Crypto regulatory affairs: Hong Kong regulator releases blueprint for new crypto framework

Hong Kong’s regulator has released a blueprint for a new crypto framework

On 12 January 2022, the Hong Kong Monetary Authority (HKMA) published a discussion paper on the cryptocurrency. Later this year, a law will be presented there that will regulate business in that area. Initially, the regime will only apply to cryptoasset exchanges, while custodians and wallet providers will be included at a later stage. The HKMA document outlines considerations for expanding the scope of Hong Kong’s regulatory framework, and in particular how it should regulate stablecoins.

Since the HKMA is responsible for the licensing and supervision of stored value facilities (SVFs), it considers whether stablecoins fall under this definition. If this is the case, SVF will be subject to the compulsory licensing regime of the HKMA.

However, the decentralized nature of cryptoassets – including stablecoins – means that individual activities carried out by businesses cannot be considered SVF, while the ecosystem as a whole is likely to resemble it.

For unbacked stablecoins, the HKMA considers it necessary to introduce additional investor protection measures for companies offering related services. It is in the process of establishing supervisory expectations with the Securities and Futures Commission (SFC).

Due to the increasing prevalence of stablecoins and the perception that they may become more widely used, the HKMA may expand the scope of the Payment Systems and Stored Value Facilities Regulation (PSSVFO) or introduce new regulation. Key takeaways from the conceptual framework include:

• Type of stablecoins to regulate: Focus on asset-linked stablecoins first, not algorithmic stablecoins.

• Activities to be regulated:

• issuance of stablecoins, management of stablecoin reserves;

• transaction validation and record keeping;

• private key storage;

• facilitating the purchase of stable coins for other assets (exchange);

• transfer of funds;

• execution of transactions.

• Regulatory regime: The HKMA plans to operate the license regime using a risk-based approach. The business will need to demonstrate compliance with:

• prudential requirements;

• appropriate management and ownership structure;

• maintenance and management of reserves of supporting assets;

• appropriate risk management;

• Requirements for AML/CFT;

• redemption requests;

• financial reporting and disclosure;

• safety, efficiency and security requirements;

• Settlement finality.

• Scope of Obligors: To carry out any of the above activities in Hong Kong, businesses will need to be incorporated in the jurisdiction and hold a license issued by the HKMA. The regulator adds that “a mere branch or office of a foreign corporation in Hong Kong is deemed not to meet the requirements of an ‘entity incorporated in Hong Kong'”.

• Regulation of other cryptoassets: their risks will continue to be monitored. In May 2021, the government announced that its anti-money laundering law would be extended to certain crypto-asset businesses.

The public is invited to provide feedback on the proposed framework to the HKMA on or before 31 March 2022. The government aims to introduce its new regime by 2024 at the latest.

In setting out this proposed framework, the HKMA is closely following the measures recently proposed in the US by the President’s Task Force on Financial Markets, which it recommended in November report that the US should limit activities related to stablecoins to insured depository institutions or banks.

The HKMA’s proposed approach – as well as the recommendation by US regulators – reflects growing concerns that stablecoins could pose a systemic risk to the wider financial sector and should therefore be subject to rigorous compliance requirements. While such an approach would certainly raise the bar in terms of compliance rules that stablecoin issuers would have to adhere to, these attempts to limit stablecoin activities to banks could hinder innovation by creating barriers to entry for non-bank institutions.

Whichever approach is ultimately adopted, firms looking to engage in stablecoin activities will need to closely monitor developments in Hong Kong and elsewhere. To learn more about how your business can prepare to comply with Hong Kong’s existing and upcoming regulatory requirements, contact us.

UK policymakers are ready to expand crypto laws

UK Members of Parliament (MPs) will allegedly to double crypto regulation this year. MPs are particularly concerned about the promotion of cryptoassets to consumers ranging from fan tokens to NFTs. This development comes a week after the launch All Party Parliamentary Group on Crypto and Digital Assets. This forum will facilitate a private-public debate on crypto policy issues, and Elliptic will participate in it as an advisory board member. While anti-money laundering laws are in place for cryptoassets in the UK, lawmakers want to expand oversight to consumer protection and other areas. Conservative MP Richard Holden called for greater clarity on the classification of these different assets and the associated regulatory requirements. Several regulators also agreed on the need to create a framework for the promotion of cryptoassets.

The US Government Accountability Office released a report on suspicious activities in crypto

US Government Accountability Office (GAO) published a report on federal efforts to fight financial crime in virtual currencies. The GAO suspects that the use of virtual currency in human and drug trafficking is increasing. The number of suspicious activity reports filed with the Financial Crimes Enforcement Network (FinCEN) involving virtual currency and drug trafficking increased fivefold – from 252 to nearly 1,432 – from 2017 to 2020. The number of applications for human trafficking almost doubled from 36 to 68 compared to the same period. However, the report highlights inconsistencies in data collection methods across federal agencies.

Virtual currency kiosks – commonly referred to as “crypto ATMs” – were identified in the report as a potential gateway for criminals to use crypto to launder their funds. Virtual currency kiosks must register with FinCEN, but are not required to update their locations, which can slow down law enforcement investigations.

Two of the nine recommendations made by GAO are published in this version of the report. The first recommendation addresses the Money Services Business (MSB) registration requirements set forth by the Internal Revenue Service (IRS) for virtual currency kiosks. The GAO suggests that Kiosk operators should “submit the locations, including physical addresses, of the kiosks they own or operate upon MSB registration and update this information upon re-registration or at other appropriate intervals“. The second recommendation relates to the implementation of the first – after a joint review by the Commissioner of the Internal Revenue Service and the Director of FinCEN.

Elliptic provides crypto ATMs and law enforcement agencies with real-time transaction monitoring solutions to limit illicit activities on the blockchain. Learn more about our solutions at our website.

Fed Chairman Shares Work on Crypto in Senate Confirmation Hearing

On January 11, 2022, US Federal Reserve (Fed) Chairman Jerome Powell appeared before the Senate Banking Committee for a confirmation hearing on his nomination for a second term. This event was provided by a a brief overview the Fed’s position on a number of issues related to crypto policy. Powell told the Committee that the Fed’s report on central bank digital currencies (CBDC) – originally due in September 2021 – will be released in a few weeks. The chairman also clarified that regulated privately issued stablecoins can co-exist with a CBDC.

Iranian authorities have reached an agreement on an international trading mechanism for crypto-asset payments

The Central Bank of Iran (CBI) and the Ministry of Commerce have reached an agreement to connect cryptoasset transactions from businesses to the CBI payment platform. According to local newspapers, this payment mechanism will be ready by the end of the month. Alireza Peyman-Pak – Iran’s Deputy Minister of Industry, Mining and Trade – said it will support the use of cryptocurrencies in international trade agreements. Like Elliptical the research showedIran has previously sought activities such as cryptocurrency mining to evade US and international sanctions. This latest announcement suggests that Iran is redoubling its efforts to evade sanctions by using cryptocurrencies.

To learn more about how our real-time wallet and transaction monitoring solution can limit your exposure to sanctioned entities, schedule a demo. You can also read Elliptic’s a guide to compliance with sanctions for practical advice on dealing with these risks.