The UK government has set its sights on being a global hub for cryptoasset technology. HM Treasury has announced a package of measures intended to achieve this vision. This includes the regulation of some stablecoins under e-money rules, an upcoming consultation on regulating broader crypto activities, and a sandbox for financial market infrastructure innovation. The positive messaging signals an attempt to counter suggestions that the UK is no longer an innovation-friendly jurisdiction. 

Stablecoins to be included in payments regime

Last year the UK announced its “staged and proportionate” approach to cryptoasset regulation. According to a January 2021 consultation paper, the first step would be to regulate stablecoins used as a means of payment. Now, in its response to that consultation, HM Treasury has confirmed its intention to do so via existing e-money and payment services regulations.

The Electronic Money Regulations 2011 (EMRs) will be adjusted to cater for “payment cryptoassets”. Broadly these will cover “any cryptographically secured digital representation of monetary value which is, among other things stabilised by reference to one or more fiat currencies and/or is issued and used as a means of making payment transactions”. The precise boundaries remain to be seen but cryptoassets linked to other types of assets (like commodities or cryptoassets) would be out of scope, as would those which are stabilised using algorithms. As a result, we would expect that most stablecoins that are used to facilitate activity in the crypto markets will, at least initially, not be caught by the regime.  

Issuers and other entities providing services for these payment cryptoassets, such as wallet providers, would be subject to the EMRs. This means that they would need to seek FCA authorisation. They would also need to apply prudential and conduct of business standards, including safeguarding rules which require funds to be held to cover the value of the stablecoins that have been issued. The FCA will need to spell out how the existing regime would be applied to stablecoin issuers and service providers at a future date.

Another key aspect relates to location. Existing e-money and payment services regulations require in-scope entities to be based in the UK. One concern is that applying this type of requirement to stablecoin arrangements could end up pushing issuers away from the UK, despite the government’s aims to create a global hub for crypto. HM Treasury’s paper suggests that the location requirements may be revisited in the context of a separate upcoming review on the regulatory perimeter for payments. 

Not all stablecoins will be treated alike. Under the proposals, the Bank of England will be empowered to deem some stablecoin-based payment systems as posing a systemic risk. These systemic stablecoin arrangements and their relevant service providers would then be subject to oversight by the Bank of England as well as the FCA.

More to come on other cryptoassets

In relation to other cryptoassets, HM Treasury is continuing to take an incremental approach. As well as bolstering AML regulation and extending the scope of the financial promotions regime to the crypto sector, it has now announced that it will consult later this year on regulating a wider set of cryptoasset activities. 

The commentary in the paper indicates that HM Treasury remains at an early stage of formulating a clear vision as to how crypto markets and decentralised structures should be regulated. In the run-up to the consultation, the FCA is holding a series of “Crypto-Sprints” with industry participants to help shape regulatory policy. Meanwhile, a Cryptoasset Engagement Group will bring together key figures from the government, regulatory authorities and industry. This suggests that the Treasury has heard feedback on the importance of engaging with industry to develop an appropriate regulatory framework.

FMI sandbox to start in 2023

The Chancellor announced last year that HM Treasury would partner with the FCA and Bank of England to create a Financial Market Infrastructure Sandbox to allow FMIs to experiment with distributed ledger and similar technologies within a flexible regulatory environment. The consultation response reveals that the government will propose legislation to allow for the regulatory flexibility the Sandbox entails, and that the intention is for the Sandbox to be up and running by 2023. It also suggests that the Sandbox will be used to support both existing FMIs in delivering their services more efficiently as well a new FMIs, which in some cases may seek to consolidate the value chain.  

Beyond that, much of the detail remains unclear, including precisely what regulatory flexibility the Sandbox will allow for; which types of entity may apply to participate; the standards participants will need to meet; the nature and scale of activities permissible within the Sandbox; and the role and responsibilities of the regulators overseeing the process. HM Treasury expects to work with industry and regulators to settle these details in advance of introducing legislation.

A careful balancing act

The government aims for its regulation in these areas to be flexible, allowing the FCA and other regulators to change rules in response to market developments. However, they acknowledge that they need to balance this against the benefit of providing clarity to the industry, especially on where the regulatory perimeter is drawn.

Similarly, the government is mindful of the need to balance the (sometimes) competing objectives of risk mitigation and supporting innovation. Amid some recent suggestions that UK authorities have recently focused more on the former, at the expense of the latter, this latest set of announcements seeks to make clear that the UK is committed to creating an innovation-friendly environment.  

Other developments

Other fintech-related announcements made by the UK authorities include the following:

• The Law Commission will be tasked with considering the legal status of Decentralised Autonomous Organisations
• Following his review into UK fintech, Ron Kalifa OBE has been appointed chair of a steering committee charged with developing a new Centre for Finance, Innovation and Technology
• HMRC will continue to explore ways of enhancing the competitiveness of the UK tax system to encourage further development of the cryptoasset market
• The Chancellor has commissioned the Royal Mint to create a Non-Fungible Token (NFT) this summer 

Next steps

The government says that it plans to introduce legislation to make the stablecoin-related changes when parliamentary time allows. A second legislative phase to bring other cryptoassets into the scope of regulation would follow the consultation which is due later in 2022. We are likely to see draft legislation to facilitate the FMI Sandbox around a similar time. Much like in the US, the next couple of years mark a pivotal stage in the development of cryptoasset regulation in the UK.