Much ado has been made of the challenges the United States faces when it comes to regulating cryptocurrencies: the split authority of the SEC and CFTC, the ad hoc application of legal tests (most notably, the Howey test) to determine whether or not new financial products fall within the regulatory perimeter of agency rules and regulations, and the limited human capital and funding necessary to vigorously understand and supervise new, technologically-driven markets.
But it could be worse. Indeed, whatever the challenges of a split US regulatory architecture, the European Union faces the problem of potentially having no regulator at all. Part of the problem resides in the fact that the primary piece of legislation, the Markets in Financial Instruments Directive (MIFID), regulates “financial interests,” but this is of extremely limited help. The term “financial interests” itself is divided into eleven classes, of which only one seems especially applicable, that of a “transferable security.”
Article 4.1 of MiFID contains the definition of transferable securities. This definition covers
those classes of securities which are negotiable on the capital market (except instruments of payment), such as:
- Shares in companies and other securities equivalent to shares in companies, partnerships or other entities, and depositary receipts in respect of shares.
- Bonds or other forms of securitised debt, including depositary receipts in respect of such securities.
- Any other securities giving the right to acquire or sell any such transferable securities or giving rise to a cash settlement determined by reference to transferable securities, currencies, interest rates or yields, commodities or other indices or measures.
Great, so we know now that “transferable securities” are “securities” negotiable on capital markets. Well then, what’s a security? Answer: there is no answer. Unlike the US, there is no (however ad hoc it may be) EU version of the Howey test. Instead, civil law predilections tend to define these kinds of things ex ante, creating a presumption in many quarters that cryptocurrencies lie outside the scope of Mifid, at least as it’s been written thus far.
This leaves key agencies like ESMA in the unenviable position of having to question whether or not they even have the power to issue warnings on cryptocurrencies and risks posed to investors, much less engage in rulemaking. Instead, the onus is on the Commission (and to a much lesser extent, ECB) to consider whether or not a redrafting of Mifid is necessary, or a fully fledged new regulatory apparatus for cryptocurrencies.
Again, this diverges considerably from the discussions in the United States. In the US, there is a sense that although the SEC and CFTC may in some instances only be able to regulate cryptocurrencies indirectly (through financial intermediaries), they have tools to do so if they so choose.
The lack of a clear EU framework leaves the member states in charge of regulating cryptocurrencies and exchanges in their own backyard, an inherently difficult position given the transnational nature of crypto products and fund-raises. And just as important as actually issuing rules, every member will have to have their own enforcement regime. And to my knowledge—and not surprisingly—there has been no enforcement action taken anywhere in Europe thus far.
This again contrasts considerably with the United States which, along with issuing warnings and a joint op-ed by the CFTC and SEC Chairmen(!), has engaged in notable enforcement operations, and is looking to take its supervision abroad. Indeed, if a leadership vacuum persists on the issue in Europe, I would not be surprised to see the G20, FSB and IOSCO approaches largely emulating the direction taken in the United States.