Why We Need Evolutionary, Not Revolutionary, Regulatory Initiatives
Manuel Rensink Strategy Director at Securrency
This article was first published on CoinTelegraph.
On 27 July 2020, Luxembourg — the world’s second-largest domicile for investment funds behind the US — submitted a draft law updating a law of 1 March 2019 that allowed for the registration and transfer of securities by custodians. With this draft law issuance itself can be based on DLT, thereby introducing truly dematerialized DLT or blockchain-based securities. Furthermore, a central “issuance account” keeper (transfer agent) is required to assume responsibility and, the account keeper has to be authorized by any member state of the European Economic Area (EEA) which means that non-Luxembourg credit institutions and investment firms can be the central account holder.
Two weeks later, on August 11 the German Finance Ministry (BMF) and the Ministry of Justice and Consumer Protection (BMJV) submitted a draft bill for the introduction of electronic securities. The bill is to revamp both the German securities law and the corresponding supervisory law with a focus on blockchain strategy. The draft differentiates between the keeping of a central electronic securities register by a central securities depository and the keeping of registers for issuing electronic bonds made possible by distributed ledger technologies. It also provides greater regulatory clarity — The Federal Financial Supervisory Authority will track the launch and upkeep of “decentralized registers” as new financial services in agreement with the eWpG, the German Banking Act Kreditwesengesetz (KWG), and the key securities depository rule. The proposed changes to the legal framework, by adopting blockchain and other new technology, aims to bolster Germany as a hub of business and magnify “transparency, market integrity, and investor protection”. For now, the draft bill is limited to bonds but it can be extended to any security, including stocks and investment funds. The aim is to receive comments from the German states by Sept 14 and to pass the regulation later in 2020. The draft law also provides several changes to the prospectus law, the custody account law, and other rules, so that all electronic securities are treated like legacy non-digital securities. With this, the draft law clears a major regulatory hurdle to the mass adoption of digital assets.
A very conservative government like Germany’s is taking the digital transformation of its securities markets extremely seriously and recognizes the advantages in terms of speed, settlement times, and transparency that blockchain technology has to offer. Having first updated existing AML/CFT legislation to allow banks to store and sell cryptocurrencies to both institutional and retail customers (effective on Jan 1, 2020), they have now turned their attention to dematerializing securities with the use of permissioned DLT or unpermissioned blockchain technology (e.g. public Ethereum). In effect, the draft law states that an electronic security in the form of a token (for instance) carries the same rights and legal investor protections as a paper certificate.
This new draft galvanizes the philosophy that there is no need for radical new legislation but that legislation should be technology-neutral while clarifying the legal tie between a real-world asset and its representative digital token. Clearing regulatory hurdles like these are important for forward-leaning jurisdictions that aim to attract the most innovative firms. More can be done of course, for instance; introducing machine-readable policies that can update compliance software with zero or minimal manual intervention.
At the same time technology providers like Securrency continue to provide thought leadership and remove technology hurdles by combining secure digital identity with strong online privacy (e.g. private transactions on public chains) and compliance oracles that tie digital attributes and attestations to automated policy enforcement in both the area of cryptocurrencies (e.g. compliance with the FATF Travel Rule) and digital securities.
Ultimately digital transformation with the use of blockchain technology will lead to significant cost reductions through the elimination of many error-prone manual processes, better compliance, and more effective crime-fighting through increased transparency, greater global accessibility to high-quality assets, and hence greater financial inclusion.