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Regulatory and Legislative Analysis #7

Regulatory and Legislative Analysis – Global

BIS bulletin addresses the risks in crypto and lays out the options

On Jan 12, 2023 the Bank for International Settlements (BIS) issued a bulletin “Addressing the risks in crypto: laying out the options”.  The bulletin highlights various methods of handling crypto-related risks: banning specific crypto activities (extreme option, difficult to enforce, could hinder innovation, but could prevent losses); Isolating crypto from the real economy and trade finance (could prevent crypto from damaging the real economy, however, limiting the sector may not be feasible and investor protection and market integrity risks could remain); and regulating the sector in a manner that resembles trade finance (would be consistent with regulations on financial activities, however, challenges exist when mapping crypto to trade finance activities).

FinCEN Identifies Virtual Currency Exchange Bitzlato as a “Primary Money Laundering Concern” in connection with Russian Illicit Finance

On Jan 18, 2023 The U.S. Financial Crimes Enforcement Network (FinCEN) identified the virtual currency exchange Bitzlato as a “primary money laundering concern” in connection with Russian illicit finance, citing that its operations pose threats to U.S. national security and the integrity of the U.S. financial sector.

IMF acknowledges the emergence of stablecoins and recommends framework

On Feb 23, 2023 the International Monetary Fund (IMF) issued a press release: IMF Executive Board Discusses Elements of Effective Policies for Crypto Assets. While top regulators have deemed stablecoins legitimate and advantageous, the IMF recognizes the potential for these digital currencies to cause systemic risks to the economy.  As such, the IMF provides explicit guidelines and a framework for regulating stablecoins composed of nine elements which include: safeguarding monetary sovereignty and stability;  guarding against excessive capital flow volatility;  analyze and disclose fiscal risks;  establishing legal certainty; developing and enforcing prudential, conduct, and oversight requirements; establishing a joint monitoring framework; establishing international collaborative arrangements to enhance supervision and enforcement; monitoring the impact of crypto assets on the stability of the international monetary system; and strengthening global cooperation to develop digital infrastructures and alternative solutions for cross-border payments and finance.

FAFT suspends Russia, adds South Africa and Nigeria to “Grey List”

On Feb 24, 2023, the Financial Action Task Force (FATF) added South Africa and Nigeria to its list of jurisdictions under increased monitoring, otherwise referred to as the “Grey List”.   The UAE, Cayman Islands, Gibraltar, Panama, Türkiye are also included in this list of 23 in total jurisdictions under increased monitoring.  Cambodia and Morocco are no longer subject to increased monitored by the FATF, while FATF formally suspended Russia’s membership.

Regulatory and Legislative Analysis – NAM (United States & Canada)

Canada OSFI reminds regulated entities of crypto-related risks and requirements

On Nov 16, 2022, Canada’s Office of the Superintendent of Financial Institutions (OSFI) issued a statement sharing its concerns with crypto-asset activities and crypto-related services.  OSFI reinforces the expectation that regulated entities adhere to all applicable regulatory requirements when engaging in crypto-activities.

New York’s DFS fines Coinbase for failure to correct AML deficiencies

On Jan 4, 2023 the New York State Department of Financial Services (DFS) announced that Coinbase, Inc. will pay a $50 million penalty for significant deficiencies in its compliance program (including deficiencies in customer KYC and an 100K+ backlog of unreviewed suspicious activity alerts), and invest another $50 million on remediation over the next two years.

DoJ Announces $17 million Restitution Distribution Linked to BitConnect Scheme

On Jan 12, 2023, the U.S. Justice Department announced that over $17 million in restitution will be distributed to approximately 800 victims that lost their investments in BitConnect, which defrauded thousands of investors worldwide, operating as a Ponzi scheme.

The FSB warns that current stablecoins may not meet future regulatory standards

On Feb 13, 2023 the Financial Stability Board (FSB) warned that many existing stablecoins would fail to pass new risk management rules currently being formulated.  FSB’s recommendations for stablecoins include guidance to strengthen governance frameworks, clarify and strengthen the redemption rights, as well as the need to maintain effective stabilization mechanisms, among other revisions.

The FSB publishes a report on DeFi financial stability risks

On Feb 16, 2023, the Financial Stability Board published a report on Decentralized Finance.  Key points: Although purported as decentralized, DeFi’s level of decentralization varies widely; while the process to provide services is novel, DeFi does not differ substantially from traditional finance in the functions it performs or the vulnerabilities to which it is exposed i.e. operational fragilities, liquidity and maturity mismatches, leverage and interconnectedness of DeFi with traditional centralized finance.  Although presently limited, risks would increase if the DeFi ecosystem were to grow. The FSB will consider the regulatory perimeter across jurisdictions to determine which DeFi activities and entities fall or should fall within that perimeter.

Canadian Securities Administrator to ban algorithmic stablecoins

On Feb 22, 2023, The Canadian Securities Administrators (CSA), published a notice to describe a change in the CSA staff practice in connection with its expectation that crypto asset trading platforms (CTPs) that continue to operate in Canada, should file a pre-registration undertaking (a  PRU) while they seek registration with the CSA. Focusing on stablecoins CSA now stipulates that these assets can only be purchased or deposited on domestic crypto asset trading platforms with prior written approval from the CSA.  To obtain approval, crypto firms must meet stringent due diligence standards, including ensuring that the stablecoin is backed by cash and “highly liquid assets”, ensure segregation, kept with a licensed custodian, prohibited from offered as margin/credit/leverage, and audited monthly via a publicly released audit report.  CSA has made it clear that it would not give consent to not fully-backed algorithmic stablecoins.  Fiat-backed crypto assets generally meet the definition of security and should adhere to Canadian securities law.

FED, FDIC and OCC issue Joint Statement on crypto liquidity risks

On Feb 23, 2023, the Board of Governors of the Federal Reserve System (Federal Reserve), the Federal Deposit Insurance Corporation (FDIC), and the Office of the Comptroller of the Currency (OCC) issued a joint statement on the liquidity risks to banking organizations resulting from crypto-asset market vulnerabilities, and some effective practices to manage such risks.  Vulnerabilities include the stability of the deposits and stablecoin-related reserves, which may be susceptible to large and rapid inflows/outflows during periods of  stress, market volatility, and related vulnerabilities in the crypto-asset sector.

Effective practices for these banking organizations could include: Understanding the direct and indirect drivers of potential behavior of deposits from crypto-asset-related entities and the extent to which those deposits are susceptible to unpredictable volatility; Assessing potential concentration or interconnectedness across deposits from cryptoasset-related entities and the associated liquidity risks; Incorporating the liquidity risks or funding volatility associated with crypto-asset related deposits into contingency funding planning, including liquidity stress testing and, as appropriate, other asset-liability governance and risk management processes; Performing robust due diligence and ongoing monitoring of crypto-asset-related entities that establish deposit accounts, including assessing the representations made by those crypto-asset-related entities to their end customers about such deposit accounts that, if inaccurate, could lead to rapid outflows of such deposits.

Regulatory and Legislative Analysis – EMEA

Dutch DNB Fines Coinbase Europe Limited for failing to register under AML/CTF law

On Jan 26, 2023, the De Nederlandsche Bank (DNB) imposed an administrative fine of €3,325,000 on Ireland based Coinbase Europe Limited, for failing to register with the regulator as required under the Dutch Anti-Money Laundering and Anti-Terrorist Financing Act.  The DNB decided to increase the fine from the base amount after taking into account that Coinbase is one of the largest crypto service providers globally, and that it has a large number of customers in the Netherlands.  Coinbase has until Mar 2, 2023 to object to the fine.

Malta’s FIAU fines exchanges Bequant & Bequant Pro over failure to follow AML/CFT laws

On Feb 3, 2023, the Maltese Financial Intelligence Analysis Unit (FIAU) fined local cryptocurrency platforms  Bequant Pro Limited and Bequant Exchange Ltd nearly half a million euros in parallel actions, over failure to follow AML/CFT regulations.  Bequant Exchange Limited voluntary surrendered its MFSA license in Sept 2022, but Bequant Pro Limited still holds a license with MFSA.

EU Commissions urges Latvia to complete transposition of the 5th AML Directive

On Feb 15, 2023, The European Commission decided to open an infringement procedure by sending a letter of formal notice to Latvia, on grounds of its incomplete transposition the 5th Anti-Money Laundering Directive. Latvia has officially declared its complete transposition (deadline was Jan 10, 2020), however, the Commission considers that several provisions of the Directive had in fact not been transposed. The missing provisions refer to considering custodian crypto-wallet providers, obligations for trusts to provide the necessary information to the national central register, and certain obligations of the competent authorities and self-regulatory bodies to ensure transparency and supervision in Latvia. The EU Commission decided to send a reasoned opinion to Slovakia and Spain, on the grounds of its incomplete transposition of the 5th AML directive.

HM Treasury Launches Consultation on Proposed Regulatory Regime for Crypto

In Feb 2023, the HM Treasury (MNT) published a consultation and call for evidence: Future financial services regulatory regime for cryptoassets” including plans to robustly regulate crypto trading platforms and implement a regime covering crypto lending.  The consultation will close Apr 30, 2023.

The Bank of Israel issues principles for regulating stablecoins

On Feb 22, 2023, the Bank of Israel issued “Principles for “stablecoin” activity in Israel—document for the public’s comments”.  The goal is to propose rules for stablecoins activity, which include holding 100% reserves of its liabilities in circulation; prohibiting algorithmic stablecoins not commonly used for payments;  obtaining a license by the Capital Market Authority; proposing oversight by the Bank of Israel and establish coordination mechanisms among the various relevant regulators.

Ras Al Khaimah is launching a free zone for digital and virtual asset companies

On Feb 27,2023, Ras Al Khaimah, one of the Emirates of the United Arab Emirates announced  that it is launching a free zone for digital and virtual asset companies called RAK Digital Assets Oasis (RAK DAO). The free zone will be a purpose-built innovation-enabling free zone for non-regulated activities in the virtual assets sector and will be dedicated to digital and virtual asset service providers in emerging technologies such as the metaverse, blockchain, utility tokens, virtual asset wallets, NFTs, DAOs, DApps and other Web3-related businesses.

Regulatory and Legislative Analysis – APAC

Hong Kong Monetary authority sets out its plan to regulate stablecoins

On January 31, 2023, the Hong Kong Monetary Authority (HKMA) published its Conclusions of Discussion Paper on Crypto-assets and Stablecoins to its earlier (Jan 2022) Discussion paper on Crypto-assets and Stablecoins. Contrary to Singapore (opt-in-regime), in Hong Kong this is a mandatory regime, while HKMA’s conclusion proposes that all relating to in-scope stablecoins (reference one or more fiat currencies) falling within the jurisdictional reach of the proposed regime must obtain a license.

The HKMA has set forth some overarching elements for the proposed regulatory regime including a comprehensive regulatory framework covering: 100% backing and redemption, ownership, governance, financial resources management, risk management, AML/CFT, user protection, regular audits and disclosure requirements. Under the 100% backing and redemption requirement, algorithmic stablecoins are unlikely to meet HKMA’s licensing conditions. The HKMA has finally decided to focus on stablecoins and hold any plans to regulate unbacked crypto-assets, which however, may be considered as securities and be regulated under the Securities and Futures Ordinance.  Proposed regulatory target implementation date by 2023/2024.

Australia’s regulator proposes classifying digital assets into four major types.

On Feb 03, 2023, the Australian Government published their Crypto Token Mapping Consultation Paper.  The Government acknowledges that crypto tokens can involve a vast range of different token types, with use cases in: payments, financialization, donation, tokenization, risk mitigation, capital formation, coordination, documentation and recreation.  This paper proposes a token mapping framework that relies on three key concepts: Tokens: a physical or digital unit of information which can include physical bearer like objects or registry entities (e.g., data conferring specific details); Token systems: anything designed to ensure or facilitate a function, including business protocols, social protocols or physical protocols; Function – any benefit ensured or facilitated by a token system.  Closing day for submissions: Mar 3, 2023.

Regulatory and Legislative Analysis – LATAM

Bahamas SCA assumes control of FTX assets

On Nov 12, 2022, the Securities Commission of the Bahamas announced that it exercised its regulatory powers, under the authority of a Bahamas Supreme Court order, to direct the transfer of all digital assets of FTX Digital Markets Ltd. (FTX) to a wallet that it controls for safekeeping, to protect clients and creditors.

New regulations for Brazilian crypto market take effect in 2023

In late 2022, the Brazilian Congress approved a bill that regulates the crypto market in Brazil. The text approved discusses among other: consumer and investment protection, governance practices, information security, operational security, personal data protection and risk-based approach.  Companies (i.e. exchanges) operating in the crypto-space now need a license to operate in the country, as is required for financial institutions. Virtual Asset Service Providers must keep updated KYC records of their clients and monitor transactions (KYT).  They must also obtain the legal entity registration number in Brazil (CNPJ) and report suspicious activities to the Council for Control of Financial Activities (COAF).  The bill was signed into law by the President of Brazil on December 21, 2022 and, according to the text approved by Congress, the new regulation will take effect between May and June 2023 – 180 days after the enactment of the law.

Proposed bill in Argentina encourages citizens to reveal crypto holdings

Aimed at combating money laundering, Argentina’s Ministry of Economy, has drafted a bill in Jan 2023, which encourages Argentines to declare their cryptocurrency holdings, proposing incentives of discounted tax rates (just 2.5%) for those who voluntary declare their holdings within 90 days of the law coming into force.   The rate will incrementally increase every 90 days, until its reaches 15% of the country’s standard capital gains tax rate.  The bill will be tabled and discussed in the next parliamentary session.

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