21 March 2021
UK Regulatory Approach to Cryptoassets and Stablecoins
CryptoUK (CUK) welcomes the opportunity to comment on HM Treasury’s call for evidence on the UK regulatory approach to cryptoassets and stablecoins. The consultation sets out a proposal to bring “stable tokens” used for payments in the UK economy, under a new regulatory regime. The consultation describes what constitutes a stable token that is in scope, what will be regulated and who will conduct the regulatory oversight.
As an emerging asset class, cryptoassets and stablecoins are still in a period of evolution. These new methods of transacting and peer to peer payments, have the potential to improve, and add value and benefit the existing UK and global payment infrastructure.
We at CUK welcome HMT’s measured approach to phasing in regulation, when and if such activities are deemed systemic. This represents a thoughtful balance which we believe will facilitate development of the domestic cryptoasset industry; while protecting consumers, stakeholders and the wider public interest.
CryptoUK is the United Kingdom’s (UK) trade body for the cryptoasset industry. We believe in the transformative potential of digital and cryptoassets and the underlying blockchain technology. We promote accountable self-governance whilst advocating for fit-for-purpose legislation and regulatory frameworks for crypto and digital assets in the UK. We achieve our vision by establishing and fostering productive partnerships between digital and cryptoasset industry participants with legislatures, policymakers, and regulatory agencies to educate and nurture an environment that fosters innovation, job creation and investment.
Below is a collective response to the questions posed by HMT from our 60 members.
1. Do you have views on continuing to use a classification that is broadly consistent with existing guidance issued by UK authorities, supplemented with new categories where needed?
CUK participated in the early call to evidence from the UK Cryptoasset Task Force in 2018 to develop a globally consistent definition and taxonomy for cryptoassets. The industry has significantly evolved over the past few years. However, we feel the three broad categories as detailed below are still relevant.
1. e-money tokens meet the definition of electronic money in the Electronic Money Regulations 2011 (EMRs) – broadly, digital payment instruments that store value, can be redeemed at par value, at any time and offer holders a direct claim on the issuer.
2. Security tokens have characteristics akin to specified investments, like a share or a debt instrument, as set out in UK legislation. Broadly, these are likely to be tokenised, digital forms of traditional securities. As with e-money tokens, these are already within the UK’s regulatory perimeter and therefore subject to FCA regulation.
3. Unregulated tokens are neither e-money tokens nor security tokens and include:
a. utility tokens: tokens used to buy a service, or access a DLT platform – this could, for example, include access to online cloud storage; and
b. exchange tokens: tokens that are primarily used as a means of exchange – this includes widely known cryptoassets such as Bitcoin, Ether and XRP.
However, we would also draw attention to the broader alternative definition referenced in an
earlier HMT consultation. The Cryptoasset Promotions Consultation suggested that a “qualifying cryptoasset” can be any cryptographically secure digital representation of value or contractual rights that uses a form of distributed ledger technology, and which is both transferable and fungible. We refer the reader to the response CUK provided in October 2020. In short, we suggested that this definition was too broad and was a departure from the now well established taxonomy as described in this consultation. We therefore welcome a return to this set of clear definitions as restated above.
The cryptoasset industry is dynamic and therefore requires a flexible and collaborative approach to assessments. The growth in stablecoins, decentralised finance (DeFi) and non fungible tokens (NFT’s) demonstrate this. For example, NFT’s are currently experiencing exponential growth, both in existing cryptoasset market participants as well as new entrants, such as content creators and consumers, who wish to participate in the new ecosystem. Much like how CD’s revolutionised vinyl, then MP3’s revolutionised CD’s, then streaming revolutionised MP3 downloads, NFT’s are revolutionising how we create, market, trade and consume many art forms, or indeed any tangible or intangible asset, that possesses value.
As these asset types continue to evolve, we recommend a flexible approach to evaluating the technological, legal and financial characteristics of the assets before assessing how they may or may not fit within the established taxonomy. Establishing new sub-categories to define these assets may be appropriate.
With this new burgeoning area of cryptoassets comes new challenges, such as illicit activity
intellectual property rights and legal jurisdiction to name a few. Therefore, it is imperative that policy makers engage with industry on a regular basis to ensure they remain informed on development in order to support industry development whilst balancing against consumer harms.
2. Do you have views on the proposed new regulated category of ‘stable tokens’?”
CUK members would like to draw your attention to the following:
a. Futureproof – At present, stablecoins are not being used in the UK economy as a means to purchase goods and services, and therefore today, they present no systemic payment risks. However, we appreciate that a stable token like the proposed stablecoin from the Diem Foundation (formerly known as Libra), could potentially tip the balance. Furthermore, potential stablecoins or tokens issued on a blockchain by other large corporate such as Amazon or Apple could have significantly large user bases, and widespread adoption of These tokens could fulfil the definition of systemic.
We note that what is ‘systemic’ is subjective, and no definition of what HMT would consider to be systemic is provided in the consultation. We would urge the government to develop a clear and definitive definition of what is systemic prior to undertaking any policy development for stablecoins.
b. Private stablecoins versus CBDC – Earlier this year the European Central Bank(ECB) issued an opinion on the proposal for a regulation on Markets in Crypto assets (MiCA), in which they argue that an ECB issued digital EURO or CBDC would be out of scope of the proposed regulation. The UK government has not issued statements or guidance on whether or not the UK would adopt a similar approach for a GBP CBDC. CUK encourages the government to consider how private stablecoins and a GBP CBDC may interact.
c. Taxation treatment – Current HMRC guidance determines that cryptoassets are considered property, not money, for tax purposes. CUK encourages the government to consider that the use of stablecoins used as a means of payment in the UK economy may require separate consideration by HMRC.
CUK suggests that additional guidance as to future approaches to the taxation of stablecoins, if and when they become systemic, would be welcome.
d. Accounting treatment – Unlike the UK tax treatment, cryptoassets are considered
intangible assets in the UK GAAP and IFRS. CUK calls your attention to two issues:
i. First, as stablecoins cannot be considered cash or cash equivalents for financial reporting purposes, there exists a disincentive for corporate treasurers to hold stablecoins. However, stablecoins act very much like cash in the fact they are extremely liquid and in many cases pegged to fiat currencies, thus making valuation very simple.
ii. Second, current accounting standards allow for property, such as land and buildings, to be revalued upwards. However, intellectual property, such as goodwill or brand equity can only ever be impaired. Cryptoassets such as Bitcoin, are considered and taxed as property. In terms of accounting standards, cryptoassets are not considered property – they are considered intangible assets and can never be revalued upwards. The International Accounting Standard IAS38 “Intangible Assets” states that these assets should be impaired and amortised through the profit and loss or income statement. However, one could argue that Bitcoin, as an intangible asset, has an indefinite useful life. Therefore, the standard states that it does not have to be amortised, but is tested annually for impairment and never inflated. Only when an intangible asset is disposed of, the gain or loss on disposal is included in profit or loss. Again this does not fit with other asset classes which are revalued periodically using valuation methods, such as marking to market.
In summary CUK agrees with HMT’s proposal, that the regulated category of stable tokens should be limited to tokens that, due to their limited price volatility, can effectively be used for payment purposes. In contrast, tokens that reference assets that are exposed to high price volatility, and due to that volatility do not lend themselves to be used for payment purposes, should not fall under the same regulatory category.
CUK agrees that the new regime should cover firms issuing stable tokens and firms providing services in relation to them, either directly or indirectly to consumers. CUK also agrees that tokens which could be reliably used for retail or wholesale transactions should be subject to minimum requirements and protection as part of a UK authorisation regime.
3. Do you have views on the government’s proposed objectives and principles for cryptoassets regulation? Do you have views on which should be prioritised, or where there may be tension between them?”
We note that the consultation states that, where a stablecoin plays a similar function to existing payment systems, it may be appropriate for it to be regulated by the Payment Systems Regulator (“PSR”).
CUK considered whether certain tokens may constitute regulated electronic money and fall within the definition of a stable token. We agree it is possible that a stablecoin linked to a single fiat currency could meet the current requirements applicable to e-money. However, it is not clear whether there could be a scenario when a stable token falls under multiple regulatory regimes at the same time. We urge the government to clarify this to avoid scope for arbitrage and confusion for consumers.
In considering the existing Electronic Money Regulation (EMR’s) framework for stable tokens versus the proposed new regime, CUK’s members agreed that the existing framework is not 100% foolproof for managing the risks inherent to stablecoins as a means of payment. However, the consensus of our members believe that the EMR’s would address 80% of the risks. Therefore, our CUK membership proposes that amends could be made to the EMR’s to address the 20% deficit for specific issues and risks related to using stablecoins as a method of payment.
Moreover, the group saw the major difference centred around the fact that holders of issued tokens will be able to fully rely on the payment functionality without necessarily having a claim on the issuer. We do not see a conclusive rationale for forcing issuers of this sub-category of single-fiat tokens to change their product and business proposition and move to a different regulatory category and regime.
CUK identifies potential tension balancing the different objectives of safeguarding financial stability and ensuring market integrity, robust consumer protection, and the promotion of innovation and competition. CUK agrees that there is a need to prioritise the development of regulatory policy for cryptoassets in the UK, and that there may be tension between different frameworks, given that the government so far has attempted to assess regulatory requirements for market activities on a case by case basis.
Whilst our members identify challenges within the EU’s MiCA ‘all encompassing’ approach, one key benefit it may achieve is regulatory clarity – providing prescriptive guidance for the treatment and governance of cryptoassets holistically.
Articulating and committing to a holistic roadmap to evaluate and assess potential regulatory requirements across all areas of market participation could alleviate potential tension across framework development. The case by case approach undertaken today, limits the UK’s ability to equally support competition amongst small and large industry participants. It also constrains industry participants’ ability to confidently build businesses in the UK that are able to effectively trade across the cryptoasset global marketplace. Publishing a runway of future regulatory considerations would enable both the government and industry to identify policy and practical interdependencies and prepare to address these.
4. Do you agree with the approach outlined, in which the regulatory perimeter, objectives and principles are set by the government and HMT, with detailed rules to follow set by the UK’s independent regulators?
In principle, CUK welcomes this approach, understanding that new or amended legislation is time consuming. Given that the cryptoasset industry is exceptionally dynamic, this strategy in theory could enable the independent regulators more flexibility and agility in assessing future regulatory guidance as required.
However, CUK does have questions as to whether this approach will practically benefit the industry and consumers alike. As an example, CUK would like to draw the government’s attention to the current MLR registration process, which has not been functioning as originally planned. Some 200 applications were submitted to the FCA, and still after more than a year, only four applications have been approved. This has caused significant harm to the UK – commercial harm to the cryptoasset industry participants as well as reputational harm to the UK as an innovation centre. Our concerns about the MLR regime are highlighted in detail in CUK’s open letter to the chancellor dated 15 March 2021.
If this approach were to be implemented we strongly urge that the government institute an active oversight and escalation process in the event of ineffectiveness on the part of the regulator, coupled with a mandate for the regulator to address three critical areas which the FCA claim have affected their ability to effectively perform their authorisation and supervisory duties with respect to cryptoassets:
1. a lack of sufficient resources,
2. a lack of technical and commercial knowledge of cryptoassets and market participant business models ( as evidenced following the disbanding of the Cryptoasset Task Force, which in our view, has led to the FCA’s high perceived risks of crypto and illicit activity), and
3. the absence of an escalation process by which the independent regulators would be held accountable to. The current SLA process is not transparent, is open to continual reinterpretation by the regulator and has not proved effective during the MLR registration process.
With respect to allowing independent regulators the powers to issue codes of practice, the FCA created a process for recognising industry codes for unregulated financial markets and activities, known as ‘FCA recognition’ in 2018. As we’ve stated previously, the cryptoasset industry is evolving at pace. We believe that industry will always be in a ‘first-responder’ position in our ability to identify risks and mitigation measures to address them. Independent regulators could hugely benefit from working directly with industry participants. Evidence of successful cooperation exists in jurisdictions like Singapore, where the regulator develops policy in partnership with industry.
CUK is aware of established industry bodies who have made attempts to work with the FCA to make use of this recognition process for crytpoasset industry codes. Unfortunately, to date, the FCA has not taken action on these requests. Further, since the wind down of the Cryptoasset Task Force activities, proactive engagement with industry has also waned significantly with adverse effects to industry participants.
5. What are your views on the extent to which the UK’s approach should align to those inother jurisdictions?”
The UK undertook a coordinated government strategy, investing significant time and expense to establish the UK as a global leader in fintech. The government has again recently highlighted its continued commitment to leading in innovation, reinforced by the recent budget and Kalifa Fintech review. However, with respect to cryptoassets, a now established fintech sub-sector, the UK has fallen behind in establishing an effective, transparent and proactive regulatory regime for cryptoassets.
We encourage the government to reconsider their ‘wait and see’ regulatory approach to cryptoassets and enable the UK to take a leader position within international cryptoasset policy development. CUK members acknowledge that there are benefits to a globally harmonised approach to the regulation of cryptoassets. However, we also identify a significant and material opportunity post Brexit for the UK to be more agile, progressive and balanced in its strategy, thereby creating additional opportunities for economic growth and retention of talent.
Cryptoassets are designed to transcend borders and improve the efficiency of global payments, transactions and financial markets. Post Brexit, the UK is now in a new position to differentiate its capabilities and services. Cryptoassets may enable faster settlement times, cost efficiencies, new use cases to address financial inclusion, and great transparency and accountability. Current settlement times for some traditional payments today can take up to 2 days. This historically was designed to protect against settlement and counterparty risk. However, new technology can solve many of these challenges with the ability to block transactions settled in minutes. For a further discussion please see question 20 to 26.
Members of CUK have raised concerns that replicating legacy approaches which do not appreciate or make use of the inherent technological advancements of blockchain technology might be implemented to reduce risk – for example, entities such as the Depository Trust & Clearing Corporation (DTCC) for post trade settlement of securities and CLS for FX post trade settlement. These private entities were created decades ago and today have a monopoly on the markets they operate in. It is imperative that regulation allows for competition to flourish which ultimately benefits the consumer. We therefore advocate for a fresh approach which leverages the inherent benefits of open source technology.
To avail itself to these opportunities, the UK must overcome the jurisdictional legal and regulatory fragmentation that exists today within its approach to cryptoassets and implement progressive and future-focused cryptoasset regulatory policy.
In a technology based industry with decentralised workforces, it is much easier for market participants to relocate than ever before. The UK risks losing its competitive advantage provided by its legacy as a global treasury centre and world-class innovation hub to Europe and other proactive jurisdictions if it does not act swifty.
CUK members have not identified one specific jurisdiction that the UK should align too. We recognise the various proposals by the United States (US) and European Union (EU), however, we do agree that any of these proposals offer sufficient proportionality to allow the industry to develop. CUK agrees with the approach discussed in the consultation to look to the supranationals for guidance (list here).
6. Do you agree with the government’s assessment of Risks and Opportunities?”
CUK is br oadly in agreement with the government’s assessment of the risks associated with stable tokens. In particular, we agree with the risks identified around financial stability and market integrity, consumer protection, and competition. Further, we agree that when a stablecoin becomes systemically important as a payment method, the activities and participants as discussed in the consultation require appropriate regulation, supervision and oversight. Stablecoins and the related emerging ecosystems, however, appear to us to offer digital payment functionalities that are necessary to meet the challenges of digitalisation.
Privacy is another risk we encourage the government to consider. UK citizens’ right to privacy as it relates to their spending behaviours exists today. Cash preserves anonymity. It is vital that appropriate levels of privacy are maintained within our payments system. Stable token technology has the potential to solve address concerns around privacy, whilst managing risks of anonymity, with the rapidly developing subset of cryptography known as zero knowledge proofs or ZKP’s.
We agree that stable tokens “have the potential to deliver the benefits of DLT such as speed, efficiency and resilience” and “to support financial inclusion and economic growth both domestically and on a cross-border basis”. Below are some of the main benefits the members discussed in addition to those discussed in the consultation.
a. Cryptoassets offer opportunities for financial inclusion and access to financial services for the unbanked or underbanked. Globally, there are an estimated 3.5 billion people who are excluded from the traditional financial system and in the UK, this figure is ~1.3M of the UK adult population of 54 million people – a staggering 2.5%. This is not good enough for a developed country and a pioneer in financial services.
The reasons behind financial exclusion vary, but include:
i. insufficient funds to operate an account (e.g., minimum balance requirements for
traditional banking accounts),
ii. costs of financial services relative to income (excessive fees, overage charges,
iii. physical proximity to traditional banking institutions,
iv. lack of necessary personal ID (passport, driver’s license), and
v. religious reasons.
b. Cryptoassets provide significantly lower transaction costs when transferring funds compared to traditional money transfer services. One key use case for cryptoassets has been in the facilitation of remittance payments. Sending small and very small ‘micro payments’ cross border is very expensive. Traditional money transfer services may charge significant fees for basic money transfers (as high as 10%). The average stablecoin transaction fee costs only a few pence. For individuals making a minimum wage and seeking to support family in emerging economies, this significant reduction in fees permits greater value to be transferred and more wealth to be directed where needed.
c. Cryptoassets and stablecoins offer much faster settlement times via networks which are available 24 hours a day. Transactions can settle within minutes. We acknowledge that the technology has not yet been developed to settle similar volume sizes to traditional payment systems, such as Visa which settle 1700 transactions per second, but there are many projects in the development phase to solve for this.
d. Transparency of costs and charges is greater in cryptoasset transactions. Hidden costs and additional charges which are common in transactions of other online payment methods (such as service fees and intermediary bank transfer charges) are absent in broader cryptoasset transactions.
7. Do you have views on the proposed initial scope of UK cryptoasset regulation as summarised above?
CUK is broadly in agreement with the proposal to first introduce a regulatory regime for stable tokens used as a means of payment, covering firms issuing stablecoins and firms providing services in relation to them, either directly or indirectly to consumers.
As stated previously, we encourage the government to articulate and commit to a holistic roadmap across all cryptoasset market activities to establish a runway of potential regulatory framework development. We believe this is critical to providing the regulatory clarity required for market participants to confidently build their businesses in the UK.
HMT may then consider a ‘phased-in’ approach allowing existing industry participants sufficient time to implement required policies and procedures to transition into new regimes.
8. Do you agree that this approach best balances the government’s stated objectives and principles?
CUK does not have any strong objections to the approach described other than those suggested in earlier questions.
9. Do you agree that the activities and functions outlined above are sufficient to capture the activities that should fall within the scope of Regulation?
Question 10. Do you agree that the government should primarily use existing payments regulations as the basis of the requirements for a new stable token regime, applying enhanced requirements where appropriate on the basis of mitigating relevant risks? What other existing legislation and specific requirements should also be considered?
CUK believes it is important to ensure clear guidance on the classification of the types of stable tokens:
(1) fiat backed, (2) asset backed and (3) algorithmically backed, and how they will each be
CUK agrees that a stablecoin backed by a single fiat currency could be regulated as e-money.
CUK maintains that a stablecoin that is backed by multiple currencies, backed by a commodity or backed by multiple assets, and any stablecoin that is decentralised or algorithmically generated should not be regulated as e-money.
In October 2020 the FSB issued guidance which states that individual jurisdictions should implement and use appropriate powers and tools to supervise and potentially prohibit stablecoin activities. This could cover market participants whose activities and services include: control of stablecoins; provide market infrastructure; issuing and redeeming stablecoins; managing stablecoin reserve assets; custody or trust services; reserve assets; trading and exchanging stablecoins; and storing the keys providing access to stablecoins.
CUK has considered whether stablecoin service providers should be treated in the same manner as similar financial market participants under existing relevant regulations. Any enhanced requirements should be strictly subject to the stated principles of proportionality and ‘same risks, same regulatory outcomes’. Accordingly, new requirements need to be risk based and proportionate, commensurate with the risks that they are meant to mitigate. For example, in this case, applying the FSB guidance would not be fit for purpose or proportionate in line with ensuring competition and innovation, as it requires treating a small technology business the same as an large incumbent financial institution.
11. Do you agree with the high-level requirements outlined? Do you consider that any additional requirements are needed?
CUK agrees with the high-level requirements as outlined in the consultation.
12. Do you have views on whether single-fiat tokens should be required to meet the requirements of e-money under the EMRs, with possible adaptation and additional requirements where needed?
As discussed in the consultation, stablecoins referencing a single fiat currency are most likely to maintain a stable value, and based on legal structure and backing arrangements, and we agree that they may have similar characteristics to e-money, which would be subject to comprehensive regulatory requirements.
We also refer to our response to question 3 above.
13. Do you have views on whether exclusions to the authorisation regime are needed in relation to the stable tokens regime, in light of the government’s objectives? If so, which activities do you think should be excluded?
CUK reiterates our concern with the ambiguous definition of systemic. The consultation discusses proposed ways to quantify what is systemic with regard to users and transaction volume, for example. However, the consultation currently gives no clear values to these metrics. We urge the government to define what metrics they will use to determine when a stablecoins has become systemic.
CUK would object to fiat backed stablecoins which have not met the criteria of systemic being brought into scope as this could harm future development.
14. What are your views on the appropriate classification and treatment of (unbacked) tokens that seek to maintain a stable value through the use of algorithms?
Algorithmic tokens use a stabilisation mechanism that does not use a known reference asset, such as fiat, and therefore a different regulatory regime is appropriate. The business models of fully decentralised protocols do not have a central issuer and cannot adhere to many of the suggested requirements including using regulated insured custodians, for example.
In many cases, the non-fiat collateral is locked into a smart contract which is programmed to
perform certain actions on the basis of a set of transparent criteria. We do not support the
regulation of code.
CUK agrees with the consultation’s proposal to consider algorithmic backed stablecoins as
unbacked and therefore have the same risk profile as payment or exchange tokens, and will be
15. Do you agree Part 5 of the Banking Act should apply to systems that facilitate the transfer of new types of stable tokens?
In keeping with the “same risk, same regulation” principle, CUK believes it is appropriate that a systemic stable token arrangement could be assessed for Bank of England regulation in the same way that current payment systems and service providers are (i.e. when potential disruption could lead to financial stability risks). We reiterate that CUK would object to fiat backed stablecoins which have not met the criteria of systemic being brought into scope as this could harm future development. We further reiterate our recommendation that the government clearly define the metrics by which a stablecoin will be measured against when determining if it is systemic.
16. Do you have views on potentially extending Bank of England regulation of wider service providers in the stable token chain, where systemic?
CUK’s has no contrary views to extending the BOE’s remit to wider market participants when appropriate.
17. Do you agree that Part 5 of FSBRA 2013 should apply to payment systems facilitating the transfer of new types of stable tokens?
First, it is imperative to identify the nature of the stablecoin (fiat, asset backed or algorithmically backed), and whether the transferred stablecoins are issued and used for payments.
CUK agrees that if they are single fiat backed and their transfer is made for paymentpurposes, it would be sensible to apply Part 5 of FSBRA 2013.
18. Do you have views on location and legal entity requirements?
CUK believes that HMT has answered its question in the following statement “the digital,
decentralised and cross-border nature of stable tokens makes it very difficult to regulate”.
A traditional and practical approach would be to regulate entities that seek to do business within UK borders. The current MLR’s require that crypto businesses who operate in the UK must have a UK presence. There are currently close to 200 applications with the FCA.This regime catches a number of the associated market participants.
Within the Banking Act of 2009, payment systems operate on an extraterritorial basis. Therefore, it should be possible to address any related concerns in a more effective and efficient way by global efforts to further harmonise regulation and develop cross-border coordination and cooperation covering all aspects of payments and payment systems regulation and oversight.
However, attempts to dictate where any token should be located or if the location of issuance can even be defined may pose challenges, i.e. is it the location of the programmer or the location of the server? For example, Decentralised autonomous organisations (DAO’s) frameworks would not fit within the traditional construct of an issuer.
The way consumers interact with service providers is fundamentally changing and this is why we advocate for fresh new thinking in these exciting areas.
19. Are there any areas of existing regulation where clarification or amendments are needed to support the use of security tokens?
20. What, specifically, are the potential benefits of the adoption of DLT by FMIs? What could be the benefits for trading, clearing and settlement?
As discussed in question 5, DLT and blockchain offer many potential benefits. Primarily, the technology has the potential to disintermediate the current incumbents, therefore releasing huge financial and time related benefits. This in itself comes with its own concerns in regards to financial stability.
We urge the government to consider how trading exchanges evolved from paper based “pit trading” to electronic trading. These developments help the City of London maintain its status as a leading financial centre. Emerging technology is currently being tested and implemented in other jurisdictions. Reluctance in the UK to embrace new technology solutions could result in London losing this status.
It is evident that financial institutions are already realising the benefits that can be achieved when DLT is introduced to post-trade infrastructure. Extensive work is already being undertaken to develop the infrastructure to underpin DLT adoption by FMI’s such as the project “helvetia” (a partnership between the BIS & SIX using DLT for a CBDC), project Fnality, developing a DLT-based payments architecture, and the work being done by ISDA to develop a Common Domain Model, which is already in use by solutions such as Axoni’s equity derivatives trading and trade processing platform, amongst others.
21. What are the potential drawbacks of DLT for wholesale markets and FMIs?
There is a perception that DLT is a silver bullet that can solve a multitude of inefficiencies, inequities and risks that currently exist. However, there are difficulties in the implementation of successful blockchain projects in existing FMI’s. For example, the Australian Stock Exchange (ASX) has experienced many delays to implementation of the replacement of their existing securities settlement platform (CHESS) with a blockchain solution.
Additionally, technological efficiencies could have an impact on back office jobs within financial institutions.
22. Is UK regulation or legislation fit for purpose in terms of the adoption of DLT in wholesale markets and FMIs in the UK? How can FMI regulation/legislation by optimised for DLT?
23. What are the wider industry incentives or obstacles to the adoption of DLT in wholesale markets and FMIs in the UK?
24. If market coordination is required to deliver the benefits of DLT, what form could it take?
25. Would common standards, for example on interoperability, transparency/confidentiality, security or governance, help drive the uptake of DLT/new technology in financial markets? Where would common standards be most beneficial?
We believe the provision of a common reference data set for digital assets based on open data principles would enable interoperability and transparency for market participants and public authorities. Such a common reference data set will allow stakeholders to uniquely and unambiguously identify the digital asset being referenced (for example to distinguish unambiguously between a trade involving ‘bitcoin’ versus a trade involving ‘bitcoin cash’). We note the existing well established set of financial reference data standards from the International Organization for Standardization (ISO) such as ISIN and LEI and we therefore recommend exploring the use of ISO’s new Digital Token Identifier (ISO 24165 – DTI) to provide a common reference data set for digital assets for market participants and public authorities.
26. What should the UK government and regulators be doing to help facilitate the adoption of DLT/new technology across financial markets/FMIs?
27. Do you see value in the government capturing tokens typically used by retail consumers as a form of speculative investment under the regulatory perimeter in the future?
We note that the FCA issued a wholesale prohibition for retail investors to trade derivatives referencing cryptoassets and ETN’s in January this year. This reduces the potential harms associated with unsophisticated speculation using leverage.
CUK responded to this consultation stating that in our view, allowing retail investors to gain exposure to cryptoassets in the spot market as an investment, whether speculative or not, is similar to the FX spot market, which is not regulated and should therefore remain so – same risk same regulation.
CUK did not agree with the decision to ban cryptoasset derivatives in the UK. We believe a more balanced approach would have been to regulate the activity and the market participants.
28. Do you have any views on how the government should bring these tokens into the regulatory perimeter in the future?
29. What are the risks and opportunities you see in relation to DeFi?
Please see response to question 30.
30. Do you have any evidence of risks to consumers when using tokens as a form of speculative investment or through DeFi that may be of interest to the government and UK authorities?
Given the emerging nature of DeFi, CUK recommends that the UK adopt the following approach with respect to regulation and legislation:
A. Even though we have seen exponential growth in the monetary values locked into DeF protocols over the last 12 months, we recommend the government adopt a wait and see approach to allow the industry to future develop so that material risks can be accurately identified. Of the $44bn global total value currently locked in Defi protocols, the UK exposure is minimal, and therefore should not raise any immediate regulatory concerns. Additionally, the users of these platforms are highly experienced, and must be both highly technologically and crypto savvy to use these platforms.
B. We refer HMT to the law society public consultation on smart contracts published in December 2020. CUK recommends the government carefully consider whether to impose direct liability on smart contract developers and liaise with the law society to ensure a “joined up” approach to this challenge.
C. We urge the government to consider in detail the FATF recommendations, VASP definitions and in particular in respect of the ‘administration of virtual assets or instruments enabling control over virtual assets’. Note additional guidance issued March 21.
D. CUK recommends that the government continue to engage with all relevant stakeholders (developers, lawyers, trade associations, business owners, policy officials in other domestic departments and overseas jurisdictions) to stay up to date on new services and ongoing innovation. We urge the government to consider reinstating regular and ongoing engagement with industry, as was facilitated by the Cryptoasset Task Force.
E. CUK recommends the government undertake detailed research initiatives relating to the development of DeFi operations before assessing any new potential regulatory frameworks or standards. This research should involve the assessment of the technical risks involved, and how these may be adequately assessed and even potentially enforced.
We again thank you for this opportunity to comment on the consultation and hope you find our response helpful. This is a new and technical area and we stand by ready to answer any further questions, and provide such further input as you may desire.