There is no doubt that cryptocurrencies such as Bitcoin, Ethereum, Ripple and Litecoin will play a major role in the future of finance. However, in the UK this is an area that remains largely unregulated.

Concerns have been raised over the volatile nature of cryptocurrencies, the potential for scams and their use in illegal activities, such as money laundering or funding terrorism.

In response, some countries have taken steps to regulate cryptocurrencies. The US, for example, has attempted to regulate initial coin offerings (ICOs) with increased involvement from the Securities Exchange Commission, and by issuing cease-and-desist orders to illegitimate cryptocurrency traders.

Others have attempted to stamp out cryptocurrencies entirely, with China banned cryptocurrency exchanges last year.

Efforts to regulate cryptocurrencies in the UK

The lack of UK regulation has led some to call for greater government involvement to ensure that consumers and businesses are aware of some of the risks. Cryptocurrency trade association CryptoUK has urged the government to introduce regulation to avoid the UK falling behind the rest of the world.

In February, The Treasury Committee launched an inquiry into digital currencies and distributed ledger technology, looking at what form regulation could take. The Financial Conduct Authority (FCA) has also put together a cryptocurrency regulation task force in association with the Bank of England, and guidelines on policy are due to be unveiled in September.

On Tuesday, the UK Parliament Treasury Committee met to discuss the issue of digital currency, with representatives from HM Treasury, the FCA and the Bank of England in attendance.

What was said

Due to its decentralised nature, rapid technological development, and the fact that there are now more than 1,000 cryptocurrencies available on the internet, cryptocurrency is notoriously hard to regulate. As cryptocurrency does not have a defined classification in the financial market, the FCA does not currently have any regulatory scope over it. Directly of policy at the FCA David Geale explains that most cryptocurrency activity is therefore unregulated:

“The challenge comes when you look at the bulk of this activity which is in the unregulated space around things like the utility tokens where you are buying for example future rights to access a themepark or something that doesn’t exist at the moment. Is that the sort of thing we would regulate? It’s certainly not the sort of thing we would regulate at the moment. I think that seems to be the approach being taken internationally as well.”

Although the experts did not believe that it poses a severe enough threat to financial stability for cryptocurrency regulation to be urgent, they agreed that a regulatory framework of some sort was needed. Head of Notes Operations at the Bank of England Martin Etheridge said:

“The financial policy committee at the bank issued a statement in March confirming their view that they didn’t see a current threat to financial stability. These things are not function as payments of settlement so that’s not a particular worry. In terms of the linkages with systemically important firms or systemically important markets, those linkages are pretty negligible right now. The market itself is small in comparison to other large financial markets. But that’s not to say we’re not also remaining vigilant.”

Another issue raised was the need to protect consumers from misinformation on cryptocurrencies. Earlier this year, both Facebook and Google banned cryptocurrency adverts on the grounds that they are often deceptive. Geale warned that many may not be aware of the risks investing in cryptocurrency can entail, or that a lack of regulation means that there is no protection for individual investors:

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“We saw particular issues with around things like people thinking they were operating in a regulated space when they weren’t. We wanted people to realise that they could potentially lose a lot of money very quickly.”

What form could UK cryptocurrency regulation take?

There are a number of different routes the UK could take in pursuing cryptocurrency regulation, and a number of things that need to be cleared up before it can be held to the same standards as the rest of the financial system.

Firstly, HMRC must determine whether cryptocurrency can be taxed under capital gains tax. A framework for ICOs could also help consumers discern whether or not an ICO is legitimate. Thirdly, steps need to be taken to determine how cryptocurrency fits into anti-money laundering and terrorist financing regulations.

Steps have already been taken to regulate traders of cryptocurrencies, with the Treasury already requiring cryptocurrency traders to disclose their identities and report suspicious activity.

Geale offered some insight into how the UK could approach regulation:

“We would look at things like the customers the firms are dealing with, who they are targeting through their marketing, the standards of their marketing, the standards of their disclosures with things like risk warnings, the balance of those and the sufficiency of those.

“There’s nothing inherently wrong with high-risk investments that potentially come with high volatility, it’s about who buys those investments and whether they understand what they’re buying.”

However, David Ra, deputy director of banking and credit at HM Treasury warns of the dangers of over-regulation, with cryptocurrency regulation needing to balance protecting consumers and encouraging innovation:

“We want to approach this in the same way as we approach other bits of the fintech sector in that we don’t want to stifle innovation, particularly in relation to the underlying technology, but equally we want to manage the risk.”

Regardless, it is clear that regulation would need to be international:

“I think it’s important to have an international solution because whatever we do in the UK, if we restrict leverage for example, then firms are able to offer what they were before from abroad and we end up with regulatory arbitrage.”