EU-wide regulation ahead: New rules for crypto assets, digital assets, and stablecoins
Some first documents have been revealed about the new European regulation regime on crypto assets, digital assets, and stablecoins. Not too much is known so far, only some first insights and documents. According to these, the EU seeks to establish an all-encompassing regulation framework which, of course, also includes financial service providers, issuers etc. For example, the European Commission ultimately places digital/crypto assets within the existing financial market regulatory framework and ensures that services related to digital assets are regulated in a similar way to traditional assets. Also, to regulate the yet-to-launch Libra network, stablecoin projects will be significantly regulated if they are expected to have a systemic relevance. — Authors: Philipp Sandner, Johannes Blassl.
Since January 2020, business models dealing with digital assets (also known as crypto assets) such as Bitcoin have been regulated in Germany. More than 50 companies have notified BaFin that they are applying for a corresponding license to provide financial services regarding crypto assets. Germany is thus a pioneer in creating a secure legal framework for digital assets. However, the calls for a harmonized European regulation have rightly grown louder.
Now, plans at the European level to create an EU-wide framework for digital assets have also taken root.
The purely digital representation of values and rights on blockchain-based systems makes the creation and trading of assets much more efficient. In particular, existing intermediaries, such as banks or stock exchanges, are only needed to a limited extent in these digital transactions. At least they have to adapt their current infrastructure significantly. As a result, transaction costs can be reduced and the settlement time of assets will be accelerated.
The European Commission is now preparing a regulation that should answer various open questions about digital assets. In particular, it is intended to cover those digital assets that are currently not subject to specific regulations.
The declared objectives are to increase legal certainty for companies, ensure investor protection, and prevent criminal activities such as money laundering and terrorist financing. It is worth noting that the European Commission uses the legislative act of a regulation, which is directly applicable in all EU member states and therefore does not leave individual countries any leeway for implementation, contrary to what would be the result of a directive.
The regulation is intended to establish a uniform legal framework for digital assets and its immediate implementation on the EU-level. However, it leaves the individual member states little room for interpretation.
It will be exciting to observe the legal situation in Germany in this context since the German legislator decided on a national regulation on digital assets at the beginning of this year. How the upcoming EU regulation on digital assets is compatible with the new German regulation on digital assets remains to be seen.
Issuers of digital assets
Companies that already use digital securities (so-called security tokens) to finance their operations are already partially covered by current regulation. Nevertheless, the area of digital corporate financing will also be subject to new rules.
Currently, when securities (mostly shares and bonds) are issued, a securities prospectus must be published, which contains detailed information on the company and the respective security for potential investors. Similar rules are now to be applied to issuers of digital assets, who must publish a standardized white paper with information on the offered digital assets, which will be reviewed by the relevant national supervisory authority — in Germany, the BaFin. This is certainly a sensible requirement, as many digital asset offerings were lacking adequate investor information in the past. The so-called “initial coin offerings” (ICO) in 2017 and 2018, for instance, were rightfully subject to massive criticism. A striking example in this regard was the failed ICO of Envion. The Berlin Regional Court recently awarded compensation to a major investor in an initial ruling because the information on risk factors in the investment prospectus was incomplete.
Financial services for digital assets
Also, the planned regulation includes far-reaching consequences for services related to digital assets. In this context, the European Commission ultimately places digital assets within the existing financial market regulatory framework and ensures that services related to digital assets are regulated in a similar way to traditional assets. For many companies that are active in the field of Bitcoin and other digital assets, this will have a significant impact. However, it will also improve legal certainty and investor protection.
The debate about so-called “stablecoins” has been heated at least since Facebook announced its intention to launch Libra as its own payment infrastructure. Stablecoins are supposed to provide what crypto assets like Bitcoin have failed to achieve so far: Price stability. This is realized by making their value dependent on other assets, such as existing currencies or gold.
Crypto assets such as Bitcoin and Ethereum have the same technical foundation as stablecoins, by using blockchain technology, but differ fundamentally in concept. Bitcoin and Ethereum have a limited amount of supply in circulation and are therefore subject to high price fluctuations. Stablecoins, on the other hand, aim to digitally imitate money that is stable in value — i.e., less volatile — for instance, by pegging the price of stablecoins to traditional currencies.
The European Commission now announced comprehensive regulation for stablecoins in its package of measures. This is not a surprise. The US government also takes a critical view of endeavors like Libra. If these digital currencies were accepted as a means of payment by the population at large, a kind of substitute currency could be created that would challenge the state’s monetary monopoly. The extent to which the EU will allow digital substitute currencies with regard to the Euro remains exciting. In any case, the European Commission now intends to introduce comprehensive regulation for stablecoins.
It is to be welcomed that, following the German legislator, the European Commission now also recognizes the necessity for a legally secure framework for digital assets and is willing to act accordingly. Furthermore, it is positive that the declared aim of the upcoming regulation is to promote the dissemination of digital assets and related services further. This demonstrates that digital blockchain-based assets are the future of European financial markets, now officially acknowledged on the European level as well. Therefore, of course, the same standards regarding investor protection and financial stability must be applied. The impact of the new European rules on small, innovative startups and also on large systemically important financial organizations will be significant.
Prof. Dr. Philipp Sandner is head of the Frankfurt School Blockchain Center (FSBC) at the Frankfurt School of Finance & Management. The expertise of Prof. Sandner includes blockchain technology in general, crypto assets, distributed ledger technology (DLT), Euro-on-Ledger, security tokens (STOs), digital transformation and entrepreneurship.
Dr. Johannes Blassl works as a lawyer in Frankfurt in the field of banking and capital markets law. He advises companies and banks on the use of blockchain technology in the financial sector. In addition to his work as a lawyer, Dr. Johannes Blassl is a lecturer at the EBS Law School in Wiesbaden and the Universities of Applied Sciences in Fulda and Mainz.