Common approach to cryptoasset regulation needed across EU, says study

According to a briefing note published by the European Parliament as part of an ongoing study, there are a number of areas where the regulation of cryptoassets could be strengthened, particularly in the European financial crime regime for virtual currencies, and in legislation governing investment into cryptoassets.

Financial services expert Rachael Preston of Pinsent Masons, the law firm behind Out-Law, said the note echoed wider discussions in the financial services sector about the regulation of cryptoassets.

“This serves as a useful indication of its key concerns and high-level recommendations. What this means on a practical level remains unclear, but what is apparent is that an EU-wide consensus must be reached before substantive and meaningful legislative changes can be enacted in this area,” Preston said.

The note (4 page / 197KB PDF) focuses on four key areas, outlining current issues and potential future regulatory solutions.

The note said some cryptoasset services had been brought within scope of the existing anti-money laundering and terrorist financial legal framework through the 5th Anti‑Money Laundering Directive in 2018, but European regulation had since failed to keep up with the ever-evolving environment for cryptoassets.

According to the European Parliament, the European financial crime regime for virtual currencies falls short of the current international standard for cryptoassets. Steps to enhance current legislation could include widening the current legal definition of “virtual currencies” to include other crypto-assets including tokens; and extending the legal definition of “obliged entities” to include crypto-asset to crypto-asset exchanges, certain trading platforms and financial service providers who are active in the distribution of crypto-assets.

The note’s authors also suggested that Europe could introduce an anti-money laundering watchdog to promote information-sharing, serve as a new knowledge pool, and provide a more independent approach to instances of money laundering and terrorist financing. In parallel to this, international and national enforcement agencies alike must be empowered to detect breaches in the law and take meaningful enforcement action to ensure the effective oversight of cryptoassets.

The study also examined the issue of cybersecurity, as ransomware attackers often ask victims to pay ransoms in cryptocurrencies because of the anonymised nature of cryptoasset transactions. The European Parliament’s note recommends the introduction of a number of measures to decrease the number of cybersecurity attacks involving ‘crypto-ransoms’, including imposing minimum standards for cybersecurity, improving cybersecurity awareness, and blacklisting crypto-coins used to pay a crypto-ransom from future transactions.

The European Parliament noted that currently EU laws do not prevent financial institutions from engaging in activities involving cryptoassets. However, it said that if an institution were to engage in such activities, then it could be exposing itself to significant financial and regulatory risk. This is because most cryptoassets exhibit a high degree of volatility or have not yet proven to be truly resilient in times of financial stress. To mitigate some of this risk, it suggested that cryptoassets are deducted from an institution’s own funds from a prudential requirements perspective.

The study also considered the role central bank digital currencies (CBDCs) could play in helping decriminalise the cryptoassets market. However, it noted that CBDCs are currently only being used in a small number of pilots and it was too early to tell if they could change the payments market.

The note said that ‘stablecoins’, linked to ‘stable’ assets such as commodities, had the potential to minimise the price volatility risks associated with traditional forms of cryptocurrency and offer benefits to financial systems, such as the ability to decrease cross-border transaction fees.

However, due to the fact that stablecoins have the potential to scale very quickly to achieve a global or other substantial footprint, they risk destabilising financial markets and disrupting monetary policy.

The note also looked at investment in cryptoassets, which currently falls largely outside the scope of EU regulation. The European Parliament said in order to create a consistent approach to the regulation of crypto-assets and to ensure adequate investor protection across the EU, a common view on the legal qualification of crypto-assets as financial instruments was required.

The note emphasised the need for the law to reflect the unique characteristics of the crypto-sector, to allow for an effective application of financial regulation. For those crypto-assets that do not fall within scope of the definition, the rules should compel crypto-asset traders to make appropriate disclosures to investors before they make their commitment, it said.