This summer, the first part of the EU’s MiCA Regulation will come into effect. Financial institutions (FIs) that are currently engaged in or exploring crypto assets will need to make operational adjustments. What specific actions are necessary, and how will this impact EU crypto customers?
In June 2024, the European Union will begin to apply part of the provisions of the Markets in Crypto-Assets (MiCA) Regulation, focusing first on Asset-Referenced Tokens (ARTs) and Electronic Money Tokens (EMTs). In doing so, the EU is presenting the financial industry with a framework to offer new digitalized products and services to their clients. This development is significant as it integrates crypto-assets into mainstream financial services and creates a legal framework for operations, offering and distribution of these products. Understanding how these new assets function is essential for credit institutions to be able to anticipate upcoming products on the market, or to even begin building their own offerings around these tokens.
An evolution in how financial value can be stored and transacted
Digital tokens combine the stability of traditional financial instruments with the flexibility of digital assets, and ARTs and EMTs represent an evolution in how value can be stored and transacted. ARTs, often referred to as “stablecoin”, maintain their value through a basket of underlying liquid assets, offering a digital currency ideal for savings or payments. This can extend not only to financial assets such as currencies and crypto-assets, but also to commodities such as gold and other precious metals, provided that the ART value can be stable.
On the other side, EMTs, often referred to as “digital currencies”, mirror the online equivalent of fiat currencies (traditional government-issued currencies not backed by a commodity, such as the dollar or the euro) and promise to streamline electronic payments with the security and reliability expected from conventional money. Such tokens share similarities with traditional e-money, as covered under the Electronic Money Directive 2 (EMD2) and upcoming PSD3/PSR payments package, and indeed, MiCA even provides that EMTs will be subject to the same issuance and redemption requirements as traditional e-money. Where EMTs differ is in their implementation and means of distribution, which can enable different use cases to that of traditional e-money. This also applies to ARTs, as it is the act of tokenization and usage of innovative technologies that allows both tokens to open new avenues for enhancing existing financial services.
Enablement of cross-border real-time payments
Faster cross-border transactions are a hot topic for the financial industry. At the EU level, the recently introduced Instant Payments Regulation (IPR) will require EEA banks to provide cross-border instant payments in euros or in the currency of a Member State. At the global level, some private initiatives are also being launched between the European Banking Authority (EBA) RT1’s instant clearing system and US/UK clearing houses to create international interoperability for real-time payments. However, digital tokens, which do not need to rely on established clearing houses and existing rules, by default enable cross-border real-time payments. The minimal number of intermediaries involved in the value chain also reduces the processing costs per transaction for banks, and for customers.
Value-add by way of convenience and reduced counterparty risks
Because tokens leverage blockchain technology, they allow customers to benefit from value-added features such as smart contracts. Such features can include the setup of “cash-on-delivery” arrangements (where the smart contract would reserve some of the customer’s funds and automatically issue payments when the customer receives a delivery). These new use cases are not only convenient for customers to pay only upon receipt of their goods but would also limit counterparty risks in business relationships and reduce frictions and delays in transaction processing.
Bolstering financial security by combating payment fraud
The usage of blockchain technology also brings various other benefits to the financial industry, due to the innate structure and methodologies behind Distributed Ledger Technologies (DLTs). In these highly encrypted systems, transactions are recorded on secure, immutable ledgers accessible only to a few authorized network members. Transactions are highly traceable in such systems, and data integrity is assured by many co-validators collaboratively ensuring that the transactions occurring in the blockchain are legitimate and authorized. Such measures reduce the risk of unauthorized accesses and fraudulent operations, which are key concerns in the world of payments.
Market examples from early entrants
As an example, some fintechs offer EMTs in currencies such as dollars and euros. These EMTs are pegged to the price of the fiat currency they represent but introduce digital flexibility and advantages to the usage of those fiat currencies. This includes the ability to use euro EMTs with blockchain-enabled applications and features such as smart contracts, which can further enable many complex financial transactions and use cases. These include automated, impartial code-based handling and execution of financial agreements, nearly real-time international payments settlements, and more.
Alternatively, FIs also have the possibility to trade tokens without issuing them. Some licensed entities already offer their clients access to large cryptocurrency exchange platforms, providing investors with easy access to a more varied range of products.
Preparation for June 2024
The possibility to offer such services, and the ability to offer more complex services to demanding customers should be explored by FIs looking to diversify their current offering. MiCA’s provisions on ARTs and EMTs begin to apply from June 2024, with the full Regulation applying from December 2024. As such, in-scope FIs should prepare their application to seek permission for the offering or trading of tokens, draft detailed crypto-asset white papers for their products and engage with their National Competent Authority (NCA) to discuss their intention to start or continue operations, keeping in mind that the rest of the requirements will already apply in eight months.
The crypto-asset white paper, in particular, makes up a significant part of the approval process for FIs to be able to offer ARTs or EMTs. While the white paper requirements differ across tokens, FIs will have to disclose, for both ARTs and EMTs, the operating mechanisms behind them, such as the issuance and redemption process, the rights and obligations afforded to token holders, the measures for safeguarding assets, and also report on their own governance structure and controls regarding the intended crypto-asset service offering. Beyond such factors, they will also have to disclose details specific to the type of tokens, such as the underlying asset(s) behind ARTs and the methodology behind how the ARTs’ values reference those asset(s).
Looking towards and beyond December 2024
While not as exciting as Christmas, FIs should also expect the full provisions of the MiCA Regulation to come into effect this December. In particular, this will introduce into legal application the licensing requirements for “crypto-asset service providers” (CASPs). Although several established entities, such as authorized credit institutions, investment firms, AIFMs, and more, will not require a separate license to provide crypto-asset services, this licensing provision will allow a wider variety of firms aside from pre-authorized FIs to provide crypto-asset services. This can lead to increased competition in the provision of such tokens and surrounding services, which FIs can have a potential early entry into starting from July.
Furthermore, this date will introduce several regulatory and compliance requirements into force, with the expectation that any entities providing crypto-asset services have in place and are effectively able to monitor and prevent market abuse, such as insider dealings and market manipulation, ensure adequate protection measures for their customers, and clearly follow the appropriate disclosure requirements applicable to them.
