Walking the tightrope on crypto regulation

Alex Reddish, MD at payments SaaS provider Tribe, argues that the UK government needs to strike a delicate balance on regulating crypto

by | May 6, 2022 | bobsguide

On the 31st March, the deadline for the Financial Conduct Authority’s (FCA) crypto register expired, though that has now been extended for a “very small number of firms”. Of the 106 firms that joined the temporary regime, just 33 are now on the permanent register (at last count). Those that haven’t made the switch will have to suspend their crypto dealings, though some are considering moving abroad.

The FCA is trying to create a better regulatory environment so as to foster safer innovation. In doing so, it may have gone too far, creating a regulatory environment that just doesn’t work for crypto. What needs to change so that regulation supports and fosters a thriving crypto industry?

What went wrong?

In general, crypto businesses want to be regulated. When over a hundred crypto businesses joined the temporary register, each had a choice—join the register and continue to trade based in the UK, or move elsewhere. These are young agile businesses where moving would be relatively straightforward, especially if they felt they had no future in the UK. And as the FCA is trying to lead in this area, there are many places where a business could move to and avoid any restrictions.

But regulation will drive trust, and trust is something crypto needs to gain consumer confidence and mainstream acceptance. Crypto businesses are keen to be able to say that they follow FCA guidelines, and many were confident that they would be able to meet the requirements.

This was no small undertaking—applications meant dozens of meetings with the FCA and expensive legal help to ensure the applications would meet the strict rules. According to reports, some applicants were unhappy with the slow pace of feedback and approvals. Admittedly, COVID meant that usual processes were disrupted, and the FCA has recruited staff to cope with this new workload. But for many applicants there were just two outcomes—either the application was refused, or the business gave up and withdrew.

This has, understandably, led to frustration. According to Ian Taylor, the Executive Director of Crypto UK, “Many in the industry believe it shows a lack of a fair and consistent approach.” Certainly it means that for many businesses they will either have to stop trading in crypto or move elsewhere, despite the initial willingness to be regulated in the UK. And this lack of regulation may, ironically, leave the UK consumer at a disadvantage.

Supporting, not smothering

The FCA should be commended for trying to move the needle—and it’s important to remember the body is one of only a few to take these proactive steps. Where other jurisdictions have simply banned crypto or ignored it, the FCA is actively engaging with the industry. At the same time, some crypto businesses may feel aggrieved, especially when their situation is compared to how the FCA delayed the requirement for Open Banking APIs and Strong Customer Authentication more than once.

Crypto deserves to be taken seriously by regulators, and that means not just addressing the risks, but also the opportunities. It also means understanding the difference between a large financial institution and a crypto business. For example, the FCA can see an employee taking multiple roles as concentrating risk, but smaller businesses often cannot avoid this—in fact, it’s this sort of efficiency that means they can move far faster than other financial institutions. Asking the same of both types of businesses is likely to stifle innovation.

Similarly, the FCA has strict money laundering requirements, and is right to demand that both large and small businesses follow these. But without the resources of large institutions, smaller businesses are always going to struggle. But large institutions have been found wanting in these areas in the past, this is far from simple for anyone to get right. Helping businesses achieve this, and encouraging innovation in this area may be a better approach.

The pioneering regulatory environment necessary for crypto was never going to happen overnight. But the UK does have a head start—its fintech scene and its regulatory landscape has always been seen as the benchmark for innovation and technical development. This has fostered the growth of crypto and digital assets, and shows that UK financial innovation is not bound by typology.

By 2025 analysts estimate the blockchain market alone will be worth around $40bn. It’s impossible to ignore the inevitable, and regulators should be building on earlier work by ensuring that the UK is well placed to incubate and deliver on some of the early promise of these new technologies. There is huge growth in the number of exchanges and software providers servicing both crypto and fiat currencies—the key now is to build the technology infrastructure that bridges the gap between everyday spend and digital assets. In time people will want to, for example, spend their crypto with retailers as opposed to having to trade out or sell assets to enable this.

The FCA is right to regulate, and the industry is right to want crypto regulation. The risk now is that by creating such a tough regulatory environment at home, crypto businesses will move elsewhere—but will still serve UK customers. The FCA can recommend not dealing with unregistered businesses, but getting that message out is costly and not guaranteed to be effective.

The UK is moving in the right direction in other ways. There are plans to make the UK a “crypto hub”, in much the way it is already a fintech hub. There are moves to introduce stablecoin regulation and experiments with NFTs. This is all positive. The same positivity needs to be applied to crypto regulation to foster this dynamic young business sector.