EU encryption regulation bill passed, is the US worried?

Did the EU encryption regulation bill passing worry the US?

The long-awaited EU Markets in Crypto-Assets Regulation (MiCA) was finally adopted on May 16th.

Although the proposal was voted through at the European Parliament on April 20, it wasn’t until May 16 that the EU Council, comprising the 27 EU countries, unanimously approved the MiCA law, officially declaring the world’s first unified virtual asset regulatory mechanism with the most complete and clear framework.

Currently, global crypto regulation is floating like a duckweed, with the crypto giant the United States swinging between the SEC and the CFTC, and regulations in Singapore, India, Japan, South Korea and other regions still under exploration, despite favorable policies in Hong Kong being continually questioned for their independence.

In this context, the EU’s move has undoubtedly set a typical example for global virtual asset regulation and has strong milestone significance. In addition, this regulation means that the compliance of virtual assets has opened the curtain on the world stage, and legal certainty will drive rapid development in the crypto field.

01. Why the EU?

After the passage of the bill, many people have questioned why. In fact, in the global crypto market, Europe is not a major player, with a relatively small market share compared to Asia and North America. Quoting the CryptoComBlockingre exchange review report for December 2022, European exchanges accounted for 5.4% of monthly trading volume in global exchanges, lower than Asia (83.3%) and North America (10.6%), but it was the first to launch a crypto framework.

Historically, European crypto regulation has gone through a phase of exploration and in-depth understanding:

The exploration phase began in 2015, when cryptocurrencies were in a period of rapid development, but the main market was led by China. At that time, Europe was skeptical of the attributes of crypto assets, and the EU Court ruled that cryptocurrencies such as Bitcoin were not financial instruments but legal currencies, so they were not subject to value-added tax.

This situation persisted until 2018, when the European Commission issued the Fifth Anti-Money Laundering Directive (5AMLD), which brought crypto asset service providers (CASP) under the scope of AML/CFT regulation, requiring them to conduct customer due diligence, report suspicious transactions, and retain transaction records, etc.

Under this directive, EU countries have begun to divide. Leading countries such as Germany, Austria, Malta, and Lithuania have developed their own virtual asset licensing systems, while some countries monitor the cryptocurrency field primarily through anti-money laundering measures. There are also completely unregulated areas of supervision, resulting in a fragmented and chaotic regulatory situation. Institutions need to apply for compliance licenses or supervision in different countries. Due to the universality of the EU license, this has brought about rent-seeking opportunities in regulation, and regions such as Lithuania that are relatively easy to obtain licenses have become the main focus of exchanges and other institutions.

In 2019, the European Banking Authority (EBA) issued a report stating that because cryptocurrency assets are largely not under EU legal jurisdiction, and they pose significant consumer protection and money laundering risks, the committee should take action. After Libra sparked controversy over private and legal currencies, the EU continued to prudently regulate cryptocurrencies and decided to take the lead in using them as tech regulatory standards.

In September 2020, the European Commission proposed the “Markets in Crypto-Assets Regulation” (MiCA) and the “Digital Operational Resilience Act” (DORA), aimed at establishing a unified regulatory framework for crypto assets and service providers, regulating the classification, definition, issuance, trading, supervision, and other aspects of crypto assets, and requiring crypto asset service providers to comply with higher technical and operational standards.

In June 2021, the European Commission issued the “Sixth Anti-Money Laundering Directive” (6AMLD), which further expands the scope of money laundering and terrorist financing crimes, and increases punishment for conspiracy, environmental, tax, and other crimes.

With the improvement of regulations and the development of the cryptocurrency market, the penetration rate of the EU market is also constantly increasing. According to the Chainalysis 2022 Global Cryptocurrency Adoption Index, the EU ranks fourth among 154 countries and regions worldwide, second only to Vietnam, India, and Pakistan. Against this background, in October 2022, the European Parliament committee passed the MiCA bill and the amended “Transfer of Funds Regulation” (TFR), which requires crypto asset service providers to provide the identity information of the transferor and the recipient when transferring crypto assets, in order to facilitate tracking and monitoring of suspicious transactions.

In April 2023, the European Parliament voted on the MiCA bill and formally incorporated it into EU law.

Throughout the development process, as the understanding of the crypto field gradually deepened and the market pushed forward, the EU’s attention to regulatory requirements continued to increase. Following the Libra incident, a number of factors such as the increase in regulatory requirements, the absence of unified regulations, the fragmentation of existing norms, and the maintenance of dominance prompted the EU to propose MiCA. However, the smaller market share and higher adoption rate of the market made it easier for the construction of the European crypto regulatory mechanism to reduce the resistance of power distribution. This is particularly evident in the United States, where the two major regulatory agencies are vying for supremacy, and the reason for the seizure of the discourse power in the crypto industry also exists.

02. Application Scope of MiCA

From the perspective of the application scope, the main types of crypto assets covered by MiCA are divided into four categories: traditional crypto assets, asset reference tokens, electronic currency tokens, and other crypto assets.

Crypto assets are the most intuitive category for users, which can be transmitted and stored electronically through distributed ledgers or similar technologies, and have digital representations of value or rights, such as BTC and ETH.

Asset reference tokens (ARTs), as the name suggests, maintain stable value by referring to the value of several legal currencies, one or several commodities, one or several crypto assets, or a combination of the above assets. This category includes all crypto assets that do not meet the conditions of “electronic currency tokens”. The key judgment is that ARTs are based on the value of legal currency to maintain stability. Taking Digix (DGX) as an example, a typical asset reference token, it is backed by an equal amount of physical gold stored in a vault.

Electronic currency tokens (EMTs), the difference between ARTs and EMTs lies in the configuration of the underlying assets that support the price. ARTs use non-cash assets or a basket of currencies, while EMTs mostly use a single currency and are closer to the concept of electronic currency.

Other crypto assets that are not considered ARTs or EMTs, such as “utility tokens”, are defined as providing digital access to a particular commodity or service, provided on a DLT, and only accepted by the issuer of the token. Unlike security tokens, they are not considered financial instruments in most countries and are only subject to anti-money laundering rules.

It should be noted that MiCA does not directly include NFTs and DeFi, but according to some industry insiders, the issuance of large series and sets in the NFT field will also be included in the scope.

In terms of regulatory authorities, the European Banking Authority and the European Securities and Markets Authority are the main entities at the EU level, while the European Central Bank is responsible for stablecoin regulation, and designated regulatory agencies in each country cooperate to implement EU-level regulations. It is worth noting that MiCA does not apply to the European Central Bank (ECB), central banks of member states, the European Investment Bank, the European Financial Stability Facility, the European Stability Mechanism, and public international organizations.

Different requirements apply to the issuers of different assets.

For ART issuers, approval from the national regulatory agency must be obtained in advance. The basic requirements are for the EU registered entity, with a minimum of 2% of the total issued amount of its own funds and a complete risk management framework for custody management, hot and cold wallets, etc.

The EMT issuer is limited to certified electronic money institutions (EMIs) or credit institutions. Compared with ART, the requirements are relatively broad, and only notification obligations to the supervisory authorities are required. The basic requirements are the same as ART, but this type of token is prohibited from providing interest to holders in order to protect monetary sovereignty. Monetary sovereignty protection runs through the above two categories, and if the daily associated transaction exceeds a certain limit (1 million for ART, 200 million euros for EMT), the issuer will stop issuing the token.

The heavyweights, the crypto asset service provider category, are particularly complex, and different regulations apply to different objects. For example, traditional securities brokers do not need a license to provide crypto brokerage services. However, in addition to this category, companies involved in crypto custody, trading platforms, deposits and exchanges, storage, trading orders, and asset management must obtain CASP (crypto-asset service provider) licenses from national regulators in the EU.

In addition to basic requirements such as governance, asset custody, complaint handling, outsourcing, clearing plans, and information disclosure, crypto asset service providers must maintain a minimum of own funds for life, with trading platforms requiring 150,000 euros, custody and exchanges (brokers) requiring 125,000 euros, and other categories requiring 50,000 euros.

However, for crypto providers, this capital requirement is only a drop in the bucket, and other implicit compliance requirements are more difficult. Some industry insiders have expressed dissatisfaction, believing that strict regulations increase administrative burdens and do not meet the actual meaning of encryption. For example, the EU authorities’ mandatory special review of self-custody wallets exceeding 1,000 euros (1,097 US dollars) has destroyed the anonymity that encryption should have.

03, American “Anxiety”

Although there are still issues such as anonymous disputes, administrative burdens, and lack of DeFi and NFT regulation, this regulatory bill has preliminarily constructed a complete, implementable, and transparent mechanism for cryptocurrency regulation. It not only breaks the current situation of independent countries ruling separately and establishes regulatory coordination plans, but also creates strong conditions for consumer protection, further promoting innovation and development in the cryptocurrency field.

For cryptocurrency service providers, obtaining CASP means that they can legally provide cryptocurrency services in all 27 member states of the European Union. Previously, unlicensed offshore exchanges were required to withdraw from the market, leaving a large market space for local service providers. However, on the other hand, the increase in compliance operation costs is inevitable, which will also force some exchanges to leave the European Union.

It is reported that after an 18-month transition period, MiCA will be officially implemented in January 2025, but the rules for stablecoins will begin to be implemented after a 12-month transition period and are expected to take effect from the middle of 2024.

The United States has already been warned. Blockingtrick McHenry, Chairman of the U.S. House Financial Services Committee, clearly stated that the EU’s new cryptocurrency regulations MiCA put the region in a leading position in Web3 technology, “Europeans have a technologically advanced legal path, which reflects America’s lag behind. We should be the world leader in technology deployment, not behind Europe.”

Coincidentally, the Hong Kong Securities and Futures Commission recently issued the “Guidance on Cryptocurrency Trading Platforms”, further clarifying the regulatory path for virtual assets, and highlighting the complementary regulatory patterns between the mainland and Hong Kong.

Only in terms of cryptocurrency, due to its unique technical and financial attributes, blockchain is not a competition at the level of artifacts, but a comprehensive competition of institutional orientation. Whoever first becomes the decision-making place of policies has the advantage. In this context, small areas that can flexibly turn have a natural advantage over large countries. China’s Hong Kong, Singapore, and Dubai have already started to dance with long sleeves, and the EU’s sudden entry has further increased pressure on large countries that have not yet acted.

And currently, the United States, which is still at the center of power struggle, seems to be far more behind than just one step.