The UK legislature and executive are moving to tighten regulation of crypto in the UK which may impact an offshore environment around the world.

UK insights for DeFi

The last report “Regulating Crypto Fifteenth Report of Session 2022–23” published on 10 May 2023 confirms this scenario. The report is a result of Treasury Committee work, appointed by House of Commons. The main differences between the legislative and executive positions are about how to regulate, not whether the crypto area should be regulated in general.

Differences between Government and the Committee

The HM Treasury Committee urges regulation of consumer activity in unbacked cryptoassets (meaning crypto assets without intrinsic value such as BTC or ETH). They are concerned about retail trading and investment activity, so they propose to regulate consumer trading of unbacked cryptocurrencies as “gambling” (like bingo halls, lotteries, arcades, betting shops, racecourse bookmakers, online betting companies and exchanges, and casinos).

While the Government’s intention is that all activities in cryptoassets will be regulated, rather than the specific assets themselves. Hence any form of cryptoasset – including unbacked cryptoassets – could be captured by the proposed regulation. This covers especially lending, borrowing and leverage activities (DeFi).

Scope of DeFi regulation

For the regulation of cryptoasset lending and borrowing activities the government is proposing to apply and adapt the existing Regulated Activities Order (RAO), with the following key design features:

  1. Authorisation rules – Authorisation will be required since “operating a cryptoasset lending platform” will become a regulated activity under the RAO. The path for authorisation might be similar as for the FinTech entities (e.g. demand for details of operations, services, business plans, and organisational and governance arrangements),
  2. Prudential requirements – e.g. minimum capital requirements, liquidity requirements needed to mitigate credit risk, market risk, liquidity risk and non-financial risks,
  3. Consumer protection and governance requirements,
  4. and many others…

Final notes

Some of the British Overseas Territories and the UK generally consult with each other where changes to the financial services regime are significant and have an international dimension. Projected rules (if adopted) will play a huge role in how other British jurisdictions, especially those without much experience in financial regulation and supervision, will think about their own crypto-asset framework.

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