The UK continues to debate how it should treat the trading of risky and speculative products such as crypto. Analysis by Marina Reason and Pat Horton of law firm Herbert Smith Freehills.
A recent UK Treasury Committee report on crypto assets regulation has reignited the debate over crypto.
Contrary to government proposals in February to regulate the crypto industry as a financial service, the cross-party group controversially recommended regulating retail trading and investment activity in unbacked crypto assets as gambling.
In their view, the characteristics of unbacked crypto assets – price volatility, lack of intrinsic value or social purpose – more closely resemble gambling than financial services.
It is true that the line between gambling and certain types of financial services is not always clear-cut; for example, the Gambling Commission and the Financial Conduct Authority (FCA) recognise that there are areas where their remits overlap.
A memorandum of understanding between them provides a framework for consultation on areas of mutual interest, such as the promotion of contracts for differences (CFDs) and other high-risk retail derivatives.
Let us also remember that binary options were regulated by the Gambling Commission before they came to be regulated as CFDs by the FCA. And spread betting is taxed as if it were gambling, but it is also regulated by the FCA. The line is thinly drawn indeed.
So long as consumers are appropriately protected, whether that protection originates from financial services rules or from gambling rules should arguably be irrelevant. Yet there are good reasons why regulating crypto within the financial services framework could provide a better fit and why the government is unlikely to move away from its February proposals.
Existing financial services framework
The UK government has been vocal about its ambitions to make Britain a global hub for crypto assets technology and investment. One of the policy objectives behind the UK government seeking to establish a regulatory framework for crypto assets in the UK, as set out in HM Treasury’s February consultation, is to encourage growth, innovation and competition in the UK.
Categorising crypto assets as gambling is unlikely to further either of these goals and may instead alienate an industry it is hoping to woo. To do so would also be swimming against the tide of international regulation, and the UK’s place in international regulatory circles has generally been that of flag-bearer rather than outlier.
Indeed, the International Organization of Securities Commissions is currently consulting on standards for global crypto regulation which consider crypto to be part of financial services, as is the EU’s Markets in Cryptoassets Regulation (MiCA), which is expected to apply from next summer.
The approach proposed by the government on regulating stablecoins and unbacked crypto would fold these into the existing financial services regulatory framework. This has established and broad requirements applicable to firms which need specific authorisation and have to comply with conduct and organisational requirements. Financial services offers perhaps a broader and more encompassing framework than would be the case after a gambling designation.
More importantly, the government is unlikely to change its mind for philosophical reasons.
HM Treasury has been reported already to have disagreed with the report’s recommendation to apply gambling regulation to crypto assets on the basis that risks posed by crypto assets were typical of those that exist in traditional financial services. Financial services regulation, rather than gambling regulation, has the track record in mitigating those risks.
if crypto regulation is not in place before the next election, there is a chance that a future administration could be persuaded to change course
The Crypto and Digital Assets All Party Parliamentary Group (APPG) published its report this week, which also supports this stance. The APPG’s view is that regulation of crypto and digital assets within financial services is vital to addressing consumer risks while harnessing the sector’s potential and contribution towards economic growth.
Experience of the regulator also matters. The FCA has been looking into crypto-related consumer protection issues for some years. And as the regulator of crypto firms for anti-money laundering purposes, it already has a foot in the door to the crypto world. The lessons learnt from this experience are important.
The FCA has also been looking at the crypto asset industry through a marketing lens. New rules on financial promotions of crypto are being brought in by the government and the FCA is weaving these into its rulebook with a policy statement expected to come out this week.
On the other hand, the FCA registration process has been criticised as being overly lengthy and burdensome, with the difficulty in gaining a UK licence given as a reason for some firms discounting setting up in the UK. There is a question on how hospitable the industry might perceive the FCA to be in its new future guise as the UK ‘crypto regulator’. This remains to be seen.
One thing is perhaps clear: if crypto regulation in the UK is not in place before the next election, there is arguably a chance that a future administration with different leadership could be persuaded to change course, especially if more damning evidence of consumer detriment comes to light in the meantime.
This risk, however small, may serve as an incentive for the current government to speed up the process of regulation.
Marina Reason is a partner and Pat Horton is a professional support lawyer at international law firm Herbert Smith Freehills.
