Editorial
- MiCA risks fragmenting the $155 billion stablecoin industry, Hugo Coelho and Mike Ringer have warned.
- The warning comes ahead of new rules coming into effect at the end of June.
Hugo Coelho is Head of Digital Asset Regulation at the Cambridge Centre for Alternative Finance and Mike Ringer is Partner and Co-Head of the Crypto and Digital Assets Group at CMS. Opinions expressed are their own.
Dante Disparte, head of strategy at stablecoin issuer Circle, warned about the impact of the EU’s impending stablecoin regulation, attempting to distinguish it from an early 2000s concept that has become lost in tech lore.
“MiCA is not a cryptocurrency Y2K disaster that can be ignored,” Disparte wrote on the social network X on June 3. “It is truly a significant development. [are] Digital asset trading is underway in the world's third-largest economy.”
Also known as the “Millennium Bug,” Y2K referred to a glitch with the change of year to 2000 that threatened to wreak havoc on computer networks around the world.
Y2K was not a hoax, and many efforts were made to avoid its negative effects. But the “bug never bit” The Washington Post I posted it the next day, and today it's remembered more than anything for the apocalyptic atmosphere and hysteria that surrounded it.
It is fitting that Disparte contrasts this with what will and could happen in the crypto market when the regulation on electronic money tokens (the official name for single legal tender, which refers to stablecoins in the EU’s crypto asset market regulation) comes into effect on June 30.
EMT plays a key role in the cryptocurrency market.
They facilitate cryptocurrency trading by sitting on one side of most trading pairs, protecting investors from volatility and providing the collateral that fuels decentralized applications.
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In a large market like the EU, rules that affect its design or restrict its issuance, supply or trading will undoubtedly have an impact.
So far, the cryptocurrency market has not been affected by MiCA.
According to the Cambridge Digital Money Dashboard, the total supply of stablecoins has grown to more than $155 billion, up from $127 billion in January.
Supply share per issuer remains roughly constant, with the two largest stablecoins, USDT and USDC, accounting for over 70% and 20% of the market, respectively.
But if we look beyond the statistics, we see some movement.
Major cryptocurrency service providers have revealed plans to make changes to their stablecoin-related services in the EU in preparation for the regulation.
OKX was the first to move, announcing that it would remove USDT from its trading pairs.
Kraken later said it was reconsidering its position.
Recently, Binance announced that it would restrict the use of unapproved stablecoins by EU users on some of its services, although not initially for spot trading.
“So what is it about MiCA that could require changes to stablecoins as we know them?”
The inconsistency in responses suggests there is no common understanding of the impact of regulations.
Compared to the weeks and days leading up to the end of the millennium, there are far fewer obvious signs of panic, but arguably just as much uncertainty.
So what is wrong with MiCA that could call for change to stablecoins as we know them?
In our view, the main source of confusion is likely to be localization requirements for publishers.
For issuers trying to comply with the rules, this will be a much more difficult requirement to reconcile than the prudential requirements, which include a requirement to hold at least 30% of reserves, or 60% for larger EMTs, in bank accounts and split them among multiple local banks.
And this would be a more direct hit than the tough restrictions on the use of dollar-denominated stablecoins within the EU.
These are designed to shift the market towards euro-denominated stablecoins, but there is not much evidence of this yet.
Under MiCA, EMTs cannot be publicly offered in the EU and no one can seek authorisation for transactions in them unless they are issued by an EU legal entity authorised as a credit or electronic money institution, even though the authorisation regime for crypto asset service providers does not come into force until December 30th.
As mentioned above, some of the reserves also need to be localized.
Under such a regime, it is unclear how overseas stablecoin issuers, such as the dollar-denominated stablecoins that currently dominate the market, would be able to continue serving EU customers.
In theory, issuers could relocate to the EU and distribute EU-issued stablecoins to the rest of the world, but in practice this is highly unlikely.
MiCA’s stringent prudential requirements will put these issuers at a competitive disadvantage in many non-EU markets.
It is also difficult to understand why other jurisdictions do not retaliate by requiring issuers to localise in a similar way to the EU, thus fragmenting their markets.
An alternative would be to issue the stablecoin through two parallel entities, one in the EU serving EU customers and one overseas serving customers in the rest of the world.
This option, which is heavily touted in the cryptocurrency industry, comes with legal and operational complexities that have yet to be satisfactorily resolved.
Essentially, there are two challenges to be addressed:
The first is to maintain compatibility between two coins issued by two separate entities that are subject to different regulatory requirements and insolvency regimes and are backed by different pools of assets.
The second is to ensure that EU customers only hold coins issued by EU entities, including for secondary market trading.
Although the problem is more pronounced and pressing in the EU than elsewhere, it would be a mistake to dismiss it as an exclusively EU phenomenon.
Jurisdictions such as Japan, Singapore and the UK are also grappling with the question of how to regulate stablecoins globally.
Regulators need to ensure that investors under their supervision have sufficient protection and can redeem their stablecoins at par in a crisis, even if the issuer and reserves are stored overseas.
Financial history shows that this is only possible if rules are sufficiently harmonized to allow for regulatory respect, comparability and cooperation between supervisors in different jurisdictions.
An equivalence regime is more urgent and necessary in cryptocurrencies than in other sectors, as much activity is cross-border and digitalized.
Paradoxically, an immature and fragmented regulatory environment has further separated the two.
For some reason, MiCA is one of the EU financial services regulations for which there is no equivalence regime.
The UK and Singapore also continue to postpone equivalence agreements, and the effectiveness of Japan's equivalence mechanism has yet to be tested.
The EU is a pioneer in cryptocurrency regulation, highlighting the challenges behind regulating stablecoins globally.
The company's blunt approach threatens to disrupt a $155 billion market.
We will soon find out whether June 30, 2024 will be the new January 1, 2000 for EU stablecoins, or even worse.
