The European Union made a significant breakthrough in October 2022 with the consensus reached on the pioneering Markets in Crypto Assets (MiCA) Regulation. Following ratification by the European Parliament, MiCA now stands as the world’s first regulatory framework tailored specifically for cryptoassets. Its primary objectives are to protect consumers and investors, ensure financial stability, and foster innovation.

This momentous achievement gained further momentum on May 16th, 2023, as the member state Finance Ministers on the Economic and Financial Affairs Council (EcoFin) unanimously approved the EU’s groundbreaking MiCA legislation. Comprising finance ministers from all 27 member states, the EcoFin council wholeheartedly endorsed the regulation without any objections, signifying its paramount importance.

MiCA has emerged as the most comprehensive regulatory framework for crypto assets globally, attracting worldwide attention from the crypto community. While concerns have been raised about potential restrictions on mining and Bitcoin trading within Europe, the overarching goal of the regulation is to strike a balance between innovation, consumer protection, and financial stability. Its holistic approach has positioned it as a model for other jurisdictions to consider.

The regulation of crypto assets aligns with the EU’s broader ambition to become a global leader in tech regulation. Initiatives such as the General Data Protection Regulation, Cybersecurity Act and the ePrivacy Regulation, exemplify the EU’s proactive stance in establishing global tech standards. Embracing the promising crypto industry is a strategic move that fits into the EU’s proactive approach to shaping the future of technology.

In the following sections, we will delve into the intricate details of MiCA regulations, aiming to provide a comprehensive understanding of its provisions, implications, and potential impact on the crypto landscape within the European Union.

At the core of the proposed MiCA regulation, lie key objectives aimed at:

• Ensuring legal certainty for crypto-assets beyond the scope of existing EU financial services legislation, catering to the specific needs and requirements of the industry.
• Replacing diverse national frameworks applicable to crypto-assets falling outside the purview of current EU financial services legislation.
• Establishing uniform and cohesive rules for crypto-asset service providers and issuers at the EU level, fostering harmonized standards and oversight across member states.
• Introducing tailored regulations for stablecoins, including those marketed as e-money, to address their distinctive features and potential impacts on financial stability.

These objectives collectively underpin MiCA’s comprehensive and inclusive regulatory framework, designed to promote the growth, innovation, and responsible advancement of the crypto industry. Central to this approach is the prioritization of consumer protection and regulatory consistency.

Within the European Union’s MiCA framework, a comprehensive taxonomy has been established to classify various types of digital assets. This taxonomy serves to categorize these assets based on their distinctive characteristics and intended purposes.

1. The first category is “crypto-assets”, which encompass various digital representations of value or rights. These assets can be electronically transferred and stored through technologies such as distributed ledgers. Prominent examples of crypto-assets include Bitcoin and Ether.
2. Within the broader classification of crypto-assets, there exists a sub-type known as “utility tokens”. These tokens serve the specific purpose of providing access to goods or services offered by their issuers. Issuing requirements for utility tokens are relatively less stringent, although it’s anticipated that only a limited number of assets will fall into this category.
3. Another classification is “asset-referenced tokens” (ART). These tokens are designed to stabilize their value by referencing or pegging to a diverse range of assets, including currencies, commodities, other crypto-assets, or non-fiat single currency assets. The creation of this category was influenced by the initial concept of Libra currency, which pegged its value to a basket of fiat currencies similar to the IMF’s special drawing rights.
4. Lastly, we have “e-money tokens” (EMT), which aim to maintain a stable value by referencing a single fiat currency, such as USDC, USDT, BUSD, or EUROC. The concept and most of the regulatory requirements for e-money tokens draw inspiration from existing EU regulations governing electronic money.

The MiCA framework governs the regulation of various digital representations of value or rights utilizing distributed ledger technology (DLT), with a few exceptions.

MiCA will apply to all crypto-asset service providers (CASPs) operating within the EU. Stablecoin issuers will be subject to liquidity requirements and must have a presence in the EU. Additionally, stablecoins will be subject to supervision and direction from the European Banking Authority (EBA). The EBA will oversee stablecoins that serve over 10 million users or possess assets worth more than €5 billion. Furthermore, if the European Central Bank (ECB) raises concerns regarding the legitimacy and credibility of any stablecoin, it reserves the right to reject it.

The MiCA framework, designed to regulate digital assets comprehensively, has certain exclusions that do not cover emerging paradigms in the digital asset landscape. Notably, decentralized finance (DeFi) and non-fungible tokens (NFTs) fall outside the scope of MiCA regulations.

DeFi represents a revolutionary approach to financial services, utilizing automated protocols to eliminate the reliance on traditional intermediaries. It’s important to note that DeFi operates outside the scope of regulations outlined by MiCA.

MiCA regulations primarily apply to businesses, encompassing both natural and legal persons, as well as specific undertakings. The European Union has made it clear that decentralized Autonomous Organizations (DAOs) and protocols are not the primary focus of this recent addition to the regulatory framework. In fact, MiCA provides clarification by stating that if crypto-asset services are rendered in a fully decentralized manner, without the involvement of any intermediaries, they fall outside the jurisdiction of this regulation.

For DeFi projects aiming to operate within the European Union while remaining outside the scope of MiCA, their only viable option is to establish and demonstrate a state of complete decentralization. By proving that their operations adhere to a fully decentralized model, these projects can operate independently and avoid falling under the purview of MiCA within the EU’s regulatory landscape.

Similarly, NFTs, which represent distinct and indivisible tokens associated with various digital assets like artwork, videos, or tweets, are not covered by MiCA, unless they are part of a designated “collection” intended for sale. In cases where NFT collections align with MiCA regulations, the entities responsible must provide a comprehensive “white paper” detailing the nature of the product and its operational mechanisms on the blockchain.

Furthermore, MiCA does not encompass crypto-assets or crypto-asset services classified as securities, as this would result in duplicated regulatory frameworks. Services related to tokenized securities fall under the purview of the Markets in Financial Instruments Directive (MiFID).

Additionally, MiCA does not provide detailed Anti-Money Laundering (AML) rules for crypto businesses. AML regulations are currently being discussed within the Anti-Money Laundering Regulation (AMLR) framework or have already been finalized under the Transfer of Funds Regulation (TFR), which implements the Financial Action Task Force (FATF) travel rule. These regulations aim to prevent money laundering and the financing of terrorism through payment systems.

It is important to highlight that Know Your Customer (KYC) requirements and identification processes are only mandatory for transactions conducted between regulated CASPs. Transactions between self-custody wallets are not subject to the requirements outlined in the Transfer of Funds Regulation.

Lastly, it is worth noting that central bank digital currencies (CBDCs) are also not covered by the MiCA regulatory framework.

Under the provisions outlined in MiCA, cryptocurrency businesses are mandated to provide transparency regarding their environmental and climate impact. This entails the requirement for each CASP to include detailed information about the specific blockchain consensus mechanism employed in their operations within a publicly available whitepaper. Further guidance on the exact nature and format of these environmental disclosures from CASPs will be developed by ESMA (European Securities and Markets Authority), ensuring clarity and consistency in reporting standards.

• Cryptoasset issuers (with exemptions for utility tokens and small-scale crypto-assets) are required to prepare a detailed white paper that provides comprehensive information about the project, the issuer, associated risks, the technology utilized, the token’s economic design, and the environmental impact of the token’s consensus mechanism.
• Prior to publishing the white paper, cryptoasset issuers must notify their respective national competent authority at least 20 days in advance. While explicit approval is not mandated by MiCA, the authority has the ability to prohibit the issuance of the crypto-asset.
• In addition to standard obligations such as acting honestly, fairly, and professionally, disclosing conflicts of interest, and ensuring clear identification of marketing communications, MiCA includes an intriguing provision. It grants retail holders who participated in the token offering the right to withdraw within 14 calendar days without incurring fees.
• The precise disclosure requirements and white paper templates to be employed will be established by the EU supervisory authorities.

• Approval Process: Unlike regular crypto-assets, the publication of an ART white paper necessitates explicit prior approval from the national competent authority.
• EU Incorporation: The entity issuing ARTs must be incorporated within the European Union.
• Prudential Requirements: The issuer of ARTs is obligated to meet specific prudential “own funds” requirements, equivalent to 2% of the total ART supply.
• Reserve Management: The issuer must adhere to stringent standards for reserve management, encompassing aspects such as segregation, custody, and investment.
• Wind-Down and Resolution Plans: The issuer must have comprehensive plans in place for wind-down and resolution in the event of unforeseen circumstances.
• Higher Standards for Significant Issuers: “Significant” ART issuers are subject to even stricter requirements, including maintaining own funds amounting to 3% of the ART supply. Additionally, they must fulfill additional criteria related to interoperability, liquidity, and governance.
• Criteria for “Significance of ARTs” includes (but not limited to): 10 million holders; €5 billion market cap; daily transactions over 2.5 million or €500 million in value;
• Supervision by the European Banking Authority: The oversight of these significant ART issuers falls under the responsibility of the European Banking Authority, rather than individual national financial authorities.

General Requirements:

• Only regulated e-money institutions or credit institutions can issue EMTs in the EU.
• Competent authority notification is required for EMT white papers.

E-Money Token Specifics:

• EMTs have strict redemption obligations and cannot grant interest to holders.
• Similar “own fund” (2% of supply) and reserve management requirements as ART issuers.
• Investments limited to high-quality liquid assets.

Significant EMT Issuers:

• Overseen by the European Banking Authority.
• Higher requirements for own funds (3%), interoperability, liquidity, resolution, and governance.

MiCA also includes measures to deal with insider trading, which has been a concern amongst investors in CASPs. MiCA would require CASPs to publicly disclose inside information regarding their organization and tokens as soon as practically possible. This would need to be done in a manner that guarantees a swift and broad dissemination among the public.

One of the most common concerns raised with crypto-assets is so-called wash trading. In this context, wash trading means executing a transaction in which the seller is on both sides of the trade, which paints a misleading picture of an asset’s value and liquidity. Under MiCA, CASPs would be expected to be fully transparent and implement surveillance and enforcement mechanisms to deter any potential market abuse.

The implementation of MiCA is anticipated to commence after a transitional period of 18 months, suggesting that MiCA is expected to come into effect around Q4 2024. Subsequent to this transition period, all crypto-businesses operating within the European Union will be obliged to secure authorization as crypto-asset service providers.

EU Emerges as a Global Crypto Hub — Unlocking Economic Opportunities

The establishment of clear regulatory frameworks amidst the prevailing uncertainties in the global landscape has positioned the EU to attract capital, talent, and companies from around the world, particularly those interested in token issuance. This favorable environment has the potential to catalyze an economic and technological revival within the EU.

Major Institutional Adoption Within EU

With the implementation of the MiCA regulations, institutional adoption and activity within the EU crypto market are expected to witness a significant boost. Currently, only a small percentage of institutional funds in Europe have exposure to crypto-assets, primarily due to regulatory uncertainties. However, the introduction of MiCA is likely to address these concerns, leading major European banks to offer crypto-asset services such as custody, exchanges, and the issuance of e-money tokens or stablecoins.

Establishing Global Standards

The EU, as one of the world’s largest economic blocs, has considerable influence in global markets. Its regulations and standards often reflect high levels of consumer protection, environmental sustainability, and data privacy. As a result, other countries and regions, when crafting their own regulations, may take inspiration from EU regulations to enhance consumer protection and ensure compatibility with the EU market. This is particularly evident in areas where the EU has been at the forefront of setting standards, such as climate change mitigation, sustainable finance, and digital rights. For instance, the GDPR implemented by the EU has had a profound impact globally.

Undoubtedly, MiCA will exert considerable influence on the formulation of crypto-asset frameworks in other jurisdictions, particularly those lacking extensive experience in financial regulation and supervision.

DISCLAIMER: The information contained in this article is for educational purposes only and does not constitute any form of advice or recommendation by Wheatstones, and is not intended to be relied upon by users in making (or refraining from making) any investment decisions.