Crypto assets regulation in 2023: Insights from Australia and other jurisdictions

It has been a challenging 12 months for crypto assets, with a number of high-profile collapses eroding trust in the sector ─ including Terra's LUNA tokens falling from over USD$100 to less than $1, and the FTX debacle resulting in more than USD$8bn funds being lost. Applying the Gartner Hype Cycle, it is clear that blockchain/distributed ledger technology (DLT) has now passed the "peak of inflated expectations" and entered the "trough of disillusionment". How long the technology remains in the trough before it moves into a truly productive phase is an open question. While some commentators have questioned the usefulness of the technology, others now identify it as a long-fuse innovation, a "foundational" technology that will take time to find its place but ultimately have a transformative impact on economic and social systems¹.

In terms of regulation, to date, governments and regulators have tended to take a wait-and-see approach by incrementally extending existing financial services regulatory frameworks. However, they now appear to be shifting towards a more comprehensive outlook and aiming to develop specific regulatory regimes for DLT/blockchain value transfer systems. Even in general private and commercial law there is significant movement, with some jurisdictions starting to enact statutory amendments with a view to facilitating the tokenisation of on-chain and off-chain assets as well as their transfer and use as collateral.

In Australia, while progress towards a new regulatory framework has slowed, authorities continue to explore necessary changes to properly regulate the area.

Australia

In the year to date, there have been two key developments in the Australian regulatory landscape.

First is the Treasury's consultation paper on a proposed token mapping framework to guide government and regulators on developing appropriate regulatory settings for the crypto sector. Token mapping seeks to build a shared understanding of crypto assets in the Australian financial services regulatory context. It aims to explore how existing regulation applies to the crypto sector and to inform future policy choices. Treasury is still considering the nearly 100 submissions received and the outcomes are expected to inform the design of a future licensing and regulation framework for digital asset service providers.

The second key development is the Digital Assets (Market Regulation) Bill 2023, a private member's bill introduced by Liberal Senator Bragg, who also chaired the landmark 2021 Select Senate Committee on how Australia could become a leading digital economy. While there is no indication that the current government will support the Bragg bill, it does provide a potentially useful model for sector-specific legislation. It proposes to introduce:

1. a definition for "digital assets" as "a digital representation of value or rights which may be transferred and stored electronically, using distributed ledger technology or similar technology";
2. licensing requirements for digital asset exchanges, including the maintenance of a minimum amount of capital and a proper segregation of clients' funds;
3. licensing requirements for digital asset custody services;
4. licensing requirements for stablecoin issuances; and
5. reporting requirements regarding the use and flow of foreign central bank digital currencies in Australia.

It is noted that the bill focuses on the operators of the digital currency market being the exchanges, custody holders and the issuers, rather than the digital assets themselves. Further, the new proposed legislation aims to leverage and draw from rules and requirements currently existing under the Australian financial services (AFS) licence and Australian credit licence frameworks.

The Senate Economics Legislation Committee was expected to provide its report on the proposed bill by 2 August 2023, however this has now been extended to 4 September 2023.

Other notable moves

As an indication of the increasing regulatory focus on this area, ASIC cancelled the AFS licence of Binance Australia in April for offering the unlicensed trade of crypto derivative products to retail investors.

Additionally, the Federal Government introduced a Strategic Plan for Australia's Payments System in June 2023, which considers the potentially transformative role of digital currencies, including central bank digital currencies, for Australia's payment landscape.

Europe

Looking overseas, the European Union passed the Markets in Crypto-assets Regulation Act (MiCA) in April this year. This marks the first time a leading economy has introduced a comprehensive framework for crypto assets. MiCA applies to all persons "engaged in the issuance, offer[s] to the public and admission to trading of crypto-assets or that provide services related to crypto-assets in the Union", where "crypto-assets" are defined as "a digital representation of a value or of a right that is able to be transferred and stored electronically using distributed ledger technology or similar technology". It is noted that while the regulations cover a wide variety of asset-referenced tokens, electronic money tokens and utility tokens, they do not extend to non-fungible tokens. Key changes introduced by MiCA include:

1. an obligation on issuers of crypto-assets to publish a detailed whitepaper before the assets may be admitted to trading platforms;
2. requirements for marketing communications relating to:

• the offering of crypto-assets;
• admission of crypto-assets to trading platforms;
• conduct rules for crypto-asset issuers; and
• professional and ethical obligations for issuers of crypto-assets;

3. prohibitions on insider trading and market manipulation in relation to the trading of crypto-assets; and
4. requirements that crypto-asset issuers demonstrate satisfaction with conflict of interest and compliant handling processes, together with minimum capital adequacy requirements and adequate policies and procedures governing the custody of reserve assets.

It is also noted that crypto-asset providers under MiCA would need to comply with the recently adopted EU Digital Operational Resilience Act, which introduced a comprehensive framework on digital operational resilience for financial institutions. All businesses must ensure that they are able to respond to and recover from all types of information and communication technology threats and disruptions.

United States

The United States continues to be the most active market for crypto assets and actions by regulators there often have flow-on effects in other jurisdictions. Recent developments in the United States include the following:

1. June 2023: The Securities Exchange Commission (SEC) initiated proceedings against Binance for operating an unlicensed securities exchange and clearing agency and misrepresenting trading controls.
2. June 2023: The SEC initiated proceedings against Coinbase for operating an unregistered securities exchange and clearing agency.
3. July 2023: the highly anticipated judgment in SEC v Ripple was handed down by the United States Southern District Court of New York which found that Ripple's XRP token did not violate securities laws by trading on exchanges. However, the court found that the sales of XRP tokens to institutional investors were in fact investment contracts.
4. July 2023: Draft legislation intended to clarify the regulatory framework applicable to digital assets in the United States and legislation to establish a comprehensive and unified regulatory scheme for digital assets and digital asset derivatives was approved by the (majority Republican) House Financial Services Committee:

• The Financial Innovation and Technology for the 21st Century Bill, which proposes a regulatory framework on the issuing and trading of digital assets at the U.S. Securities and Exchange Commission and The Commodity Futures Trading Commission, expanding the latter’s oversight of the crypto industry; and
• the Blockchain Regulatory Certainty Bill, which proposes to explicitly exempt blockchain service providers and developers from being deemed a "financial service provider" or a "money service business" if they do not take custody of customers’ funds.
• The Clarity for Payment Stablecoins Bill of 2023, which presents a clear regulatory framework for the issuance of payment stablecoins, establishing necessary federal guardrails while prompting innovation.

It is noted that the passage of the bills remains highly uncertain given, to date, lack of bipartisan support.

Other jurisdictions

While regulatory reform progresses in major economies, other smaller economies have also introduced specific crypto asset regulations.

Malta is a stand-out example of a smaller economy taking a very progressive approach to cryptocurrencies, positioning itself as a global leader in crypto regulation. While cryptocurrencies are not legal tender in Malta, they are recognised by the government as “a medium of exchange, a unit of account, or a store of value.”

Malta's framework is split into three key acts:

1. The Virtual Financial Assets (VFA) Act: The VFA Act regulates initial digital asset offerings and services related to digital financial assets. The VFA Act provides definitions, licensing requirements, and regulations concerning disclosure, transparency, and compliance.

2. The Malta Digital Innovation Authority (MDIA) Act: MDIA was established to oversee and certify DLT platforms, related service providers and technology innovation more broadly. This includes ensuring adherence to standards related to cybersecurity, system auditing, and technology arrangements.

3. The Innovative Technology Arrangements and Services (ITAS) Act: The ITAS Act outlines the requirements and procedures for the registration of technology service providers and the certification of technology arrangements, including certification of "Innovative DLT Technology Arrangements", registration of DLT and smart contract system auditors, and registration of technical administrators of "innovative technology arrangements".

Other countries that have adopted specific crypto asset regulation include El Salvador, Peru, Switzerland, Germany, Estonia, Netherlands, Slovenia and Saudi Arabia.

Summary

While the past year might have been challenging for the crypto asset industry, two key themes have emerged: the need for fit-for-purpose legislation to properly regulate the industry, and the importance of clear and fairly balanced guidelines to support sustainable long-term development of the industry as it rebounds from 2023 lows and matures into a mainstream technology.

While Australia has been making progress on developing a fit-for-purpose framework to properly regulate crypto assets, progress has been slower than expected, especially when compared with jurisdictions such as the EU. For now, the next steps for Australia are to provide its report on the Digital Assets (Market Regulation) Bill and for the Treasury to share its proposed approach to introducing a licensing and regulation framework for digital asset service providers in the next few months.

¹ ‘Lex Cryptographi(c)a,’ ‘Cloud Crypto Land’ or What? – Blockchain Technology on the Legal Hype Cycle, Michael Anderson Schillig, Modern Law Review (2023) 86(1) MLR 31–66.