As the cryptoasset industry grows, it’s only inevitable that it attracts more regulatory attention. The truth of this assumption was highlighted in March, when the Financial Action Task Force (FATF) published an update for its guidance relating to the money laundering risks posed by cryptocurrencies.
There’s nothing particularly surprising about this update, which mostly expanded the definition of virtual assets (VAs) and virtual asset service providers (VASPs) to include more of the overall crypto ecosystem (e.g. stablecoins, peer-to-peer transactions). However, observers have noted that the FATF’s guidelines could have a negative impact on the competitiveness and inclusivity of the international crypto industry, insofar as it may be easier for larger companies to comply with a growing number of strict guidelines than smaller startups.
This is also the view taken by a variety of industry players speaking with Cryptonews.com, who said that the costs of compliance are more affordable for already established firms. That said, principles of proportionality indicate that smaller companies in developing nations may not have to uphold the same standards as others.
FATF guidelines impose barriers to entry
As Blockchain Association of Kenya founder Michael Kimani noted recently, the FATF’s (updated) guidelines are likely to provide established, larger firms with a competitive edge:
Best play maybe partnerships with foreign compliant crypto companies, then work to customize front end products for… https://t.co/KFFugtFeci
This kind of view is shared by players from across the industry, with Dr. Scott Grob of ACAMS (Association of Certified Anti Money Laundering Specialists) telling Cryptonews.com that the FATF guidance will target both small and large VASPs and crypto companies, irrespective of size.
“Unfortunately, many smaller VASP and crypto firms will struggle to integrate these anti-financial crime requirements into their systems and find the technical resources to maintain them,” he said.
It’s not only exchanges in developing nations and smaller markets who may struggle with the guidelines, but also customers.
“Adoption and enforcement of the FATF guidance can be expensive on the one hand and not appealing for the customers seeking privacy on the other hand. Therefore, it is reasonable to believe most of the exchanges, wallet providers, and custody platforms are not pleased to adopt the guidance,” said Or Lokay, Vice President of crypto tax consultancy Bittax.
Given that the FATF’s guidelines will be implemented differently according to the specific laws of each jurisdiction, companies in certain nations may have an easier time than others.
“VASPs operating in multiple jurisdictions will be under increased scrutiny and need more robust internal controls, systems for [know-your-customer (KYC)], detection, and better resources,” said Scott Grob.
“Subsequently, larger VASPs with simpler operating models in accommodating regulatory jurisdictions, such as Singapore and Japan, will benefit the most.”
Basically, increased costs will inevitably result in some smaller startups being priced out of the market. Hence, the worry that the guidelines could impact diversity and inclusivity.
“Since the guidance requires that VASPs collect specific additional information on customers and transactions (including but not limited to ‘the travel rule’), compliance with the guidance is likely to result in additional costs for VASPs. In general, higher compliance costs can potentially result in barriers to entry,” said Robin Newnham, the head of policy analysis at the Alliance for Financial Inclusion.
Or Lokay pointed out that, according to data from Thomson Reuters, established financial institutions “spend up to USD 500m annually on KYC and customer due diligence, and the average annual spending is USD 48m.” This provides some indication of the scale of labor and resources needed to comply with regulations, and of the fact that the regulation tends to lead to at least some degree of consolidation.
Just guidelines, but…
The important point to note about the FATF’s guidelines is that they’re just that: guidelines. That is, while they set out best practices for identifying and mitigating anti-money laundering (AML), combating the financing of terrorism (CFT)-related risks, they aren’t legally binding.
“Whilst such guidance is non-binding, it may be expected to significantly influence national authorities’ legal, policy, and regulatory approaches, as well as how countries are assessed for the technical compliance and effectiveness of their AML-CFT regimes as part of their Mutual Evaluations,” explained Newnham.
In other words, while each national jurisdiction is expected to implement the guidelines, each has some degree of flexibility in implementing them according to their current infrastructures, practices, and resources.
“The manner in which the guidance is adapted at the national level may vary considerably depending on jurisdictions’ different capacity to develop appropriate policy approaches, and the extent to which jurisdictions regulate VASPs only from an AML-CFT perspective, or take more a holistic view to regulation & supervision of the VA/VASP sector,” he said.
What’s more, Newham added that the FATF guidelines, like most other financial regulations, are designed to be implemented in a way that’s proportionate to the level of risk in each jurisdiction.
“If the principle of proportionality in regulation is appropriately applied, such financial regulations should not be to the detriment of smaller firms from developing countries,” he told Cryptonews.com.
On the other hand, while there is a risk that the FATF’s recommendations will result in some firms being priced out, most commenters recognize that some international regulation is inevitably needed to curb money laundering and criminal activity.
An effective channel
“In the longer-term, compliance with global AML-CFT standards, whilst imposing immediate additional costs for VASPs, could potentially also provide benefit by increasing the reputation of the sector and mainstream adoption,” said Newham.
At the same time, the situation can be helped by giving developing economies a greater role in formulating regulations and guidelines.
“Whilst the system of FATF style regional bodies (FSRBs) provides an effective channel for disseminating the FATF standards and guidance to developing countries, as well as a mechanism for assessing their subsequent implementation of the standards, there is still room for strengthening the voice and participation of developing countries in the standard-setting process itself, including through representative Global South networks such as the Alliance for Financial Inclusion,” added Newham.
Scott Grob also recommends a number of measures that, if implemented, would facilitate greater inclusion by making it easier for developing economies to introduce regulations.
These include promoting “digital documentation and identification that can be used for remote onboarding onto a financial institution or VASP,” introducing “public service utilities and apps that promote interoperability and exchange,” and reducing “the onboarding cost and regulations” inherent to KYC guidelines.
However, without such measures, we can still expect the arrival of regulations to help accelerate consolidation in the crypto industry. And as we all know, consolidation and centralization are kind of the opposite of what crypto is supposedly about.
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