Hong Kong Seeks to Regulate Stablecoins by 2024

Hong Kong Seeks to Regulate Stablecoins by 2024

by January 28, 2022

Though crypto-assets do not pose a risk to financial stability just yet, they very well might in the near future as this new asset class continues to develop at a rapid pace. The fast-growing cryptocurrency ecosystem, the rising prevalence of crypto-assets, and tech firms’ involvement in stablecoin projects, are calling for regulators to bring crypto-assets within the regulatory perimeter.

In Hong Kong, the central bank is working on a new regulation to tackle these risks. The regime will be introduced no later than 2023/24, the Hong Kong Monetary Authority (HKMA) says.

“A risk-based approach”

On January 12, 2022, the HKMA released a discussion paper on crypto-assets and stablecoins, inviting opinions from the industry and the public on the appropriate regulatory approach.

The paper sets out the HKMA’s views on regulating crypto-assets, particularly payment-related stablecoins, arguing that a risk-based approach rather than a one-size-fits-all approach would be the most suitable way to address the various risks posed to users and the financial systems, all the while embracing the potential benefits of financial innovations.

At the point in time, two key areas are up for deliberation in Hong Kong, the central bank says: the regulatory approach to take with authorized institutions, including licensed banks and deposit-taking companies, that provide intermediary services to customers related to crypto-assets; and whether the existing regulatory framework is adequate to address the challenges arising from the growing use of stablecoins and other types of crypto-assets in financial markets.

On the former topic, the central bank says it will soon release “more detailed regulatory guidance” on how authorized institutions should conduct businesses related to crypto-assets.

On the latter topic, the HKMA believes much of the lifecycle of asset-backed stablecoins should be regulated, from the issuance, creation and destruction of stablecoins, and the management of the reserve assets, to the validation of transactions and records, and fund transfers.

“The following activities will need to be licensed by the HKMA either by expanding the scope of the PSSVFO (Payment Systems and Stored Value Facilities Ordinance) or introducing a new legislation,” the paper reads.

“We will take into account the feedback and consider the next steps including assessing the need to issue further documents on specific aspects of the regulatory framework in 2022/23. We aim to introduce the new regime no later than 2023/24.”

The growth of stablecoins and their potential benefits

Stablecoins are cryptocurrencies whose value is pegged to another asset class, such as a fiat currency or gold, to limit price fluctuation. Stablecoins aim to solve traditional cryptocurrencies’ volatility issue, all the while retaining the convenience cryptocurrencies typical offer, including instant consensus-based settlement, privacy, speed and global reach.


image via Unsplash

Growth of stablecoins over the years have been phenomenal. Fitch estimates that the global stablecoin market surged 450% in 2021 to reach US$156 billion in December 13, 2021.

Growth has been fueled by rising adoption of crypto-assets and growing involvement of tech giants in the space.

Just this month, Jose Fernandez da Ponte, senior vice president of crypto and digital currencies at PayPal, told Bloomberg News in a statement that the company is “exploring a stablecoin” as part of its crypto push.

The paytech giant joins others that are also looking to launch their own coins. Meta Platforms, the parent company of Facebook, Instagram and WhatsApp, is developing a stablecoin called Diem. Since October 2021, the company has been piloting its Novi digital wallet. Novi currently uses the Paxos USD stablecoin (USDP) but will, at some point, be replaced with the Diem stablecoin.

The risks associated with stablecoins

In Hong Kong, the central bank has recognized the potential benefits of distributed ledger technology (DLT), crypto-assets and stablecoins, but has also identified a number of risks which must be addressed.

For one, just like any other crypto-asset, stablecoins are prone to cyber threats and can be used as a means of payment demanded in ransomware attacks, a risk that increases if a stablecoin can be held and change hands anonymously, the HKMA says.

Moreover, in the event where a stablecoin would reach massive scale and become commonly accepted as a means of payments, operational disruptions or failures could have significant impacts on economic activity, normal functioning and public confidence, posing thus a risk on financial stability.

Also, if financial institutions such as banks were to increase their exposure to stablecoins, this could affect their financial health, business mode and stable operation. Significant shift from bank deposits to funds held in relation to stablecoins could be an issue of concern to banking stability, and ultimately monetary stability, the HKMA says.

Members of the public and the industry have until March 31, 2022 to submit their views on the proposed regulatory approach.

Featured image credit: Unsplash