and do not directly transact with retail customers at the user level. For example, as the sole issuer of USDC and EURC, Circle offers Circle Accounts only to verified business customers for the purpose of ‘minting’ (creating) and ‘burning’ (redeeming) USDC or EURC, with clear information on the procedures included in the USDC and EURC Terms of Service. Circle conducts minting and burning of its issued stablecoins for all Circle business customers if and when requested. Once fiat deposits are wired into a Circle Account, Circle immediately mints newly-issued USDC or EURC, and the deposited fiat is moved to Circle’s audited reserves held at regulated financial institutions. When Circle customers wish to redeem their stablecoin for fiat, they deposit USDC or EURC into their Circle Account and are refunded the underlying dollar or euro amount immediately. However, the timing of redemption from USDC or EURC to fiat is subject to the speed of applicable banking rails and may take longer in certain jurisdictions.

Today, third-party intermediaries, for example, digital asset exchanges, as a wholesale customer of a stablecoin issuer, provide stablecoins to retail users through the secondary market, and facilitate redemptions. We propose that a critical component of a redemption model that promotes financial stability and consumer protection should include requirements on intermediaries and service providers who onboard and conduct compliance due diligence on stablecoin holders. Such a tiered system would include reasonable requirements on both virtual asset service providers — as well as issuers — to ensure adequate legal protections and timely redemption, and to ensure that retail users are aware of the mechanism for issuing and redeeming stablecoins, the methods for preserving assets to be paid out in case of redemption, the result of external audits regarding the management of such assets, and procedures where a retail exchange may purchase the stablecoin from the user. 

A tiered system also reduces the buildup of systemic risk in the stablecoin issuer. For example, in the event of large-scale redemption, a direct redemption requirement on the issuer would force the issuer to provide redemption to a large number of possible token holders regardless of whether they had been onboarded and screened as a customer. 

Similar tiered-system frameworks currently exist, such as for e-money in the European Union. According to several national transpositions of the E-money Directive, an Electronic Money Institution (“EMI”) can engage a distributor through a contractual arrangement to distribute e-money on its behalf. Holders of e-money obtained from a distributor then have a direct redemption right and claim against these distributors. This model increases competition and consumer choice because users can select from many different e-money distributors instead of being forced to become a customer of the EMI directly. It also reduces operational load and increases operational resiliency of the EMI and the e-money itself by distributing consumer-facing functions across many different entities.

We do not see any benefit or reason, technical or otherwise, for why a regulated issuer should be made to perform all tasks on their own. Further, we believe that the prohibition of outsourcing or the use of third parties will be highly anti-competitive and anti-innovative, as it will prevent all but the largest of players in the cryptoasset market from participating or issuing stablecoins, and will result in an unhealthy and over-consolidated market. We believe that the benefits of a healthy cryptoasset economy and ecosystem are best developed when all parties have equal access to outsourcing and third parties. 

Prohibiting third party involvement reduces and in some cases removes entirely any incentive for new entrants to develop solutions or innovation in relation to a specific niche or stage in the stablecoin process (with a view to then selling the solution to market participants).  In the AML and cybersecurity industry, there are large numbers of non-regulated firms who have provided technological innovations to regulated clients, and prohibiting reliance on third parties would have a material impact on innovation in this sector.  From an operational perspective, not allowing the participation of third parties is more likely to create a single source of failure, which increases the risks faced by regulated firms and imposes high costs and inconvenience in developing a work-around. 

Further to our overarching point of ‘same risk, same regulation’, regulated firms are already subject to a regulatory and compliance framework in relation to their third party providers, and we take the view that this framework should be extended to apply to digital asset firms such as stablecoin issuers (subject to any tailoring required to make the regime appropriate for a digital ecosystem).

iii. Are there any restrictions to redemption, beyond cost-reflective fees, that we should consider allowing? If so, please explain. 

We note that while theoretically it should be possible for every holder to be redeemed at the same time, in practice, it is possible for the liquidity profile of assets to change adversely. In order to avoid a situation occurring whereby the first to redeem are paid at par while later redeemers are exposed to changes in market conditions, it would seem helpful to provide for ’gating’” as in relation to certain investment funds. This would represent a restriction on redemption for a period of time in the interests of the orderly liquidation of backing assets.

Furthermore, in cases where a large-scale redemption(s) poses a direct threat to the liquidity of the reserve assets (below acceptable levels), temporary restrictions can provide time to manage the situation effectively and ensure that the reserves can cover the redemption claims without causing a market panic. We note that the Bank has highlighted previously that in adverse market scenarios, a lack of confidence could “cause a run on the stablecoin (akin to bank runs), involving redemption requests from a large number of coin holders and this, in turn, could overwhelm the issuer’s capacity to redeem the stablecoins, thereby leading to its failure”. 

In cases where there are indications of market manipulation, a temporary suspension might be employed to protect the consumers from a false or misleading impression as to the supply of, demand for or price or value of the asset. Finally, where regulators are pursuing actions such as investigations, we believe that a temporary suspension of redemptions to follow legal requirements would also be helpful.

iv. What costs associated with our proposed redemption policy do you anticipate?

As above with our response to questions 9 (i) and (ii), we believe that there may be disproportionate costs on small to medium sized issuers that have not been considered, in scenarios where third partie service providers and outsourcing is prohibited, and/or where unrealistic or impractical redemption requirements are placed on issuers.

10. What proof of identity, and ownership, requirements should a regulated stablecoin issuer be gathering before executing a redemption request?

As above, while we agree generally with the principle of requiring such documents for the purposes of redemption, we find it difficult to give a definitive or exhaustive answer to this question, as it is unclear to us where the responsibility for managing this process sits with the issuer or the intermediaries, given intermediaries are more likely to have, and be more capable of handling, direct interactions with customers, especially for retail customers. At the moment, given the vague requirements in the Discussion Paper in relation to timescales for redemptions and at what stage this takes effect with regard to KYC, AML, and EDD provisions, we cannot give specific suggestions as to what exact documents or proof should be gathered by regulated issuers.  However, further to our overall point of ‘same risk, same regulation’, there is no fundamental reason as to why the KYC and AML requirements imposed on stablecoin customers should differ from those applicable for other products.

Chapter 4: Other key expectations of stablecoin issuers

General Comment:

Please see our comments in the Overall Position section that relates to the ‘same risk, same regulation’ approach.  We would also encourage the FCA to ensure that any key expectations are fit for purpose and proportionate.

11. Do you agree with our approach to the Consumer Duty applying to regulated stablecoin issuers and custodians. Please explain why.

As a general principle we agree that the Consumer Duty regime should apply to issuers and custodians serving retail clients.  However it is important to note that the Consumer Duty as it currently stands (including the guidance and Handbook requirements) was not prepared in a manner that accommodates stablecoins.  On this basis, before the Consumer Duty can be applied to stablecoins it is necessary to review the current regime and revise any areas that are not currently appropriate or proportionate in respect of stablecoins.  This should be done in consultation with industry participants to ensure that any changes made are well-informed and fully considered.

A key element that should be reflected in the revised Consumer Duty is the distinction between issuers and exchanges and the requirements imposed on each party. For example, there is a risk that where an exchange establishes barriers for redemption (or engages in any other conduct that has the ultimate effect of restricting access), these barriers will be incorrectly attributed to issuers.

12. Do you consider that regulated stablecoins should remain as part of the category of ‘restricted mass marketed investments’ or should they be captured in a tailored category specifically for the purpose of cryptoasset financial promotions? Please explain why.

We consider that regulated stablecoins should not remain as part of the category of ‘restricted mass marketed investments’.  It is not appropriate to treat stablecoins as ‘investment products’ for the purposes of the financial promotions regime, because these products are more properly categorised as units to store value, and will accordingly be used primarily for payment purposes.  By their very nature, stablecoins are designed to not fluctuate/increase in value. 

As described above in question 3, privately-issued stablecoins have demonstrated that they can perform the functions of digital money, support robust economic activity, and support the conveyance of monetary policy. Today, leading payment companies and merchant settlement firms are now using stablecoins to solve real-world pain points, and blockchain-based credit markets are using stablecoins to support real economic activity around the world. Fintechs and neobanks are utilising stablecoins as a means of moving value, and remittance companies and non-governmental organisationsare adding stablecoins to their settlement infrastructure to move value quickly and fairly to people who need it. Equally, traditional banks, capital markets firms, and custodians are utilising stablecoin settlements to innovate their trade, treasury and cash management solutions and grow their businesses.

On this basis, the FCA should consult with the industry to prepare a specific set of financial promotions requirements.  This will ensure that the financial promotions regime for stablecoins is fit-for-purpose, and captures the disclosure of relevant technical and commercial features without being unduly prescriptive and restrictive.  We anticipate that the requirements that apply to stablecoins will be comparable to the requirements in place for peer-to-peer payment systems and products.

By capturing stablecoins in a separate tailored category for the purposes of the financial promotions  regime, it will be easier to distinguish between the categories of users and impose appropriate, distinct obligations.  For example, the disclosure obligations imposed on an issuer should be different and distinct to the disclosure obligations imposed on parties using stablecoins for other purposes, e.g. yield purposes.  Because these different activities represent different types and degrees of risk to the user, different types of disclosures are necessary and appropriate.  Currently the distinction between issuers of stablecoins and users of stablecoins is not clearly reflected in the existing regime (which distinguishes between arrangers and issuers) and should be incorporated.

Chapter 5: Custody requirements

General comment: 

Please see our comments in the Overall Position section that relates to the ‘same risk, same regulation’ approach.  We would also encourage the FCA to ensure that any custody requirements are fit for purpose and proportionate.

13. Should individual client wallet structures be mandated for certain situations or activities (compared to omnibus wallet structures)? Please explain why.

Individual wallets should not be mandatory and the use of omnibus wallets should still be permitted in all scenarios where they are appropriate.  Where the assets being held are fungible, omnibus wallets reduce operational risks and costs, and a blanket prohibition on omnibus wallets would result in operational inefficiencies (the cost of which will be passed onto customers). We note that there is no evidence to suggest that individual segregated accounts are less likely to result in fraud and operational failures than an omnibus client account.

14. Are there additional protections, such as client disclosures, which should be put in place for firms that use omnibus wallet structures? Are different models of wallet structure more or less cost efficient in business-as-usual and firm failure scenarios? Please give details about the cost efficiency in each scenario.

This response is subject to our response to question 13 and has been drafted on the grounds that both structures will be allowed. There are no substantive differences between omnibus and individual wallets from a consumer’s point of view.  Disclosures should be used to highlight risks and differences in risks only. 

We agree that for the purpose of reserve assets, requiring the monthly disclosure of reserve assets is a feasible recommendation. However, we consider that this requirement should not extend to cover custodial services, since this is not feasible or proportionate.

15. Do you consider that we should permit such uses? If so, please give examples of under what circumstances, and on what terms they should be permitted. For example, should we distinguish between entities, activities, or client types in permitting the use of clients’ cryptoassets?

As a general principle we agree that client funds that are held in custody arrangements should not be permitted to be used for other purposes (and we see limited examples of funds being rehypothecated).  However, it is important to consider that there are other scenarios where funds may be re-used for limited purposes without departing from the purpose of the arrangement (for example, access to staking that would take stablecoins outside a custody arrangement).

In these situations, it is important that the customer is made aware from the outset of the arrangement that the funds may be used for other purposes, and it is also important that there is full and clear disclosure to the customer that the customer will no longer retain proprietary interest in the assets.

To manage the risk involved with these arrangements, we would suggest that these arrangements be approved by the FCA on a case-by-case basis, and all parties involved in the process would need to be appropriately authorised.

16. Do you agree with our proposals on minimising the risk of loss or diminution of clients’ cryptoassets? If not, please explain why not? What additional controls would you propose? Do you agree with our proposals on accurate books and records? If not, please explain why not.

We agree that accurate books and record-keeping are critical to establish an evidential link between cryptoassets on-chain and client ownership (and this is especially true in relation to omnibus accounts). However taking into account the nature of stablecoins and other cryptoassets (including the infrastructure that supports these assets) the regulator and government should provide an option that allows these requirements to be met digitally, e.g. an option that provides for on-chain recordkeeping and digital submissions of disclosures.

Statements released by a cryptoasset provider in relation to the audit of an omnibus accounts should be treated as equivalent to a customer statement (provided that the statement discloses its assets held with reserves).  Best practice examples within the industry include the provision of monthly attestations of reserve assets and yearly audits.  We recommend that the guidance and controls setting out appropriate disclosure and record keeping requirements should reflect this cadence of disclosures.

We also agree with the suggestion that “full, uncapped liability” should not attach to custodians in cases of malfunctions, hacks or other losses that are outside the custodian’s control.  In addition, we recommend that any other losses resulting from such causes should be subject to the contractual relationship between the custodian / sub-custodian and its client.

17. Do you agree with our proposals on reconciliation? If not, please explain why not? What technology, systems and controls are needed to ensure compliance with our proposed requirements?

We agree with the proposals on reconciliation. With respect to the requirement for facilities to be ‘topped-up’ by custodians, it is more appropriate to allow custodians to conduct an investigation first before being required to take action.  To the extent that reconciliation of a custodian’s accounts reveals a shortfall, if that shortfall is not due to the failure of the custodian to comply with its legal duties (for example, if there is a malfunction in the network or defalcation by third parties for which the custodian is not liable) then it would be inequitable to require the custodian to ‘top-up’ the account using its own resources.

18. Do you consider that firms providing crypto custody should be permitted to use third parties? If so, please explain what types of third parties should be permitted and any additional risks or opportunities that we should consider when third parties are used.

Firms providing crypto custody should be permitted to use third parties.  Banning or limiting the use of third parties would be disproportionately harmful to the crypto ecosystem, since it would prevent industry participants from accessing necessary third-party services and limit innovation in technology on the part of industry participants who do not offer a full suite of services.  Banning or limiting the ability to rely on third parties would also reduce interoperability and impose considerable costs on firms, which would be passed onto customers.  

We assume that the new ‘critical third parties’ regime may apply to these arrangements, which will provide an additional layer of regulation and protection in respect of cryptoassets.  We anticipate that the definition of ‘third parties’ may include banks or investment firms offering custody services, exchanges that hold clients’ cryptoassets that are pending or as a result of transactions, and specialised service providers that operate within the ecosystem (e.g. cold wallet services).

Please note we would not expect to see exchanges grouped in the same category as sub-custodians.  It is more appropriate, considering the functions provided by exchanges, to categorise them as ‘independent service providers’.  This would allow each category of business to be subject to requirements and regulation that reflect the services that they provide.  We also consider that a custodian or sub-custodian should not become liable for any loss resulting from the action or inaction of an exchange.

19. Do you agree with our proposals on adequate governance and control? If not, please explain why not? What (if any) additional controls are needed to achieve our desired outcomes? What challenges arise and what mitigants would you propose?

Please see our response to question 16 in relation to record-keeping (and specifically the proposed cadence and approach for reporting, and the digital submission of disclosures).

20. Should cryptoasset custodians undertaking multiple services (e.g. brokers, intermediaries) be required to separate custody and other functions into separate legal entities?

We agree that in some instances, requiring cryptoasset custodians to quarantine custody and other functions into separate legal entities may provide investors with an increased degree of protection.  However, considering the practical issues involved in holding and transferring digital assets, this requirement cannot always be met.  

Requiring cryptoasset custodians to set up a convoluted corporate structure may be restrictive and unduly burdensome, especially in cases where firms provide multiple trad-fi services to stablecoin issuers.  Stablecoin issuers also often provide additional Web 3 services such as self-custodial wallets, APIs, or act as custodians.  The requirement to establish separate legal entities for each business line would impose a heavy operational burden and would not necessarily achieve the underlying objectives.  

We would also note that custody of cryptoassets is dealt with in different manners by a number of overseas regimes, some of which provide multiple options or avenues of approach.  There is therefore a high degree of potential regulatory fragmentation for non-GBP denominated stablecoins, which ties back in to our overall comment that the FCA will need to ensure that the regime provides for avenues to recognise overseas regimes that offer equivalent or stronger protections.

Requiring cryptoasset firms to implement and comply with appropriate and proportionate governance and oversight structures would be more effective and cost-efficient, and should therefore be given more priority in a firm’s compliance framework than its corporate structure.

Other alternative approaches that may be appropriate include requiring assets to be held by third-party firms with appropriate authorisations, rather than requiring cryptoasset firms to implement custody frameworks.   These firms already have an appropriate compliance framework in place and are experienced in holding these types of assets. 

21. Are there any practical issues posed by requiring cryptoasset exchanges to operate a separate legal entity for custody-like activities? Specifically, please could you explain your thoughts on the following:

i. Would these issues differ between institutional and retail clients?
ii. What would be the operational and cost impact?
iii. What are the benefits to clients of cryptoasset exchanges prefunding trades? Can these be achieved if there is legal separation of entities?
iv. Would separating custody and exchange functions impact the way clients’ accounts are managed and structured (in omnibus and individual client wallets)?
v. Do you agree that the conflicts of interest we have identified exist? Are there other conflicts of interest we should consider?
vi. Are there alternative ways to ensure the same level of consumer protection?

As set out in the Overall Position and Specific Points/Recommendations sections of this response, we are concerned that this question is very high level and therefore may bring other digital assets (beyond stablecoins) within scope of this question.  Please therefore refer to our Overall Position.

22.What role do you consider that custodians should have in safeguarding client money and redemption? What specific safeguards should be considered?

The FCA should take concerted steps to align reserve and redemption requirements with existing regimes to prevent regulatory fragmentation and ensure consistent global consumer protection standards for token holders. Regulatory requirements for stablecoin issuers should include standards for reserve management and composition. Enshrining legal rights to holders in the event of insolvency of a stablecoin issuer is equally important to a tiered system for redemption rights. Existing regulatory regimes for stablecoins (i.e. EU and Japan) require reserves be held in segregated accounts apart from corporate funds, on behalf of, and for the benefit of, holders. Such backstops can be seen as a final line of defence to preserve holders’ rights in the event that a service or intermediary goes bankrupt or experiences challenges that prevent timely redemption.

In the U.S., while no formal stablecoin regime has yet been adopted, U.S. money transmitter licences currently regulate stablecoin activities as a store of value service, and mandate that the issuer maintains legal title to the stablecoin reserves but do not have an equitable interest in those reserves, unlike a bank or an unregulated financial institution. The stablecoin reserves are assets that belong to the token holders, not the issuer, and they must be wholly held in segregated accounts designated for the benefit of token holders. By law, issuers are not allowed to use the stablecoin reserves for any other purpose – they cannot be fractionalised or lent out, borrowed against, or used to cover the firm’s operating costs.

Chapter 6: Organisational Requirements

General comment: 

Please see our comments in the Overall Position section that relates to the ‘same risk, same regulation’ approach.  We would also encourage the FCA to ensure that any organisational requirements are fit for purpose and proportionate.

23. Do you agree that our existing high-level systems and controls requirements (in SYSC) should apply to the stablecoin sector? Are there any areas where more specific rules or guidance would be appropriate?

The existing requirements in SYSC may be applied to the stablecoin sector but the implementation must be done in a manner that maintains technological neutrality while still addressing the operational differences between digital asset firms and traditional financial service providers.  The FCA will need to actively consider how it will interpret the existing Rules, and should release guidance to stablecoin firms in advance to allow these bodies to ensure compliance with the incoming regime. 

For example, a fully fiat-reserve backed stablecoin issuer may undertake treasury and reserve management operations in alternative ways to traditional financial institutions, or conduct unique compliance controls that mitigate risk in ways unique to an open-source blockchain environment.  These approaches may be fit for purpose while not aligning with the FCA’s current supervisory metrics, especially where digital asset entities rely on information made publicly available on the blockchain in situations where the entity does not have any relationships with the bodies that publish that information. 

The FCA and government should circulate regulatory guidelines that require third-parties to develop consumer-facing materials informing retail users about the timing and procedures for the transference of stablecoins, based on the blockchain network employed.

24. Do you agree with our proposal to apply our operational resilience requirements (SYSC 15A) to regulated stablecoin issuers and custodians? In particular:

i. Can you see how you might apply the operational resilience framework described to your existing business (e.g. considering your important business services and managing continuity)? Please set out any difficulties with doing this. 

CryptoUK agrees with the importance of applying accountability mechanisms to novel payments entities. These efforts will make new and existing firms more transparent and more accountable to consumers and the wider public, and ensure robust and resilient financial services firms and  UK financial system stability.

Equally, we encourage the FCA to carefully consider the fundamental differences between traditional payment flows and digital assets circulating on public blockchains. Rules built for closed consortia are not appropriate for peer-to-peer networks built with the express purpose of removing financial intermediaries prone to failure. For example, public blockchains validate transactions based on open-source cryptographic rules. When an Ethereum user pays a merchant with USDC, the transaction is broadcast directly to the network as a whole instead of being routed through a dedicated payment service provider. This differs from traditional payments networks which generally consist of proprietary software and closely related financial institutions. In the latter case, it is appropriate to supervise third-party service providers and intermediaries such as central securities depositories.

For a blockchain-based firm, however, such a function would be unwieldy due to the fundamental difference in network structure. To adequately supervise public blockchain payments infrastructure, it may be more appropriate and effective to review the open-source code for networks, as well as the historical performance of networks on which stablecoins circulate.

Lessons for how to regulate stablecoin issuers in the unlikely event of a failure also holds lessons for how to regulate stablecoin issuers in general. Stablecoin issuers on their own do not function as an inter-bank payment system, CSD, or third party service provider. Numerous market participants make up a dynamic and complex ecosystem of firms servicing various functions of a complete payments architecture. The financial stability and consumer-facing risks of a payment stablecoin issuer may differ greatly from that of a traditional FMI. Likewise, the risks of a payment stablecoin issuer differ from other digital assets service providers, such as digital wallets and digital asset marketplaces.

Technical complexity and a recalibration of risk assessments are probably the greatest risk of widespread use of stablecoins in the real economy. Public blockchains are technically complex, and use of stablecoins will likely require new processes, controls, and training, rather than an application of the existing SYSC guidelines. This risk could be reduced through conduct-focused regulatory measures and risk assessment guidelines specifically tailored to open-source blockchain technology infrastructure.

Public blockchains and open-source technologies are reshaping how the global financial and economic system operates, and stablecoins are foundational to this new architecture. Public blockchains, as well as the products and services built atop them, are built to standards. These standards enable native interoperability – essentially seamless integration of new assets into existing networks. For example, a consumer may adopt an Ethereum wallet because they wish to send or receive its native token, Ether. However, USDC also operates on the Ethereum network, so the consumer can also send and receive USDC without any additional steps or software and hardware add-ons. This contrasts with the existing state of traditional payments where every asset circulates on a proprietary network. For example, a business may use faster payments to regularly send and receive money. However, when they wish to send or receive an international wire transfer they must adopt and interact with an entirely different process and counterparties.

Additionally, risk-sensitive industries such as banking and insurance will need to fully understand and adjust risk ratings for crypto-native business processes. This entails coming to grips with the risks and benefits of public blockchains. While the risk of loss may exist due to a bug or error, the transparency of public blockchains may aid risk ratings in other ways. Risk assessments must adapt to the new technical structure of blockchain-based finance.

ii. What approach do you take when assessing third party-providers for your own internal risk management (such as responding to, testing and managing potential disruption)?
iii. Are there any minimum standards for cyber security that firms should be encouraged to adopt? Please explain why.

We consider that digital asset firms should be subject to the same outsourcing requirements and frameworks as traditional finance firms.

25. Do you agree with our proposal to use our existing financial crime framework for regulated stablecoin issuers and custodians? Do you think we should consider any additional requirements? If so, please explain why.

We agree that the FCA’s existing financial crime framework would be appropriate for regulated stablecoin issuers and custodians.  However please see our comments earlier in this response, relating to specific considerations around custody.

26. Do you agree with our proposal to apply our existing Senior Managers and Certification Regime to regulated stablecoin issuers and custodians? In particular:

i. Should we apply the current SMR and requirements to issuers and custodians of regulated stablecoins? Are there additional SMFs or requirements needed to capture the nature of regulated stablecoin business services?

The provisions and expectations in a SMR regime should apply to financial firms that are supervised by the BoE or the FCA. 

Application of this regime would not be appropriate for ‘authorised’ stablecoin issuers operating offshore, who will be subject to the rules and regulations of their home regulator. Deferring to arrangements in the home jurisdiction, and implementing a regular FCA audit to ensure that these requirements remain in place, is likely to be the better approach.

ii. Should we create additional criteria to determine when the ‘enhanced category’ of the regime should apply to regulated stablecoin issuers and custodians?

Please see our response to question 26 iii.

iii. Should we apply the current certification functions and requirements to regulated stablecoin issuers and custodians? Are there any additional functions needed to capture the nature of regulated stablecoin issuers and custodians business services?

The SMCR will need to be reviewed to ensure that it is fit for purpose, can be applied in a proportionate and appropriate manner across jurisdictions (i.e. overseas firms who are operating in the UK are not subject to onerous regulatory requirements) and that the roles that exist in and are necessary for digital asset firms are recognised in the framework.  There are a number of parallels and points of similarity between digital asset firms and traditional finance firms which should be recognised, however there are a number of points of distinction.  The current SMCR recognises that not all functions are relevant for all firms, and we expect that this principle will be applied to digital asset firms in a manner that is technologically agnostic.

iv. Do you agree that we should apply the existing Conduct Rules to regulated stablecoin issuers and custodians?

In addition to our response to question 23, we are of the opinion that the FCA should consider tailoring the SMCR to ensure that it is appropriate for crypto and fintech firms.  The current scope of roles in the SMCR is not appropriate for  certain crypto and fintech firms and applying a ‘copy-and-paste’ approach to including crypto and fintech firms within the scope of the regime would be inappropriate, onerous, and in some cases impossible to comply with.  

It is also important that the FCA ensures its representatives who engage with fintech and crypto industry participants have sufficient knowledge and expertise to be able to make well-informed and appropriate judgement calls.  There is a risk that the FCA may superimpose their expectations arising from traditional financial services providers onto fintech and crypto firms in a manner that is not appropriate or correct.  For example, a number of cryptoasset firms reported experiencing friction during the process of registering for the Money Laundering regime due to the FCA not fully understanding how some of their relevant functions worked. Instead, the FCA’s expectation was that firms would implement processes and procedures that were identical to those implemented in traditional finance situations as opposed to implementing processes and procedures that were equivalent while remaining appropriate for the relevant applicant.  The current regime may not be fit for purpose in its entirely for digital asset firms.

A relevant example is in relation to the SYSC regime – it is important that the FCA acknowledge that the competencies and skills/experience of the compliance officer of a blockchain firm will differ from those of a compliance officer in a bank.

Chapter 7: Conduct of business and consumer redress

General comment: 

We have addressed a number of these requirements earlier in this response.

27. Do you agree with our consideration to apply our Principles for Businesses and other high-level standards to regulated stablecoin issuers and custodians? Are there any particular areas you think we should apply detailed rules regarding information to (other than those for backing assets set out in Chapter 3)?

Please see our response to question 24.

28. Do you consider that we should design more specific conduct of business rules to regulated stablecoins issuers and custodians? In particular what approach should we take to applying rules on inducements and conflicts of interest management to regulated stablecoin issuers and custodians?

Please see our response to question 24.

29. Do you agree that the dispute resolution mechanisms provided in traditional financial services (i.e. the application of the DISP sourcebook and access to the Ombudsman Service) should be applied to the business of regulated stablecoin issuers and custodians? Have you identified any gaps or issues in relation to dispute resolution? Please explain.

We agree that the dispute resolution mechanisms provided in traditional financial services should be applied to the business of regulated stablecoin issuers and custodians, however it is important that the representatives of dispute resolution bodies have the appropriate knowledge in relation to stablecoins and cryptocurrency to make well-informed and fair decisions.

Complaints in relation to stablecoins (and digital assets generally) may engage the rules in DISP 1.7 (i.e. the requirement to forward complaints, including where the complaint has been made to the wrong party) Due to the complex nature of a digital business model it may be difficult for consumers to distinguish correctly between, for example, an issuer versus a custodian.  This may become more complex still once more digital asset activities become regulated.  On this ground, it would be helpful for the FCA to clearly communicate its expectations in relation to complaints made about overseas issuers, custodians and exchanges, and the rights that consumers will have in relation to overseas parties.

30.Do you agree that the FCA should not be proposing to extend FSCS cover to the regulated activities of issuing and custody of fiat-backed stablecoins? If you do not agree, please explain the circumstances in which you believe FSCS protection should be available.

We believe it is appropriate for FSCS cover to extend to regulated activities of issuing and custody of fiat-backed stablecoins, on the grounds that the same regulation should warrant the same level of protection.  However, this is subject to a review of the proposed detailed rules and provisions, including provisions addressing how the cost of this will be covered, and a consideration of whether this will deter organisations who wish to operate in the retail space.  In short, further information and guidance is required on this point.

Chapter 8: Prudential requirements 

General comment:

Please see our response below for our general comments on this Chapter.

31. Do you agree with our proposed prudential requirements for regulated stablecoin issuers and custodians? In particular, do you agree with our proposals on any of the following areas:

i. Capital requirements and quality of capital
ii. Liquidity requirements and eligible liquid assets
iii. Group risk
iv. Concentration risk
v. Internal risk management

Currently the proposed prudential requirements are unclear and confusing.  Due to the lack of transparency it is difficult to reach a view on whether these are appropriate for regulated stablecoin issuers and custodians.  However at a high level, we note that the purpose of prudential requirements is to address operational, credit and market risks.  Credit risk arising from stablecoins is mitigated through backing assets, and this should be taken into account when formulating prudential requirements for stablecoin issuers and custodians.  We consider that there are a number of discrepancies in the proposed approach, which we are happy to provide further details on if the FCA wishes to discuss.

Chapter 9: Managing stablecoin firm failure
General Comment:

We have addressed the issues we envision arising from stablecoin firm failures earlier in this response – please see the questions below for specific references.

32. Do you agree with applying the existing CASS rules on post-failure treatment of custody assets to regulated stablecoin issuers and other firms holding backing assets for regulated stablecoins, as well as CASS pooling events? If not, why not? Are there any alternative approaches that should be considered? If so, please explain.

Please refer to our responses to question 8, the Chapter 5 questions and questions 23 and 24.

33. Do you agree with our thinking on how the CASS rules can be adapted for returning regulated stablecoin backing assets in the event of a firm failure or solvent wind-down? If not, why not? Do you foresee the need for additional protections to ensure prompt return of backing assets to consumers or otherwise reduce harm in firm failure (e.g. strengthening wind-down arrangements, a bespoke resolution regime)? If so, please explain.

Please refer to our response to question 7.

34. Do you agree with the proposed overall approach for post-failure trading? If not, is there anything else that should be considered to make the approach more effective? If so, please explain. Are there any arrangements that could avoid distribution of backing assets in the event an issuer fails and enters insolvency proceedings?

Please refer to our responses to question 5 as well as the Chapter 5 questions.

35. What challenges arise when stablecoins are returned to consumers, particularly with respect to their entitlements? Do you foresee the need for additional protections to facilitate the prompt return of regulated stablecoins to consumers or otherwise reduce harm in firm failure (e.g. introducing distribution rules within CASS for cryptoassets, strengthening wind-down arrangements, or a bespoke resolution regime)? If so, please explain.

Please refer to our responses to question 5 as well as the Chapter 5 questions.

Chapter 10: Regulating payments using stablecoins

General comment: 

We have addressed the issues we envision arising from regulating payments using stablecoins earlier in this response – please see the questions below for specific references.

36. Do you agree that this approach to integrating PSR safeguarding requirements and custody requirements will secure an adequate degree of protection for users of stablecoin payment services?

Please refer to our responses to question 8, the Chapter 5 questions and questions 23 and 24.

37. Do you agree that the custody requirements set out in chapter 5 should apply to custody services which may be provided by payment arrangers as part of pure stablecoin payment services?

Please refer to our responses to question 8, the Chapter 5 questions and questions 23 and 24.

38. Are there additional risks or opportunities, not considered above, of different stablecoin payment models that our regulation of payment arrangers should seek to tackle or harness?

Please refer to our responses to question 8, the Chapter 5 questions and questions 23 and 24.

Chapter 11: Overseas stablecoins used for payment in the UK

General comment: 

Please see our comments in the Overall Position section that relates to the approach to equivalent international regimes.

39. What are the potential risks and benefits of the Treasury’s proposal to allow overseas stablecoins to be used for payments in the UK? What are the costs for payment arrangers and is the business model viable? 

Stablecoins are shifting away from speculative activities and they continue to gain traction as a utility for real-world value transfers such as cross-border payments, emergency and humanitarian relief, and remittances. The adoption of stablecoins for general use in real-time gross settlements could potentially mitigate risks associated with concentration and liquidity in the current payment systems.

As UK consumers increasingly interact with non-GBP stablecoins issued in other jurisdictions, calibrating the scope of regulation to enable these assets to be used safely and securely will be crucial to the UK’s jurisdictional economic competitiveness. Ensuring that FCA’s framework enables overseas stablecoins to be used within the UK for all of the rapidly expanding use cases will enable residents to derive benefits from those issuers who are properly regulated off-shore. By contrast, limiting the full benefits that UK users are able to obtain from the speed and cost savings of the most commonly used stablecoins abroad may instead expose them to increased prudential, legal, and AML/CTF risk.

A UK stablecoin regulatory structure should accommodate requirements for legacy payment systems. The utility of stablecoins transcends the market activity of purchasing other virtual tokens or speculative trading.

40. What are the barriers to assessing overseas stablecoins to equivalent standards as regulated stablecoins? Under what circumstances should payment arrangers be liable for overseas stablecoins that fail to meet the FCA standards after approval, or in the case where the approval was based on false or incomplete information provided by the issuer or a third party?

Jurisdictions globally are considering how to address potential regulatory equivalence and/or regulatory reciprocity for global (overseas) stablecoin issuers. Proposals have considered undertaking ‘consultation with home regulators’ to assess the financial soundness and overall internal control environment of the issuer, and whether the home regulator has any concern about the issuers extending its stablecoin and related activities into the country. 

CryptoUK proposes that ‘look through’ reciprocity with existing licences should be considered if the relevant regime is equivalent in scope or exceeds the UK’s requirements for its regulated stablecoin issuers. This would provide regulatory harmonisation, interoperability and burden sharing across jurisdictions and regulatory authorities while maintaining appropriate regulatory control. For example, Japan’s stablecoin regulation permits foreign-issued stablecoins to be distributed in Japan provided that the Financial Services Authority of Japan deems the foreign-issued stablecoin are subject to an equivalent banking or money transmission framework in its home country.

While there is scope for the UK to take a similar approach, certain specific elements will need to be provided for or excluded entirely.  For example, we believe that applying the SMCR regime to a firm based entirely overseas would be disproportionate and difficult to implement in practice. Deferring to arrangements in the home jurisdiction, and implementing a regular FCA audit that these requirements remain in place, is likely to be the better approach.

Reference List

1. Carriers and Shippers Ready for a Payments ‘Overhaul’, PYMNTS, August 25, 2022
2. “UN Calls for Better Remittance Services at Lower Cost”, VOA News, June 16, 2021
3.  Financial Lives 2020 survey: the impact of coronavirus, Financial Conduct Authority, February 11, 2021
4. Ibid
5. The cost of living and levelling up: Why the Poverty Premium matters for local economies, Fair by Design and the University of Bristol, 22 June 2022
6. State of the USDC Economy report, Circle, January 2024
7. Ibid