The current and future state of cryptocurrency comes into question as its real-world adoption is assessed by businesses and governments. Reuters/Dado Ruvic

In recent years, the UK has emerged as one of the leading destinations for crypto and decentralised finance firms. Despite open criticism of the Financial Conduct Authority's (FCA) slow licensing process, the local market has seen an uptick since the government announced plans in April 2022 to make the country a global leader in cryptocurrency trading, blockchain technologies, and DeFi.

The UK's proposed crypto regulatory framework, similar to the EU's recently approved Markets in Cryptoassets (MiCA) regulation, extends the geographical reach of existing obligations for service providers, introduces new rules to enhance consumer protection, encourages innovation, and provides clarity for firms.

In January 2020, the British government first attempted to regulate digital asset firms operating in the nation registered under the FCA to comply with AML and CTF regulations. At the same time, the Advertising Standards Authority has conducted a series of crackdowns against aggressive and misleading crypto ads.

But those steps differ from the proposed framework anticipated to go live by 2024, with the UK poised to take cryptocurrency regulation to the next level.

A Robust Framework

Government plans seek to introduce a new crypto regulatory framework in multiple phases. Besides AML and counter-terror financing rules in place since January 2020, the laws primarily focus on protecting consumers from misleading ads while making it easier for licensed firms to launch financial promotions.

Phase 1 of the framework oversees how stablecoins can be used for payments. The proposed legislation distinguishes between stablecoins backed by physical fiat reserves and those pegged to underlying assets through alternative means, such as synthetic stablecoins or commodity-backed stablecoins.

Whilst fiat-backed stablecoins will be overseen by the Payment Systems Regulator, algorithmic stablecoins will fall under the FCA's supervision and will be subject to the same requirements as unbacked cryptocurrencies, and won't be advertised or presented as "stable" assets or "payment instruments".

Phase 2, labelled as high priority by regulators, aims to introduce regulations for broader crypto activities, which defines cryptocurrencies as "cryptographically secured digital representations of value or contractual rights" rather than financial assets.

Expanding Territorial Scope

The proposed framework would expand the territorial scope of existing and new rules. Similarly to the EU's GDPR, forthcoming regulations will apply to cryptocurrency firms operating within the country and mandate compliance for overseas providers serving UK citizens.

At a practical level, this will cover activities such as issuance, payments, exchanges, investment, risk management, lending, borrowing, leverage, custody services, validation, and governance. However, it is important to note that some of these will be introduced in stages following Phase 1 and Phase 2.

The proposed UK framework exhibits a robustness similar to the EU's MiCA: comprehensive rules designed to enhance consumer protection, establish comprehensible best practices, and introduce new licensing requirements, which were approved by the European Parliament on April 20th. In many ways, MiCA represents the most comprehensive regulatory framework for crypto assets seen globally.

Traditional Finance Push Back

Despite these developments in this field, not everyone is happy with the UK's proposed regulatory framework. While it's been well-received by cryptocurrency firms, traditional finance isn't happy about the fact that digital assets will be regulated.

The International Regulatory Strategy Group, representing finance groups like TheCityUK, has criticised the proposal, claiming it is too broad. Accountancy group ICAEW disagrees with "expanding the perimeter" and "authorising firms" for crypto-related activities, arguing that it could lead to unearned customer trust.

These arguments, while relevant, are also difficult to agree with. Laws are notoriously broad or left to some level of interpretation by design. In the case of investment managers, regulated status does hedge funds, creating a level of trust and expected professionalism, yet quality can be unreliable.

Although aspects of the framework may require fine-tuning before implementation, most of the rules are specific enough to provide regulatory clarity for industry participants. At the same time, regulating an unregulated market while enabling innovation and adaptation to continue offers safeguards for UK citizens without playing down the risks of cryptocurrencies.

For these reasons, criticism from lobby groups seems obstructionist. In many respects, the DeFi versus TradeFi separation is one that will blend, mould, and merge as time progresses and as new firms can learn from traditional household names.

How Will it Affect the Market?

The UK, much like the EU, knows that crypto markets where synthetic projects explode are not good, even if the correlation with normal markets is small when things go wrong. No matter how one sees crypto — be it as Web3 currency, equity, commodity, gambling, or an entirely new asset class — regulation and consumer protection are inevitable. Ironically, no consumer protection is applied to currencies when a country uses QE, devaluations, or removes exchange mechanisms.

Without standards, criminals can easily defraud users and hack in the same way they do with corporations on an ongoing basis, so information that explains risk and provides protection is needed. For trading volumes and the people who hold cryptocurrencies, the moves by the UK and EU are likely to either see a greater uptake in the medium term or have little initial effect whilst the industry separates the wheat from the chaff.

At an economic level, several things are possible. Adoption rates and utility may increase as a result of standards being applied. Frameworks may create an environment conducive to attracting industry players to use the UK and EU as a base for operations, management, and R&D, and thus investment increases. Finally, it may split the industry into those who become more centralised and build relationships with traditional financial institutions and those who go the other way and push back against a rules-based system.

By Robert Quartly-Janeiro Robert Quartly-Janeiro robert-quartly88994425

Robert Quartly-Janeiro is a consultant, political advisor, equity analyst, strategist, and economist with 14 years of experience across finance, investment, government, and management. He is also a former MD at Export Action Global (CAN) and Black Square International (UK) and a former Visiting Fellow at The London School of Economics. Robert has previously provided comments and op-eds for leading business media outlets, e.g., The Wall Street Journal, Reuters, Yahoo Finance, Al Jazeera, Private Equity News, Daily Sabah, TRT, HedgeWeek, etc. You can find Robert at the Tier-1 crypto exchange Bitrue or on Linkedin