Cryptos strange regulatory path

About 63 per cent of Squares $US9.7 billion ($13.3 billion) in revenue for the six months to June 30 came from bitcoin, according to Squares latest filings to the United States Securities and Exchange Commission.

Not only is Square heavily reliant for its revenue on bitcoin trading across its platform, it has invested $US220 million in bitcoin. Also, its founder, Jack Twitter Dorsey, says he is building an open platform to create a decentralised exchange for bitcoin.

Throwing out the red carpet to Square looks hypocritical when it is well known two bitcoin miners, Mawson Infrastructure and Iris Energy, are listing on the Nasdaq after realising it would be futile to approach the ASX.

The other obvious area of regulatory incoherence is ASICs attitude to bitcoin ETFs.

These are trading in many jurisdictions around the world, including Canada and Europe. The new SEC chairman, Gary Gensler, is yet to give them the green light and that seems to have fuelled ASICs reticence to make the leap.

This has prompted many retail investors to seek their bitcoin outside Australia a move that surrenders the legal protections afforded to those operating in this jurisdiction.

For example, many Australians now buy and trade their bitcoin through the Chinese crypto exchange Binance, which was banned from operating in the United Kingdom.

That is the perfect segue to another area replete with contradictions the regulation of crypto exchanges.

At a committee hearing last Friday, Braggs questioning of ASIC officials highlighted the vastly different attitude of different regulators to the activities undertaken on exchanges.

Clueless on bitcoin

The financial intelligence agency AUSTRAC is enforcing its know-your-customer regime for users of Australian-domiciled crypto exchanges, whereas ASIC has a complete lack of interest in what they do.

While AUSTRAC protects the economy from money laundering and terrorism financing, the securities regulator struggles to actually work out how to define the prime cryptocurrency, bitcoin.

At an industry forum last week, an ASIC official made comments that showed the organisation does not really understand how bitcoin works, when he said bitcoins code could be changed.

It is possible to change the bitcoin code. But to do so would require one person or entity to control more than half of all bitcoin mining.

It is doubtful anyone would be able to do this given it would require sufficient electricity to power Argentina. Anyway, doing so would be a self-destructive exercise because it would destroy bitcoins main attraction the fact there will be a finite amount.

The ASIC official said the regulator did not support classifying crypto as a commodity, which is how it is treated in other jurisdictions. Instead, ASIC wants to treat it as a separate standalone asset.

This stance has implications for the creation of a retail bitcoin ETF. If bitcoin is a commodity, then the structure that will have to be used for retail products will be a managed investment scheme.

This should not be an issue for ASIC given that the worlds first gold ETF was created by an Australian, Graham Tuckwell. Managed investment schemes require the creation of a unit trust to make them financial products.

The ASIC official told the industry meeting last week that crypto was unlike anything the regulator had ever seen before. But is that a reason to delay finding a workable regulatory approach to protect consumers?

Australias regulators and policymakers fail to understand that there are enormous amounts of money to be made and many thousands of jobs to be created from appropriately calibrated regulation of crypto trading.

Opportunities focused on crypto

A report published this week by financial services consultant Oliver Wyman sets out the range of opportunities for traditional financial services companies involved in securitisation, financial structuring, broking and asset custody.

The report, Digital Assets Going Mainstream, identified six areas where opportunities exist for businesses focused on crypto assets.

Custodians are important for the future of the crypto market infrastructure, and there is opportunity for firms with the right institutional trust, balance sheet strength, and legal and technical know-how, it said.

Financial Review

Developing trading venues and trading-related platforms and infrastructure is another area in which financial institutions can participate.

One major opportunity that depends on how regulation evolves are wealth management products that provide exposure to the crypto market. The development of this opportunity would undoubtedly unlock a significant amount of capital.

As more sophisticated trading firms access the crypto market, demand for crypto prime brokers will likely increase.

Outside of trading and investment, payment and settlement solutions are another area where financial institutions can deploy digital assets. The potential here is for firms to deploy a fungible digital token that is an instrument representing a claim against an institution with a strong balance sheet and combining this with an open network into which participants can easily integrate.

Finally, financial institutions can develop new financial products by combining the technical features enabled by digital assets with innovation in financial engineering.

For example, tokenisation, a feature enabled by digital assets, can allow new derivative products to be created where counterparty risks are more visible and manageable, and liquidity potentially unlocked through fractionalisation and bundling.

Of course, if Dorsey achieves his objective to facilitate non-custodial, permissionless and decentralised financial services, there could be unparalleled disruption to the global banking industry.

But that grand vision should not distract from the extensive opportunities for traditional financial services companies to reap significant business opportunities from working within a well-regulated crypto ecosystem.

Correction: An earlier version said changing bitcoins code would require ownership of half the worlds bitcoin. In fact, it require control of half the worlds bit coin miners.