The EC consults on existing cryptoasset regulatory framework and considers a separate EU framework for cryptoassets outside the current scope.
By Stuart Davis
On 19 December 2019, the European Commission (EC) launched a public consultation to review the suitability and effectiveness of the current EU regulatory framework applicable to cryptoassets. The consultation will examine cryptoassets that are within the scope of the framework (In-Scope Cryptoassets) and determine whether a separate EU regulatory framework should be adopted for cryptoassets that do not currently fall within scope (Out-of-Scope Cryptoassets), either by introducing an EU directive (which would need to be incorporated into Member State laws) or an EU regulation (which would be directly applicable across the EU). The EC also published an inception impact assessment, which explains the rationale behind the consultation and the expected impacts of a new EU regulatory framework for Out-of-Scope Cryptoassets.
The problem the EU consultation aims to address
The overarching problem with the regulation of cryptoassets in the EU is the lack of clarity on how cryptoassets are currently treated and should be treated.
In-Scope Cryptoassets are typically deemed in scope because they qualify as “financial instruments” under the Markets in Financial Instruments Directive (MiFID II) or “e-money” under the Electric Money Directive (EMD2). Given that cryptoassets possess unique features and technologies that traditional financial instruments do not have, it is unclear as to whether financial services requirements under the current framework are suitable for In-Scope Cryptoassets. For example, cryptoassets rely on distributed ledger technology (DLT), and there are provisions in existing legislation that may preclude the application of certain technologies such as DLT. Furthermore, different interpretations and applications of existing requirements to cryptoassets can lead to divergent approaches by national competent authorities, resulting in uncertainty, difficulties with the cross-border provision of cryptoassets services, and a fragmentation of the existing EU regulatory approach applicable to In-Scope Cryptoassets. In light of these problems, the consultation aims to assess whether targeted changes, e.g., by way of publication of Q&As from the European Supervisory Authorities or amendments to existing EU financial services legislation/regulation, are necessary to address risks around In-Scope Cryptoassets and to promote a harmonised EU approach.
Out-of-Scope Cryptoassets are typically out of scope because they do not qualify as financial instruments or e-money under MiFID II and the EMD2. Out-of-Scope Cryptoassets are problematic in that their lack of regulation could result in risks to investor protection due to consumers’ lack of understanding of cryptoassets generally, especially cryptoassets with complex structures. A lack of regulation could also lead to heightened risks to market integrity in the secondary market of cryptoassets, where their novelty and complexity is likely to result in increased risks of fraud and market manipulation. Furthermore, in the absence of regulation, some Member States have established, or are considering establishing, a bespoke regulatory framework for Out-of-Scope Cryptoassets. This is problematic as the proliferation of national approaches would lead to greater market fragmentation, would contradict the principles of harmonisation, and could threaten the level playing field in the single market in terms of consumer protection, market integrity, and competition. As such, the consultation aims to assess whether a separate EU regulatory framework specifically for Out-of-Scope Cryptoassets should be mandated in order to address these risks and to remove cross-border barriers within the EU.
Expected impacts of a new EU regulatory framework for Out-of-Scope Cryptoassets
The inception impact assessment sets out the impacts, e.g., economic, social, etc., that are likely to arise if a new EU regulatory framework for Out-of-Scope Cryptoassets were to be introduced. For example, regulating Out-of-Scope Cryptoassets could result in an abundance of positive economic impacts as the market could benefit from the efficiencies of cryptoasset technologies (e.g., blockchain, tokenization of financial assets). Regulating Out-of-Scope Cryptoassets would also mean that consumers would be adequately protected. There is also likely to be increased access to finance for small companies, due to reduced legal barriers to the cross-border development of ICOs and STOs. Introducing a new regulatory framework for Out-of-Scope Cryptoassets may also lead to initial increases in compliance costs, but, ultimately, the EC believes that there would likely be lower compliance costs due to enhanced clarity on what constitutes Out-of-Scope Cryptoassets. In addition, by shedding light on what is considered to be Out-of-Scope Cryptoassets, fragmented regulatory approaches across Member States would likely be avoided.
The public consultation is open to feedback until 12 March 2020 and the impact assessment until 16 January 2020.
This post was prepared with the assistance of Bianca Lee in the London office of Latham & Watkins.