In light of the recent FTX cryptocurrency exchange debacle, the Australian Government has announced its intentions to improve the regulatory framework within which crypto asset service providers operate. The decision sends shockwaves into the global crypto and blockchain industry. This article analyses the potential regulatory framework that crypto, web3 and blockchain-based businesses must consider. Further, we will refer to the key recommendations of Australia per the Technology Financial Centre Senate select committee report published in 2021 (Committee Report).
To recap, the Committee Report and the (previous) Australian Government's Consultation Paper of March 2022 pressed the need for licensing and custody requirements to be imposed on crypto asset secondary service providers. This includes cryptocurrency exchanges, such as FTX. The Government has since embarked on a token mapping exercise to assist with the creation of standardised terminology for the Government and industry, which will ultimately inform the impending Australian regulatory framework. The regulations need to strike a fine balance between providing adequate consumer protection on the one hand, and not stifling innovation in a rapidly moving and growing industry on the other hand.
The Digital Assets (Market Regulation) Bill 2022 (Bill) providing for the Digital Assets (Market Regulation) Act 2022 (Cth) (Proposed Act) has been presented to the Australian Parliament and is currently in consultation. The Bill proposes a regulatory framework for digital asset exchanges, digital asset custody services and the issuing of stablecoins. A stablecoin is a cryptocurrency designed to have a relatively stable price, typically pegged to a commodity or currency or having its supply regulated by an algorithm. The push to regulate stablecoins rose from the collapse of the Luna and TerraUSD tokens (the TerraUSD token was not backed by real assets) on the Terra blockchain network in May 2022. Further, it requires a person to hold a licence granted by the Minister or a recognised foreign licence to:
- operate a digital asset exchange;
- provide digital asset custody services; or
- issue stablecoins.
Australian law and policymakers will look to the European Union's Markets in Crypto-Assets (MiCA) proposal and to existing regulatory frameworks in the APAC region and jurisdictions such as:
- Hong Kong;
- Malaysia; and
Markets in Crypto-Assets
Amongst its peers, MiCA is considered to be one of the forerunners of crypto and blockchain-based regulations in that it covers:
- issuers of unbacked crypto assets;
- stablecoins; and
- trading platforms or providers that facilitate the trading of crypto assets.
Its overarching purpose is to protect investors and preserve financial stability. Additionally, it aims to drive innovation and attract global talent and investments. Importantly, crypto asset service providers will have to meet certain requirements to safeguard consumer crypto asset wallets. Additionally, they will be held liable in the event investors' crypto assets are lost by the providers. In addition, MiCA will regulate any type of market abuse, such as market manipulation and insider dealing. One of the features of MiCA is the requirement for any stablecoins to be backed by a liquid reserve at a 1:1 ratio.
Looking to the East, Singapore has emerged as a leading jurisdiction with a crypto exchange licensing scheme regulating both crypto exchanges and intermediaries. Singapore's main regulatory requirements for crypto assets are borne from anti-money laundering and counter-terrorism financing (AML/CTF) requirements. Although Singapore has not passed crypto asset-specific legislation, the existing regulatory frameworks allow the Monetary Authority of Singapore (MAS) (Singapore's integrated regulator and supervisor of financial institutions in Singapore) to take a technology-neutral and activity-based approach to dealing with crypto assets (in line with its Payment Services Act 2019 which came into effect in early 2020). This activity-based approach differs from the Australian approach in undertaking the token-mapping exercise to guide legislation.
Notably, MAS is charged with issuing digital payment token licences to digital payment token service providers – which are generally payment institutions, banks and other financial institutions. MAS has issued six licences to date (and has rejected the world's largest exchange, Binance, and FTX – evidencing a tenacious and diligent approach to licensing). Earlier this year, the licensing requirement was extended by MAS to virtual asset service providers (VASPs) domiciled in Singapore but operating overseas.
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The Hong Kong Government has gazetted the Anti-Money Laundering and Counter-Terrorist Financing (Amendment) Bill 2022, which includes the introduction of a licensing regime for VASPs and imposes statutory AML/CTF obligations on VASPs in Hong Kong, due to take effect on 1 March 2023.
The difficulty governments face in legislating for crypto assets, crypto asset service providers and the required obligations is the immediate need for regulations to provide consumer and investor protection. It has also proven challenging to establish a regulatory framework that appeals to global talent and investments and is a well-considered framework that fosters innovation. Indeed, it must also increase a nation-state's soft power and dominance in the crypto and blockchain industry.
To futureproof your business as a crypto asset service provider or a blockchain-based company, you should:
- consider and obtain any applicable licensing by consulting a lawyer to understand your licensing requirements, such as registering with AUSTRAC if you are a digital currency exchange;
- obtain an AML/CTF framework to conduct due diligence on counterparties and your users, including implementing an AML/CTF policy;
- using contracts with counterparties that require and enforce these types of requirements on your counterparties;
- understanding your obligations in relation to any sanctions, whether Australian or imposed by another jurisdiction;
- implementing custodial obligations similar to overseas requirements;
- segregating customer assets with other customer assets and business assets; and
- having an appropriate liquid reserve to back crypto assets.