The grand experiment in crypto compliance: What will the future look like?
Christopher Liu
5 min read
The crypto regulation discourse continues to take a new turn every week. From identifying the compliance gaps to keeping pace with the rapid innovation in the space, regulators are juggling a range of priorities, pressured to act fast as their crypto cases mount up. This is evidenced in the frequently shifting temperature among regulators globally, including the U.S. Securities and Exchange Commission’s lawsuits this week against Coinbase and Binance, marking an escalation of the regulatory crackdown on the industry.
As regulators continue their grand experiment to create a common taxonomy for crypto, many crypto-curious institutions and funds are biting their nails to see what the end result will look like. Especially with the frequently shifting temperature among regulators, such as Christine Lagarde’s evolving position from “Crypto is worth nothing” to “regulating crypto is an absolute necessity,” it is hard for the industry to ascertain what crypto compliance would look like in the long term.
Crystal ball no more
Not everything is unknown for crypto’s compliance journey. With the innate immutability of blockchain, the technology provides a real-time, permanent and accurate audit trail, and it is a popular belief that blockchain will have an impact on auditors.
There are also existing robust guidelines on anti-money laundering (AML) and know-your-customer (KYC) frameworks across international markets. Particularly, several financial hubs are making progress on building compliance frameworks for critical compliance risks associated with cryptocurrencies, such as money laundering and terrorism financing. In Europe, the landmark “markets in crypto-assets (MiCA)” rules were finally adopted by the European Council, alongside the dedicated rules for crypto AML. Similarly, Singapore governs AML, KYC and combating the financing of terrorism (CFT) under its Payment Services Act, and Hong Kong has introduced a new licensing regime, covering similar aspects.
In the United States, however, crypto companies face a challenging regulatory landscape. The lawsuits filed this week by the SEC against Coinbase and Binance underline the complexities of the regulatory landscape. These developments have implications for the broader industry, as they underscore the SEC’s intent to enforce compliance with securities laws. The outcomes of these cases could transform the crypto market by asserting the SEC’s jurisdiction over the industry, which for years has argued that tokens do not constitute securities and should not be regulated by the SEC.
Due to the emergence of robust guidelines, the popular perception that crypto has lesser AML and other compliance requirements, compared to its traditional counterparts, does not hold anymore.
If you take AML, for instance, the requirements for crypto and traditional finance are similar, encompassing various aspects such as customer due diligence measures, sanctions / AML screenings, and ongoing monitoring of transactions. The implementation of the “travel rule” further improves transparency to crypto transfers, allowing virtual asset service providers to identify counterparties and perform transactional screening on these transactions. The act of obtaining licensing under a regulation, such as Singapore’s Payment Services Act, essentially entails having to comply and implement all the necessary requirements that traditional partners undertake as part of their AML diagnostic programs.
As compliance and licensing are increasingly becoming a necessity, industry players are mapping robust regulatory pipelines against traditional financial ecosystems. This will ensure that industry players are well placed to conduct due diligence for digital asset clients, especially hedge funds and asset managers that have their own stringent compliance policy requirements. These efforts include establishing new regtech partnerships to ensure systems and tools are in place for AML best practices.
Finding the Rosetta Stone
Contrary to common belief, crypto has seen significant strides toward effective compliance, and there is no denying that it is in the best interest of industry and regulators to sustain the momentum. While there still remain challenges such as the lack of common taxonomy for crypto across multiple jurisdictions, the industry has been navigating the hodgepodge of local rules and requirements so far by adapting and innovating.
Regulators have also increasingly expanded their regulatory framework beyond the AML/CFT requirements to also implement a framework dedicated to user protection, as seen in the new guidelines in Hong Kong and recent consultation papers issued in Singapore. Such consumer protection measures include rules on how to offer (or restrict) offering of crypto products to retail investors, as well as rules on the segregation and safeguarding of client funds.
What lies ahead? In the long run, our focus should be facilitating a better understanding of crypto and how compliance can be applied to this newest fintech innovation. Such essential discussions will be crucial in establishing clearer compliance guidelines at an international scale and will allow us to avoid another exodus of crypto players as seen in the U.S.
Delving into topics such as crypto’s potential to innovate the financial landscape, blockchain analytics, and the fundamentals of effective crypto compliance, education will go a mile in laying the foundations to find a common language for crypto. This will also contribute to building a unified crypto framework that will enable smoother on-ramp/off-ramp transactions and liquidity flows, thereby achieving better financial stability.
From a regulatory perspective, jurisdictions that have embraced crypto and Web3 have proactively expanded the private-public sector partnership beyond AML/CFT measures. These regulatory bodies have reached out to the industry to develop a better understanding of where the industry is heading as well as to enhance their own understanding and knowledge of the sector — allowing them to better develop regulatory frameworks specific to the crypto industry.
Major crypto players must take responsibility, as experts in the field, to educate and build a responsible ecosystem. Through engaging in private-public partnerships to explore compliance best practices and unearthing RegTech innovation, our industry must lead the way in charting our own course to evolution, ultimately, instilling confidence and trust in crypto.
Such essential discussions will be crucial in establishing clearer compliance guidelines on an international scale. Ultimately, the goal is to foster a secure, compliant, and innovative industry that benefits both investors and businesses alike.
