While US regulators like Securities and Exchange Commission Chairman Gary Gensler maliciously claim that “there has been clarity for years” when it comes to cryptocurrencies, the European Union took real action in April when it passed the Markets Act Crypto Assets Adopted ( MiCA) Regulatory Framework. While it wasn’t perfect, it was a crucial step in the right direction for our industry and a signal to the US that if it continues to stand still and rely on outdated regulations, it will fall behind.
Much like Bitcoin (BTC) used old technological, economic and financial concepts to build something new, regulators need to overhaul existing regulatory and financial security frameworks to create a prosperous environment for participants. Our existing financial and regulatory frameworks contain many useful and valid elements.
Related: An ETF will bring about a revolution for Bitcoin and other cryptocurrencies
On the other hand, there are many issues in the blockchain industry that the traditional regulatory framework does not adequately address – leading to frustration and wasted resources as lawyers argue over possible interpretations of statements instead of adhering to clearly defined laws.
Although practical applications of Web3 have shown great potential, it remains a remix of this traditional financial system – albeit a remix dedicated to improving efficiency, openness and fairness for all participants.
MiCA: A necessary but mediocre step forward for regulation
Despite the complex language surrounding financial and securities regulations, the situation is actually simpler than it appears. In short, our regulations seek to prevent people from doing evil to other people. Examples could be terrorists sending or receiving money to facilitate terrorist attacks, or scammers making fraudulent claims against investors. This includes ensuring that licensed individuals and companies are held accountable according to a set of operating standards that have evolved throughout the history of our modern financial markets.
In a more technical sense, the laws governing these operational standards are as follows:
- Anti-Money Laundering and Terrorist Financing Laws
- Securities and Commodity Laws
- regulation of market infrastructure
Although the SEC insists that existing regulations comprehensively cover these three issues, many elements manage to slip through the cracks in these roughly 100-year-old definitions, rules, and penalties. We can largely attribute this problem to two things.
One of them is the categorization of digital assets. Are they commodities or securities, or do they fall into an entirely new category? Digital tokens often exhibit the characteristics of one, both, or neither, creating a significant dilemma for existing frameworks.
An overview of the most important points of MiCA. Source: circle
The second reason is that the pace of innovation is far exceeding the speed at which slow and sophisticated traditional financial regulatory frameworks can adapt. Governments have a responsibility to enact regulations that are robust enough to deter wrongdoing and protect stakeholders, yet flexible enough to accommodate the advances promised by this burgeoning industry. How are these agencies supposed to compete with a smart contract that can be deployed in minutes and then updated the same day to have completely different logic and parameters?
For those of us in this fast moving industry, it is obvious that we need new regulations and policies that are compatible with Web3’s unique benefits and challenges.
MiCA represents a promising experiment, although the framework will struggle as individual EU member states test the framework in their home courts, creating a patchwork example of cases with differing outcomes. That being said, here are the good, the bad, and the ugly aspects of MiCA.
MiCA: The good
The best thing about MiCA? Stricter Rules and Higher Penalties for Crypto Asset Service Providers Losing Client Funds! This is a long-standing problem in the crypto space, where exchanges and wallets take no liability if they get hacked or compromised and lose users’ funds. This has resulted in tens of billions of dollars being lost without users having any options. This is unacceptable and has directly contributed to many people in our industry being irrevocably destroyed by bad actors.
MiCA: The bad
Although the primary goal is to prevent market manipulation, the majority of manipulation takes place outside the EU (via offshore companies) so it doesn’t really help many people directly. However, it can be helpful indirectly, as it signals the market in which direction regulators are moving – although this also depends on the penalties imposed when cases come before a judge.
Related: 3 Findings from the European Union’s MiCA Regulation
Decentralized finance and future central bank digital currencies are clearly ruled out. While it could be seen as a positive that DeFi is not included, the vast majority of on-chain transactions and activity is DeFi and it is frustrating that this has been skipped.
MiCA: The ugly
Unfortunately, there are many worrying or otherwise ‘ugly’ elements in MiCA that readers need to be aware of, and not only if they are EU citizens.
- The “travel rule” has significantly expanded the monitoring and recording of financial transactions and online activities in an unprecedented way, forcing service providers to identify both the recipient and the sender of every transaction.
- A very low €1,000 reporting threshold results in increased surveillance compared to the traditional US$10,000 threshold for banks. It is disconcerting that ordinary people should be subjected to this Orwellian control considering that the vast majority of financial crimes are committed by larger banks and institutions through money laundering and other fraudulent activities.
- Official approval from the legislature is required before launching tokens or liquidity. This will dramatically stifle the number of legitimate projects launched directly and indirectly within the EU. It’s hard to assume that the queues will be short and the process swift – governments have proven time and again that they are slow and inefficient, especially when it comes to new technologies.
Another core problem of any regulation by the European Union needs to be reiterated: the fragmentation of the EU judicial system makes it difficult to draw any meaningful conclusions about the impact of individual future judgments. In short, this is a small win for Web3 and requires a lot more work from regulators around the world.
This is in stark contrast to the US court system, which has traditionally, if not at Web3, provided a consistent and solid basis for legal decisions. A fragmented set of judgments makes it very unlikely that other countries will really follow MiCA full steam ahead; Instead, they will likely wait for the US to come up with its own substantive framework and regulatory guidelines.
Regulators, exchange operators and founders all say they will proceed very carefully and slowly until the US has comprehensive regulatory guidelines. While they may take inspiration from MiCA, it’s not the North Star they need.
The blockchain industry is at a crossroads for both regulators and users. Countless people have ruined their savings through scams and scams while regulators have struggled to keep up with the rapid pace of innovation in the industry.
Mike Sarvodaya is the founder of the Galactica Network, a Layer 1 protocol that leverages zero-knowledge cryptography to achieve Sybil resilience and compliant privacy, and build robust reputation primitives into DeFi and DAOs. He graduated first in his class from Utrecht University with an MsC in Financial Econometrics. Prior to Galactica, he spent most of his career as a risk manager and analyst at global hedge funds with a focus on proprietary trading in currencies, equities, commodities and digital assets.
This article is provided for general informational purposes and is not intended and should not be construed as legal or investment advice. The views, thoughts, and opinions expressed herein are solely those of the author and do not necessarily reflect the views and opinions of Cointelegraph.
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