The start of 2018 has seen governments’ approach to the regulation of cryptocurrency take centre-stage and become a defining issue for the industry this year. As regulatory agencies scramble to address the extraordinary growth of 2017, their approach towards the technology is having an ever-increasing impact on cryptocurrency markets, and the viability and risk profile of proposed ICOs.
At this stage, the growth and future direction of ICOs and crypto-technology seems heavily dependent on international regulation. We should get a far clearer idea of what form international regulation will take (positive or not) when the G20 Finance and Central Banks Deputies meet in later in March 2018.
There have been various announcements that the coming G20 meetings will involve discussion of the impact of cryptocurrency and how it should be regulated (some reports go as far as suggesting it will be a focus). So far, there has been little formal indication of exactly what the G20 discussions will involve.
These talks will see governments begin to formally discuss how the technology/industry can be regulated, what this will involve, and which areas of law are ‘high priorities’ for enforcement. The outcomes of these discussions should shed light on the future regulatory approach towards this technology. However, progressing from high-level talks to actual enforceable regulations is usually a time-consuming process, so substantial regulatory changes may be a little way off.
The important thing will be the message and untone of discussions. When governments examined the industry in 2014–2016, the approach was largely “lets wait and see what happens”. Now governments are accepting a need to design cryptocurrency-specific regulations, so these discussions should begin to reveal how major economies are likely to regulate the industry in the longer term.
Of particular interest and significance will be the outcomes of the following questions:
We expect that, gradually (ie probably not straight after the G20 summit) governments will begin to see a need to take a more co-ordinated, international approach to the regulation of cryptocurrency/ICOs. This is unsurprising given what is legally described as the “extra-territorial nature of the technology, and lack of jurisdictional nexus” associated with cryptocurrency (in other words, the ease of transferring the technology overseas, and fact that it is intangible — it does not existing in any one country, making it harder for any one country to effectively regulate it without working together with other governments).
The long term approach is likely to involve international co-ordination. This is likely to place more significant regulatory requirements on exchanges, ICO hosts, and other cryptocurrency ‘intermediary’ entities. This is something that academic commentators (include some of Lupercal’s experts) identified in an academic/policy context in 2013/2014.
In effect, think of the way that current AML/KYC obligations apply for exchanges and ICO hosts, and assume that these requirements could gradually expand to become more extensive, and include obligations in financial, tax and other areas of law. Also expect a more co-ordinated global approach to ensuring compliance (for instance, with tax, consumer and financial law) becoming integrated with this process.
What this would mean in the longer term?
In short, we expect regulations to become more onerous for ICO hosts and cryptocurrency exchanges. However, we also expect the application of law/regulatory requirements to become more predictable, stable, and certain (so there will be fewer cases where lawyers advice is essentially “the outcome could be many things, but we’re not 100% sure either way”).
It is our hope that global governments will take this opportunity to provide much-needed direction on the future regulatory environment of the technology. Greater clarity and certainty is needed.
It is also our hope (though a more optimistic one) that governments will see that the potential of the ICO capital raising model to ‘democratise’ access to alternative investing and start-up funding. Here, there is a policy trade-off between, on one hand, protecting smaller (often termed “unsophisticated investors”) from investments the government considers they do not fully understand, and on the other hand, allowing broader participation.
Currently, regulations tend to favour protection over participation (notably, in the case of securities law rules in the US and other jurisdictions). This is an opportunity for governments to reassess how these laws work.
This underscores another issue — that current rules around IPOs are complex, and compliance can be onerous. It is for this reason that ICOs looking to run a public token sale typically want their token to avoid being a security (so that, arguably, such rules might not apply).
Part of the reason for this complexity is that relevant securities rules were largely focused on large, well-funded entities looking to list on securities exchanges.
The rapid ascendancy of ICOs, and their ability to raise funds for start-ups that could not otherwise afford to run an IPO, is indicative of the need to have a sort of ‘half way house’, where regulatory obligations are less complex and significant, so as not to exclude smaller entities from raising via a wider range of willing participants.
This is a complex and heated issue, but in our view, is an area where the balance ought to be reconsidered, and Lupercal is active in trying to inform policy debates about these regulatory issues.
In the short term, regulation of the technology is usually seen as ‘bad’, and markets react accordingly. It does not need to be the case.
Regulatory direction would add much-needed certainty, which could (eventually) help markets stabilise somewhat, and encourage wider participation amongst investors waiting on the sidelines but fearful of the current level of risk. As an example, consider Japan. Regulations clarified requirements, increased certainty, and reduced risk. Global crypto markets reacted very positively, and Japanese exchanges carried a premium over foreign ones.
Importantly for ICOs, perhaps the most significant regulatory issue they face is that each country they sell to has a different legal framework, and could therefore require separate legal advice. This can be prohibitively expensive, time-consuming and is inefficient. A more co-ordinated, international approach could help to address this problem.
Watch this space — we will provide analysis once more is known, to help your projects stay ahead of key changes.
Lupercal Capital and its team of cryptocurrency experts has provided strategic consulting on ICOs and blockchain to existing businesses and start-ups to help them unlock the potential of crypto-technology.
If you’re interested in regulatory developments in cryptocurrency, check out CryptoRDB, the most comprehensive database on cryptocurrency regulation.