The Breakdown - The EU Has Now Become the Global Crypto Regulatory Leader

Episode Date: April 23, 2023

On this week’s “Long Reads Sunday,” NLW reads:Why the EU Has MiCA and the US Has Securities Laws Confusion - Daniel Kuhn  Is Europe’s MiCA a Template for Global Crypto Regulation - Dea Markova Enjoying this content?   SUBSCRIBE to the Podcast Apple:  https://podcasts.apple.com/podcast/id1438693620?at=1000lSDb Spotify: https://open.spotify.com/show/538vuul1PuorUDwgkC8JWF?si=ddSvD-HST2e_E7wgxcjtfQ Google: https://podcasts.google.com/feed/aHR0cHM6Ly9ubHdjcnlwdG8ubGlic3luLmNvbS9yc3M=   Join the discussion: https://discord.gg/VrKRrfKCz8   Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW   “The Breakdown” is written, produced and narrated by Nathaniel Whittemore aka NLW, with editing by Michele Musso and research by Scott Hill. Jared Schwartz is our executive producer and our theme music is “Countdown” by Neon Beach. Music behind our sponsor today is “Foothill Blvd” by Sam Barsh.  Join the discussion at discord.gg/VrKRrfKCz8.

In the wake of one of the most tumultuous years in crypto history, the conversations happening at Consensus 20203 have never been more timely and important. This April, CoinDess is bringing together all sides of the crypto, blockchain, and Web3 community to find solutions to crypto's thornyest challenges and finally deliver on the technology's transformative potential. Join developers, investors, founders, brands, policymakers, and more in Austin, Texas, April 26th to 28th for Consensus 2020. Listeners of the breakdown can take 15% off registration with Code Breakdown. Register now at Consensus.coindex.com and join CoinDesk at Consensus 2023. Welcome back to The Breakdown with me, NLW.

It's a daily podcast on macro, Bitcoin, and the Big Picture Power Shifts remaking our world. The breakdown is produced and distributed by CoinDes. What's going on, guys? It is Sunday, April 23rd, and that means it's time for Long Read Sunday. And of course, if you've been listening to the show for the last couple weeks, know that this is the very last Longreed Sunday on the Coin Desk Podcast Network. A few weeks ago, I announced that the breakdown was becoming the breakdown network. In addition to the breakdown's coverage of big picture power shifts, we launched a new show about the Cambrian explosion of building on Bitcoin called Bitcoin Builders, and I also started an AI-focused version of the breakdown

called the AI breakdown. I've known for a little while that I wanted to expand this focus on big picture power shifts outside of just Bitcoin, and even the macro, stuff we touch on this show, and because of that, our excellent partnership with CoinDesk is coming to an end. The details, as you've heard, is that after today, you will have to subscribe to the breakdown-only feed if you want to continue getting the breakdown. The breakdown will no longer be distributed through the CoinDesk Podcast Network feed. But I think at this point, you guys all already know that, and so what I'd like to say is a heartfelt thank you to CoinDesk for three years of an excellent partnership. I have nothing but respect for the team there, and I am so excited

to see what they do with their podcasts, with their media, and the company as a whole in the future. For all of you traveling to consensus this week, I hope you have a wonderful time. But for this last Long Reads Sunday, we're going to actually shift our focus a little bit farther away than Austin, Texas. Yes, we are flying all the way over to Brussels and to the EU to discuss the landmark MECA legislation that was voted in by the European Parliament earlier this week. I'm going to read two pieces on Mika, and the first one of the first one. First is by CoinDesk's Daniel Kuh and is called Why the EU has MECA and the U.S. has securities law confusion. The European Parliament went ahead and did it.

Today, after years of deliberations and at least two official delays, the landmark Markets in Crypto Assets or Mika Regulation Framework was voted in. European Union legislators also passed a separate crypto-related rule, known as the Transfer of Funds Regulation, that imposes stronger surveillance and identification requirements for crypto operators. The rules were described as a world-first by the European Commission's Mayreid McGinnis and also a quote, end of the Wild West era for crypto assets, according to Green Party lawmaker Ernest Erdison. The laws, which will be enforced at the state level, still need to be officially approved

by the super-governing body called the EU Council, but are just about cleared to take effect next year. The Council's approval is more of a formality at this point, considering it already approved the text of the law last year. For many, Mika represents a crucial step forward for the crypto industry. It's the first major attempt to provide a comprehensive set of rules for crypto companies, so they know in advance what they can and cannot do, and where their responsibilities lie if they want to operate in the 27-nation's strong trading block.

The European Union hopes it sets the global standard, and in some sense, is worried about Mika's effectiveness in the EU if similar rules are not adopted everywhere. In short, Mika requires crypto firms, like wallet providers and exchanges, to be licensed by the EU, and comply with money laundering and terrorism finance safeguards if they want to serve EU-based customers. Some have balked at the reporting standards which will undoubtedly weaken privacy for crypto users in the name of customer safety and national security. But considering how regulatory

uncertainty has damped the crypto industry's ability to grow over the past decade, that's been a recurring line from crypto lobbyists and advocates, the move brings some amount of welcome transparency and stability. Binance CEO, CZ tweeted his support, calling Mika a, quote, pragmatic solution with which his exchange will comply. All this is in comparison to the two other massive crypto markets, the U.S. and China. At least on paper, China has officially banned all crypto activity, but recent smoke signals suggest that freeze could thaw, at least in a Hong Kong financial sandbox. The country has not been able to stamp out crypto trading or mining entirely, and legitimizing some portions of the industry could be a boon to those looking to return.

Meanwhile, in the U.S., there seems to be a coordinated effort of elected representatives on elected regulators and policymakers of both major political parties, as well as the Federal Reserve and the Biden administration, crypto out of the wider economy. It seems to be a part of what President Joe Biden called a whole of government approach to dealing with crypto in an executive order at the beginning of 2022, before the worst excesses and calamities of the year came to light. There are still authorities in the U.S. working to legitimize and regulate crypto, even if some high-powered officials like Gary Gensler, chairman of the U.S. Securities and Exchange Commission, are opposed to writing new rules. According to Gensler, the financial rules already on the books are clear enough to cover

the novel peculiarities of decentralized tech. Political infighting between those who want to give crypto time to find its legs, and those who prefer kneecapping it has left the entire industry worse for wear. Right now, Ether, the second largest cryptocurrency by market cap and the native token of the Ethereum blockchain, is in a situation similar to Schrodinger's security, stuck in a superposition of being both lawful and not, essentially because Gensler has said Ether may or may not have fallen a foul of the Howey-test definition of a security. Such legal insecurity has led the chief executive of Coinbase, the largest U.S. crypto exchange, to say it may have to leave the country. You can say it's an empty-eastern,

threat, considering Coinbase's businesses built around extracting fees from U.S. customers, but Brian Armstrong is hardly alone. In all fairness, Gensler is calling for common sense oversight of increasingly powerful financial rails. Boil down what he wants for exchanges to register with the SEC and bulk up their customer identification systems, and I'm sure it's not too far off from the EU's new standards. Of course, the difference between the EU and the US is that one took a whole of government approach to dealing with crypto, while the other merely says it will. All right, great little overview from Daniel there. The one area where I would differ is this last paragraph, which will surprise basically none of you. I think the big difference between the EU and the US here

is not that one took a whole of government approach, and the other merely says it will. It's that there is a big portion of one of those governments that thinks that any regulation or rules are legitimating to the industry, and thus should be opposed. It appears that that position, which was quiet last year, but which derailed things like the stable coin bill, has become more endemic on the left, and more willing to poke its head out into the open. It's one thing to have disagreement about the right ways to regulate something. It's another to have disagreement about whether that thing should be allowed to exist at all. Next, we turn to another piece in CoinDesk from Di Markova. The piece is called, is Europe's Mika a template for global crypto regulation?

D writes, today the European Parliament approved the European Union's crypto assets framework, the markets and crypto assets regulation, or Mika. It was a non-event in that the outcome of the vote was expected. Yet it is momentous because it gets the EU's 27 members closer to being the first in the world to having a comprehensive crypto law. With just a couple of final administrative steps outstanding, the enforcement clock will start ticking in June this year, giving 12 to 18 months for the rules to kick in. For the avoidance of doubt, the rules were agreed upon last summer. It took this long to clear the 571-page law through the EU's legal and translation services. That's all there was to the delay, despite conspiracy theories and rumors that something darker was afoot. Legal and compliance

team should study the final text to make sure the details they captured last year, when the text was agreed upon, was agreed upon politically, didn't change under the scrutiny of the legal services, but changes will be marginal. Is Mika the best that the regulatory world has to offer? The market is as positive as a market can be about regulation. Through booms and busts, U.S. enforcement frenzies and layoffs, the centralized crypto market has fallen in love with Mika. It offers a license tailored to crypto asset services and stablecoin issuers that is passportable across 27 EU member states and 450 million people. It deliberately refrains from regulating decentralized finance or non-fundable token activities. It borrows from capital markets regulation,

the 2014 markets and financial instruments directive, but does not copy it. For example, there are no suitability tests to divide between knowledgeable and non-knowledgeable crypto investors. Rules on stable coin issuers will give consumers confidence that their tokens are properly reserved and always redeemable. While banks, custodians, and asset managers are currently wary of the reputational risk of dealing with crypto, Mika stands to build institutional comfort with crypto as an asset class. Mika is legislation written by competent technocrats who serendipitously timed the negotiations with the bull market and thus captured political interest in optimism that has since vanished in the EU. In my opinion, Mika is a politically

acceptable and workable compromise, building on existing rules frameworks. It was important to get it done now that the market is mature enough and profitability pressures are testing governance and risk management. It gives entrepreneurs certainty, and it stops policymakers from a knee-jerk reaction to an industry issue. One key weakness. By choosing to rely on available regulatory frameworks, the commission set MECA to regulate token issuers as entities, not token exchanges as activities. That is, the requirements are on the issuer, regardless of how the token is used. This, I believe, limits how future-proof Mika is. Regulatory professionals will recognize these terms. They have a history. Over the past decade, the mantra for authorities from Europe to Asia has been to adopt to the

unbundling of financial services by creating activity-based, not entity-based regulation. For example, we now focus on the activity of Buy Now Pay later specifically, rather than just on banks as a type of entity. Issuing tokens as bearer instruments makes this possible. The issuer is not in charge, or not thus far in charge, of determining whether their token is used to pay or to invest. The EU squared this circle by focusing on probabilities. It said that a token pegged to a currency is more likely to be used for payments than anything else, so it should follow that regulatory framework. In EU language, this is an e-money token, or EMT. A token that fluctuates freely is more like an investment and is regulated as such. A lot of political energy was spent on tokens pegged to baskets

of currencies, commodities, or other assets. This was Europe chasing the ghost of Facebook's Libra Stablecoin experiment, while the market was busy moving on. The rules on these assets are complicated and opaque in their attempt to address both the payments and the investment use case. This points to how crypto complicates the normal payment versus investment distinction. Mika level two technical rules will seek to draw a clearer line, but it will be difficult. There are 20 technical standards to be written for Mika, and this may be one of the more complex ones. Perhaps by setting its legal framework, the EU can create the market behaviors anticipated in

the legislation, i.e. what token is to be used for payments, and what is for investment. Finally, while the market function of EMTs can be comparable to that of e-money, their technology is like other tokens. So far, the EU has been flip-flopping on technology neutrality. For anti-money laundering purposes, because of their underlying technology, EMTs are treated differently from e-money. But in June, the commission will suggest that EMT should offer the same consumer protections as e-money, including reversible payments despite their underlying technology. Will MECA become a global template? For international companies, the key question is when and how the global crypto order will be established. Regulators are

asking themselves the same. For a market as digitally accessible as crypto, there are very few rules in Europe that can protect EU citizens from subpar services offered from abroad. This would be particularly true if a non-European exchange chooses to offer a hyped-up token, e.g. Terra's Luna, which collapsed spectacularly last summer, and Europeans flock to it without solicitation. The international framework is being established by the Financial Stability Board, and will have to be rolled out by the G20 members. Because Mika came first, the EU is very keen that the FSB aligns. Learning a lesson from the FTX scandal, the FSB might take a tougher stance on the commingling of activities and funds. In parallel, the UK, now outside the EU, is setting its own stable coin and crypto asset service rules, similar to Mika. In short, Europe has a

good chance to export Mika, albeit with a time lag. But the combination of this time lag and the bare market may in the meantime expose companies to erratic regulators and consumers to unstable businesses. All right, so thanks Dee and Daniel for your pieces. It probably won't surprise you that my take on all of this is kind of that a regulation in the hand, even if imperfect and incomplete, is worth about 20 in the bush. While U.S. regulators

and politicians gumflap and jawbone endlessly, the crypto industry is simply moving on. Brian Armstrong put it crisply and bluntly. When every few weeks the SEC says one thing and the CFTC says another, how is a company supposed to deal with that? But again, we come back to the fundamental issue.

And really, I am very appreciative to Professor Hillary Allen for finally airing what so many feel, which is that crypto should just be banned. At least we now have that conversation out in the open, rather than it being the secret lurking thing behind all indecision and immobility. The reason I like it out in the open is that this is America, and we don't ban things because we don't like them. Freedom of choice in all its aspects is a huge part of what it means to be in this country. and call it optimistic or naive, I believe that at the end of the day, the current political

unfavorability of crypto will not beat out the fundamental belief that American consumers should be allowed to choose what they invest in, where they spend their money, and how they use their time. But we are in the thick of the battle right now, and I don't anticipate it to get very much better very soon. At least as we are, other parts of the world are putting together cogent templates for what regulation might look like. So I guess as we have, we have to be able to be. So I guess as we head into the summer, see you in Europe. Until tomorrow, guys, be safe and take care of each other. Peace.