Regulating cyptoassets: FCA’s next step towards promoting innovation
07 February 2019
On 23 January 2019, the FCA published its first consultation paper (CP) titled guidance on cryptoassets. The PwC licensing team supports and welcomes the FCA’s initiative and finds it encouraging that there will be further consultations and guidance in this space. It shows that the UK regulator recognises the growing importance of cryptoassets and is focussed on encouraging a regulated cryptoasset industry that benefits customers without harming the market integrity.
Intended to clarify regulation for cryptoassets, the starting point of this CP was the work done by the UK Cryptoassets Taskforce, which classified these assets into three categories - securities, utility and exchange tokens. Security tokens behave like traditional securities, where the token holders would have contractual entitlement to profit-share, revenues and ownership. Utility tokens grant token holders access to current or future products and services but not the contractual rights offered by security tokens. The third category is exchange tokens, not issued or backed by a central authority and used to buy and sell goods without the traditional intermediaries such as central and commercial banks.
Until this point, there was no clear public policy in the UK for firms to assess whether they need permission for the activities they carry out in this space. To that extent, this publication does shed light; for example, firms dealing with security tokens, be it for trading, exchange, custodian, advisory or any other intermediary, need to be authorised. These tokens exhibit similar characteristics to traditional securities and therefore, fall under the ‘specified investment’ category of the Regulated Activities Order (RAO) and likely constitute ‘Financial Instruments’ under MiFID.
On the other hand, utility and exchange tokens do not strictly fall under the perimeter, although there are exceptions. For example, where utility tokens exhibit characteristics similar to security tokens, firms need permission to deal with them. Exchange tokens do not necessarily constitute e-money because they are neither issued centrally, nor represent a claim against the issuer. However, if these tokens exhibit any of these characteristics, they could fall under the perimeter.
Increasing competition and reducing barriers to entry is a key objective of the FCA and technology is one of the main means to achieve this. Beyond competition, benefits offered by technology to customers is also important. In the examples cited by the regulator, it is clear that exchange tokens do offer benefits such as quicker and cheaper payments without the need for intermediaries. Acknowledging the fact that cryptocurrencies are too volatile and technology and security might not be reliable, it is important not to ignore the benefits offered by exchange tokens.
To fully realise the benefits of exchange tokens they would need to be within the regulatory perimeter. This would require a lot of work to ensure the technology is safe, secure and allows the regulator and central bank to have the required oversight of currency without boundaries. However, finding the balance between central bank and regulatory control, technological innovation and consumer protection is difficult. The UK regulator is using tools such as the Sandbox and a fast developing distributed ledger technology ecosystem to support developments in these areas. Using these tools, the FCA should continue to engage more with the industry and lead the way in regulating this industry without compromising the benefits that this new technology promises.
It is difficult to say at this point whether the guidance has gone far enough to promote a safe cryptoasset market in the UK and encourage innovative firms to continue with their work. The answer to that question would in part depend upon further guidance from HM Treasury and FCA expected later this year and also, the industry’s response to this consultation. Firms should take advantage of this opportunity to participate and highlight areas that need further clarification. For firms that are planning to carry out Securities Token Offerings (STO), this guidance provides clarity on what permissions they would need. We hope and believe this should promote further competition and encourage innovative firms to enter the market.