There is a great buzz around digital assets currently, with plenty of room for discussion on how blockchain technology is revolutionising the finance industry. Indeed, this week in the Netherlands IQ-EQ is sponsoring the inaugural Dutch Blockchain Week, a jam-packed national programme of blockchain-focused conferences, panels, workshops and hackathons. The initial volatility experienced by the asset class has passed, replaced by a move towards functionality and stabilisation. Technological developments continue, new token models are emerging, and the market is attracting much greater institutional adoption among players such as JP Morgan Chase, Fidelity and Citigroup. At IQ-EQ, we are certainly excited to witness the continued transformation of the international finance landscape, but we are also alive to the increasing calls for clearer and stronger regulation.
The classification challenge
If we consider how digital assets are being regarded across the globe, there is currently no international agreement on how a digital asset should be legally classified or regulated. In the United States, for instance, there is a three-prong test to determine whether a token is a security: (1) Is it an investment? (2) In a common enterprise? (3) With an expectation of profits from others’ efforts? If the answer is yes to all three, it is seen as a security. If not, it is considered an asset.
In other parts of the world, the Securities and Futures Commission in Hong Kong has regulated any type of dealings in digital assets that can reasonably be seen to hold the shape and form of securities. In Singapore, cryptocurrencies are not regarded as legal tender, but are instead regarded as goods so Goods and Services Tax applies. Mauritius, meanwhile, has urged caution about the use of digital assets in general, due to the historic volatility and illicit nature of the asset class. The jurisdiction has however ventured into the digital asset custody sphere with the introduction of a new regulatory framework for digital asset custodian services.
If we look at the position in Europe, the Netherlands has not officially made a stance on the classification of cryptocurrencies and it is currently perceived as a convertible digital asset with non-enforceable buying power. De Nederlandsche Bank (DNB) and the Netherlands Authority for the Financial Markets (AFM) therefore warn all users profusely to not use it to purchase goods or settle debts. In Luxembourg, crypto transactions are governed by the Law on Payment Services in the same way as traditional payments in fiat transactions. They are therefore strictly regulated by the Financial Sector Supervisory Commission (CSSF) as per any other financial activity and need to be approved by the Ministry of Finance.
When it comes to anti-money laundering and combating terrorist financing, there is a similar patchwork of national and international approaches. In the Netherlands, digital currencies do not fall under the Act on Financial Supervision (Wft), neither are they seen as currency for the purposes of the Anti-Money Laundering and Anti-Terrorist Financing Act (Wwft) – which leads to a problematic situation.
ICO vs STO
With all of this in mind, where do we stand in relation to Initial Coin Offerings (ICOs)? Similar to an IPO in the mainstream investment world, ICOs allow blockchain start-ups to raise funds to create a new coin, app or service. They are currently unregulated in most parts of the world due to the fast-growing nature of the technology. Regulatory sandboxes to find sustainable solutions are now established in a number of countries, including Singapore, the UK, Mauritius and now the Netherlands.
This method of fundraising enjoyed immense popularity in the second half of 2017 and also for a brief stint in the beginning of 2018. However, after the digital asset bust in early 2018, focus moved away from ICOs due to the lack of stability and protection afforded to investors. Instead, favour has turned towards Security Token Offerings (STOs), which digitalise and mimic the current securities issuance process. The future is taking a turn towards ultra-regulation, as the remaining jurisdictions try to prohibit the influx of opportunists trying to cash in on the success of ICOs.
Finding the right balance
In my view, we need to find the right synergy between blockchain pioneers and regulators. There is a risk of the ‘bull in a china shop’ parable, as innovators can make the mistake of challenging regulators head-on and sowing disruption from the get-go. It is interesting to see the stance adopted by regulators in the UK and Singapore: actively assisting the blockchain innovators in regulating new innovations, thereby providing a safe environment and creating full transparency on the part of the innovators.
Overall, when it comes to digital assets and blockchain, the term ‘digital disruption’ is rightly used, and the full implications remain to be seen. At IQ-EQ, we look forward to working with our clients as they continue to innovate and apply ground-breaking solutions to the benefit of their businesses and customers.
IQ-EQ’s digital asset expertise
At IQ-EQ we have a dynamic digital asset funds team that understands the digital currency, blockchain and DLT market and provides the support and services you need to launch and manage a fund in this innovative sector. Click here to find out more and get in touch.