The institutionalisation of crypto-assets

Things are moving forward in the world of crypto-assets. The echoes of large and small events whisper major changes in the months to come. 

Perhaps the mystery behind the beginning of crypto-assets makes them seductive, or perhaps the growing interest in them has to do with being the “future of currency” promise. Or maybe bitcoin, its iconic well-known example, appeared at the end of the past decade right on time. Social media was on its way to reign, trust in institutions and the financial system had started crumbling down and easy access to smartphone technology carved a convenient path for crypto-assets to enter the scene with certain glory. 

Then, after years of discrete growth and diversification, the crypto bubble burst happened in 2018 and then, the COVID-19 crisis, with the dramatic plunge of bitcoin in March 2020. To some, the latter makes sense. “Bitcoin is a highly speculative instrument so in such risk-averse markets, it’s naturally a front-runner to be offloaded,” one reads in this Bloomberg article

With no oracle to know what the future of crypto-assets will look like, let’s bet on pragmatism in times of uncertainty. The only fact that few will challenge is that crypto-assets are becoming a staple asset class with the potential to greatly influence financial services and other sectors. 

Indeed, there is a major change of mindset. Crypto-assets are no longer just the business of geeks and techno-financiers. They now go out- of-niche to take part in development plans of well-seasoned players with a long history in the financial industry. 

Evidence shows that the once “bullied” Bitcoin is cautiously being welcomed in the financial industry, but with some nuances. For instance, in May 2020, JP Morgan opened the doors to two major crypto players, Coinbase and Gemini. These US-regulated digital currency exchanges became its first cryptocurrency exchange customers. 

Likely because of its newness, the definition of what a crypto-asset is hasn’t reached consensus yet. To the UK Cryptoassets Taskforce, “Cryptoassets are digital representations of value that can be transferred, stored or traded electronically which use some type of distributed ledger technology.”

Here are the most commonly listed types of crypto-assets: cryptocurrencies, platform tokens, utility tokens, security tokens, natural asset tokens, crypto-collectibles and crypto-fiat currencies.

What major trends are the crypto-asset market experiencing during this agitated period? To unveil them, we had an online talk with Thomas Campione, our Blockchain & Crypto-assets Leader and took some notes. Overall, it seems like the moment of crypto-fiat currencies has arrived. This article focuses on that matter.  

Central banks are entering the cryptocurrency scene

In the realm of crypto-assets, one of the major trends observed in recent months is Central Banks’ active involvement on the subject. While not long ago their take on crypto-assets developments wasn’t one of encouragement, these institutions have decided to turn the initial lack of interest into opportunity. 

Grouped under the acronym CBDCCentral bank digital currencythese digital forms of fiat money are central banks’ answer to projects such as Libra,  the blockchain-based token initiative led by Facebook that still has the potential, despite detractors and the initial challenges that the project encountered, of issuing a (sort of) currency that its more than two-billion users can easily access. 

To central banks, the Libra project represented a major threat so there was a need to react and take ownership of the subject. Even some concerned voices in the United States warned about the possibility of Libra to dethrone the dollar as the benchmark currency. Executives and regulators have pressured the consortium behind Libra, forcing them to adapt the initial goals and to become more consensual. The project will now support government-backed currencies in addition to the Libra token, initially the center of its digital payments strategy.

The emergence of CBDCs

Thomas thinks that, even if the Libra project was the catalyst, crypto-assets third-party players are emerging more and more, and central banks cannot miss the pace and need to remain relevant. This example accounts for it: in a January’s tweet, the Bank for International Settlements showed a graphic where one can see that more than 80% of central banks are engaged in certain digital currency-related projects.

Being actively involved in the crypto-assets field is particularly important for the European Central Bank (ECB). The ultimate goal is offering an equivalent to the euro in digital form, and to provide citizens with the benefits associated with crypto-assets. All this needs to be backed by each member state’s central bank.  

Already in 2014 China started flirting with the idea of having a digital currency with the creation of the Digital Currently Research Institute. The country is already offering its own CBDC, the DCEPDigital Currency Electronic Payment, a centralised currency that’s not blockchain-based though.

On the other side of the world, the United States is also actively working on the subject. In March 2020, even during the quarantine period, a lawmaker introduced the Crypto-Currency Act

However, these latest movements make the dream of a fully decentralised cryptocurrency start vanishing. The “Bitcoin’s utopia”, we could call it. Because, this sort of government’s taking of possession translates into returning to a form of centralised cryptocurrencies management. 

As a consequence of these trends, cryptocurrenciesand crypto-assets in the broad sensewill likely become part of everyone’s daily lives faster than most of us initially thought. A large number of users, financial organisations included, will benefit from the advantages linked to the exchange of these assets. 

“With a CBDC, the ECB could establish direct contact with every citizen, without having to go through a commercial bank, which the rules in force currently prohibit,” Thomas told us. Central banks could therefore benefit from a real-time view of market dynamics and better consider policies to support the economy.

The emergence of a traditional-like crypto-industry

With central banks taking a more active role in the subject, the financial industry starts feeling more confident to design and offer new products and services. A crypto-industry that mirrors the traditional financial industry, but with a very different speed and agility, is emerging. It seems like the two worlds, traditional and crypto, are converging somehow.

In this reality, market players consider crypto-assets as an interesting diversification factor that gives room to innovate and offer new (or blended) services or products. New crypto-exchange, crypto-custody or crypto-brokerage platforms, all of them are contributing, like the traditional stock exchange, to facilitate access to” crypto “products and to ensure liquidity.

The challenging role of regulators

The question, “Can crypto be regulated after all?” is frequent in forums and discussion among experts in the field. Some of them, certainly, are more orthodox than others. There is this second question as well, “should crypto be regulated”?  

Regulators are at a crossroads. What once could be considered a crypto breeze is turning into a gale that they will not be able to stop unless they adopt a different strategy. Crypto-assets are here, to stay. 

In different parts of the world, regulators have been working on framing crypto-assets projects and, often, they are even blocking them. To hold them back, some have suggested to regulators to suppress cryptocurrencies’ trading values, for instance. However, this approach can work, but only in the short term. In the long term, what is increasingly expected from them is to play the market stabilizer role, and to make investments safer.   

A conspicuous case on regulating crypto is the lawsuit brought by the SEC, the commission for the regulation of financial markets in the United States, against the Russian platform Telegram, which in fact resulted in the abandonment of the project. Telegram refused to answer questions from the regulator on the allocation of the $ 1.7 billion raised by Telegram from investors.

Like in the mainstream financial industry, there are, obviously, a few “rebels” in the crypto ecosystem. It wouldn’t be following a natural pattern in the history of most innovations, otherwise. To Thomas, “It’s important to remark that the technology behind the Telegram project looked interesting”. 

Crypto-assets: What opportunities for Luxembourg? 

Based on the current state of development of “crypto”, it is recommendable to set a clear regulatory framework around crypto-assets. It is not consistent to sanction initiatives trying to find their way while clarity isn’t yet provided.

For instance, Thomas told us that there are currently important debates around the qualification of tokens, another form of crypto-assets. “I find it positive that regulators are addressing these issues. This should not however cannibalize all developments in the sector.”

Luxembourg has everything to gain from developing a proactive and open approach in the tokens domain, in particular to capture many projects aimed at raising funds and making investments from them. Increasingly demanded, tokens are a category of crypto-assets that can take various and varied forms such as debt, equity or real estate, to name a few. It’s to point out the complementarity of these token-related projects to the Luxembourg fund industry, with the potential to contribute to its diversification.

However, right before the end of our talk, Thomas mentioned that, “The challenge is that clarity is not yet achieved at European level, but the situation may change soon”. The EU Regulatory Framework for crypto-assets is on its way and, according to the Official Website of the European Union, its adoption is planned for the third quarter 2020.

Finally, Thomas added, “The crypto-assets industryand by extension the whole blockchain ecosystemis boiling. Once a niche topic, it has captured the attention of the biggest market players and supranational bodies. For the mass adoption to happen though, we need technical innovation to meet regulatory clarity. That’s exactly the tipping point where we are today.”

What we think
Thomas Campione, Blockchain & Crypto-assets Leader at PwC Luxembourg
Thomas Campione, Blockchain & Crypto-assets Leader at PwC Luxembourg

I am personally convinced that this is the very beginning of a significant shift in how businesses operate, how individuals transact and how value is transferred. Blockchain has the potential to become the base layer of all our transactional systems and crypto-assets, the vehicles hosting any value being transferred. The combination of both will bring seamless and instant transfer of value, workflows automation, autonomous operations and fractional ownership among other things, and the early movers have already started creating an edge.

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