The outline of the anticipated EU legislative framework for markets in crypto-assets is becoming clearer and the European Commission is preparing to publish a legislative proposal by the end of September. The legislative initiative on markets with crypto-assets fall within the broader Commission policy initiative on digital finance, which will also include a legislative proposal on operational resilience of the financial services sector. Through regulating the Commission aims to increase legal certainty and consumer and investor protection while at the same time ensuring financial stability.
In respect of the content of the upcoming proposal, it is expected – following the discussion that the Commission held with Member States’ representatives – that the draft legislation would contain at least the following elements: (1) a bespoke legislative regime for markets in crypto-assets (MiCA) and crypto-asset service providers not covered elsewhere in the EU financial services regime; (2) a pilot regime for distributed ledger technology (DLT) market infrastructures for crypto-assets qualifying as financial instruments, and; (3) amendments to the definition of “financial instruments” under MiFID II.
- Legislative regime for markets in crypto-assets
The Commission is considering proposing a Regulation establishing harmonised requirements at the EU level for issuers seeking to offer their crypto-assets across the EU and crypto-asset service providers wishing to apply for authorisation to provide their services. The proposal would regulate the following issues:
- Requirements for crypto-asset issuers: mainly, issuers would be mandated to publish harmonised information documents accompanying an issuance of crypto-assets in the EU, which would consist of mandatory disclosures, with exemptions for small offerings and for offerings aimed at qualified investors as defined in the Prospectus Regulation. Additional requirements would take the form of an obligation for an issuer to have been incorporated in the form of a legal entity, as well as rules concerning communication with crypto asset-holders, conflict of interest and cybersecurity.
- Requirements on asset-backed crypto-assets or stablecoins: issuers of asset-backed crypto-assets, also sometimes referred to as ‘stablecoins’, cannot offer such securities within the internal market without authorisation and need to be established as an EU legal entity. The Commission intends to establish conduct rules for such issuers, including on organisational requirements and conflicts of interest. There would also be an obligation to have contractual arrangements with third-party entities that ensure the operation of the stabilisation mechanism, the investment of the reserve or the custody of the service, as well as rules on asset custody and capital requirements. In addition, rights attached to the asset-backed crypto-asset should also be disclosed. National competent authorities (NCAs) would get the competence to authorise and supervise issuers of asset-backed crypto assets. If designated significant, the supervision of the issuer could be conferred to the European Banking Authority.
- Crypto-asset service providers: the proposal is intended to regulate the custody and administration of crypto-assets on behalf of third parties; the operation of crypto-asset trading platforms; the exchange of crypto-assets against fiat currency; the exchange of crypto-assets against other crypto-assets by using proprietary capital; the reception and transmission of orders; execution of orders on behalf of third parties; the placing of crypto-assets; advice on crypto-assets and payment transactions in asset-backed crypto-assets. Crypto-asset service providers would be obligated to have a registered office in the EU and become subject to common requirements for financial institutions, such as organisational and prudential rules. These would reflect the MiFID II requirements but adjusted to make it proportionate and tailored to the crypto-asset market.
Market integrity: only key requirements of the Market Abuse Regulation would become applicable to crypto-asset issuers and service providers, such as reporting of inside information disclosures. Unlawful disclosure of information, insider dealing and market manipulation would also be prohibited.
- Grandfathering clause: the proposal is expected to contain a grandfathering clause for crypto-assets issued before the entry into force of the Regulation, but this would not apply to issuers and service providers that would still be required to obtain approval from a NCA prior to operating in the EU.
- Pilot regime for DLT market infrastructure
The Commission is understood to envisage a pilot regime on distributed ledger technology (DLT) market infrastructures that would resemble a sandbox approach. This would help both market participants and regulators to gain experience on the use of DLT, the benefits it generates and the novel form of risks it creates. The initiatives would establish operating requirements for DLT market infrastructures, permissions to make use of them and the provisions for the supervision and cooperation of NCAs and the European Securities and Markets Authority (ESMA). Only simple financial instruments, such as shares and bonds, that are illiquid, would initially be allowed to be admitted to the DLT market infrastructure, which could take the form of a DLT multilateral trading facility (DLT MTF). The requirements applying to such DLT MTFs would be the same as for an MTF under MIFID II, except if the DLT MTF asks for exemptions when seeking the specific permission. A DLT central securities depository (CSD) would also be possible under the pilot, which would largely follow the requirements under the Central Securities Depositaries Regulation. Potential exemptions would only be granted under strict conditions. To receive specific authorisation to operate a DLT market infrastructure, additional safeguards would need to be in place, including adequate specific IT arrangements, enhanced information obligations towards members, participants and investors and specific rules on the segregation of clients’ assets. During the pilot period, ESMA would play a coordinating rule between competent authorities to build a common understanding of DLT, consistent supervisory practices and approaches.
3. MiFID definition of financial instruments
It is understood that the Commission is of the view that in principle, crypto-asset regulation should follow its economic function and that crypto-assets that have all the functions of a financial instrument should be regulated as such by MiFID II. The Commission intends to modify the definition of “financial instruments” under Article 4(15) of MiFID II to ensure that such financial instruments can be issued on a digital ledger. In order to ensure consistency and full convergence, the legislative amendment should be supplemented with an interpretative guidance.