Adam Jackson, Director of Policy at Innovate Finance, assesses the UK approach to crypto: is it internationally competitive, what is needed to turn plans into tangible outcomes, and is the UK approach still relevant in the face of market volatility?
At the Innovate Finance global summit last month, City Minister John Glen set out the UK Government’s plans for the country to become a global crypto technology hub through a progressive regulatory regime. With some industry figures concerned that the UK has been losing ground in the crypto race, where does this now position the UK internationally? And what do we need to ensure success?
Still relevant in a volatile market?
First, given the recent stablecoin crash and volatility in the crypto markets, let’s address the question of whether the UK Government strategy is still desirable and relevant. My short answer is yes. The adjustments taking place in crypto asset markets make Government plans for regulation of stablecoins more important and more urgent. Arguably much of the recent volatility has arisen from a lack of clarity, consistency and transparency, which good regulation should provide.
UK Government plans for the regulation of systemic stablecoins (arguably like Tether) would provide verified, standardised approaches to capital assets underpinning stablecoins (and would probably, at least for now, rule out algorithmic stablecoins). This would provide the assurance that the market has realised (belatedly) it currently lacks. Globally this regulation of stablecoins is now inevitable, and once in place it will enable the transformation of payment systems. The UK has been at the forefront of payment innovation and pressing on with the Government vision creates the opportunity to maintain this new wave of transformation.
Some of the wider volatility in markets has also been triggered by questions being asked about custodial activities - and guaranteeing customer funds in the event of a service provider bankruptcy. This is one of the issues that industry players have been working on, where industry standards may emerge, and the UK has said it will make custodial activities relating to stablecoins (e.g. those provided by an exchange or wallet provider) a regulated activity.
So the UK Government's regulatory approach should address the issues which have prompted recent market volatility. The Financial Services and Markets Bill, announced in the Queen’s Speech last week, should give the regulators the powers they need to advance this regulation. This now needs to be done as quickly as possible and detailed regulatory approaches developed in parallel, with industry engagement.
Finally, the Government vision for the UK to be the best place to start and grow a crypto business extends way beyond the world of crypto currencies which are currently experiencing market upheavals. The UK Government rightly took a wider view of Web3-based financial services and systems, recognising the potential of blockchain (including tokenisation, smart contracts and programmable digital functionality) to transform all aspects of financial systems.
International competitiveness
On the basis that the UK Government approach remains relevant - indeed even more relevant - how does it position the UK internationally? The Government plan needed to tick three boxes in order to strengthen the UK’s place as a leading centre for the transformation of financial services by distributed ledger technology and digital assets.
First, we needed a positive vision from the Government, identifying the opportunities and benefits. To date, work on crypto has been led by regulators. It is their job to focus on risk (anti-money laundering, consumer protection, financial stability). But that has meant that international innovators have only heard negative messages. Mitigating risk is more important than ever, but it has to be with the aim of enabling innovation to flourish.
The Government’s announcement on crypto in April was an essential rebalancing. City Minister John Glen, backed enthusiastically by the Chancellor, issued a clarion call: to make the UK the best place in the world to start and scale crypto companies.
Crucially - as noted above - this described a more expansive opportunity than the world of speculative cryptoassets, which so often dominates the debate. The Government set an ambition to exploit the potential of blockchain, tokenisation, and programmable digital functionality across the financial system, including payments and market infrastructure.
That leads to the second test: a comprehensive strategy. The announcements by the Government went wider than many were expecting.
They included proposals to bring stablecoins into the UK consumer and competition regulatory system and prudential regulation of those that become systemic; regulating custodial activity; joint PRA and FCA work on blockchain-enabled Financial Markets Infrastructure; review of tax treatment; and a Law Commission review to ensure a clear legal basis for blockchain applications.
The Treasury also committed to looking at bringing cryptoassets into the regulatory perimeter (in a way that supports UK Net Zero climate targets), something that is needed in order to release them from a Catch-22 limbo in the FCA’s current proposals for financial promotions (more details in our Innovate Finance position paper here).
We will need government and regulators to go further: as the technology is applied to more aspects of financial services and infrastructure, the entire regulatory rulebook will need to be reviewed to ensure it is fit for purpose. But this is a good start.
Third, we needed a new regulatory approach. Crypto is rapidly growing and evolving. This requires, to borrow from James Plunkett, ‘regulation as a platform’ – iterative, outcome-based, driven by live data.
And this must be collaborative with industry, not least because regulatory controls can be built into programmable assets and market infrastructure. The UK’s approach is a great step towards this – especially the FCA’s ‘Crypto Sprint’, and the blockchain infrastructure sandbox next year. I was delighted to take part in the first FCA Crypto Sprint, which brought together the regulators and industry to hack a number of regulatory and policy questions, including issues even more relevant this week: crypto asset disclosure requirements for investors and how to regulate custody.
The hackathon revealed an industry appetite for an incremental approach which prioritises areas for regulation, draws on existing activity-based regulation where possible, and tests and tweaks these with real-life products. New regulations will be needed too - there remains a risk of trying to squeeze crypto into ill-fitting existing regulation. We need new rules for new applications, as well as making use of existing regimes where that is a workable hack.
So where does this place the UK internationally? The UK has now drawn level with the US (catching up after Joe Biden’s recent presidential executive order) and the EU’s detailed but potentially burdensome and perhaps overly comprehensive MiCA proposals.
The new Financial Services and Markets Bill announced in the Queen’s Speech will provide the legal powers for regulators to develop regimes for crypto. We have yet to see this legislation and it will take time to go through Parliamentary scrutiny. This legislation should be enabling - i.e. giving the FCA, PRA/Bank of England and PSR the power to regulate crypto activities to protect consumers, ensure stability and provide for fair competition; requirements to do so in ways that promote competitiveness and promote innovation; and the flexibility to develop their respective rule books quickly and flexibly as the market develops.
It is worth noting that consumer protection and stability go hand in hand with competitiveness and competition: there is no conflict in the regulator pursuing all these objectives. Responsible crypto service providers have developed their own standards and protocols to provide consumer protection in the absence of regulation and they want this codified in regulation to ensure a level playing field and a trusted, stable, sustainable market.
In parallel with the new legislation, regulators need to agree their priorities and develop specific proposals, with industry, so they are in a position to act when the legislation is adopted. The details of the UK proposals still need to be developed, so we are not yet ahead of the game, but the UK can potentially move faster with a nimbler law making and regulatory system.
Turning plans into successful outcomes
How do we achieve this? First, collaboration between business, government and regulators: close, joint working with a leadership group and practical working groups where innovators and financial services co-create with the policymakers.
At theCrypto Sprint I was thrilled to see the FCA embracing innovative approaches and engaging seriously with the crypto ecosystem. I hope they continue to do much more of this. The Government has also said it will set up a new Crypto Asset Engagement Group, bringing industry and government together, chaired by a minister. This needs to be the basis for meaningful dialogue on strategy and delivery. With a diverse and ever evolving ecosystem this should be supported by other engagement, to ensure breadth and depth of industry input.
Second, connectivity: driving joined-up delivery across the different regulators and government bodies and maintaining pace and momentum (including complementary projects such as Central Bank Digital Currency and digital ID).
Finally, this will come down to people. Government, regulators and industry all need the right people: global talent (including avoiding delays to the ScaleUp Visa); mature governance and compliance teams in crypto firms; and capacity and capability in regulators.
The Chancellor’s request to the Royal Mint to issue an NFT this summer, arguably a headline-grabbing gimmick, may have a greater significance than anticipated. It can be perceived as a symbol of the UK’s intent to be a global leader and a reminder to policymakers to deliver on this.
The UK can be a world leader in creating value through digital assets, blockchain and crypto - so long as we have a concerted effort by Government and regulators, a more flexible approach to evolving regulation, and collaborative engagement with industry.
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