The Chain moves forward

2019 has been a very active year concerning Blockchain and DLT: Facebook announced its stable coin Libra, the Liechtenstein lawmaker decided to recognize the new technologies in their “Token and TT Service Provider Act”, and the German Federal Government published their “Blockchain Strategy”.

In 2020, there is no doubt that regulations will address the grey token market in Europe. European laws mention “virtual currencies” in the amendment of the 4th AML Directive (Directive (EU) 2018/843)) and require the Member States to add anti-money-laundering regulations concerning providers of wallet services for virtual currencies. Furthermore, the EU started public consultations concerning an EU framework for markets in crypto-assets.

Germany has published its implementing Act and the changes will be significant following 1 January 2020, starting with a new licensing requirement under German Banking Act for crypto custody business and a definition for virtual currency/ value.

 

Blockchain Strategy of the German Federal Government

In September 2019 the German Federal Government published its Blockchain Strategy, which, in short, summarizes the most common challenges with Blockchain and DLT-based technologies. However, more importantly, the Strategy addresses the chances and opportunities that will be supported by the Government. At least some of the initiatives and proposals are quite surprisingly specific and will apply in short already:

  • Crypto-assets will be regulated to allow application of existing European standards to securing stability in the finance sector.
  • Regulatory sandboxes will allow testing of new technologies and regulatory approaches. These sandboxes will be part of the “Reallabore”-Strategy of the Federal Ministry for Economic Affairs and Energy in Germany.
  • Logistics, Production [German Read] and the Energy market [German Read] are seen as markets with great chances to apply Blockchain and DLT by way of smart contracts.
  • Smart contracts [German Read] come a step closer to “code is law” by applying standards and certifications.
  • GDPR will not change, but there will be help to apply the complex rules of data protection on Blockchain projects.
  • The Government will test projects to apply Blockchain and DLT in their own administration, in particular with digital identities and trust services.

In particular, the availability of regulatory sandboxes in the future will be a very interesting mechanism because until now there has been a non-existent approach under the German banking supervisory authority (“BaFin”). It is very likely that the “Reallabore” will deviate in practice from the general understanding of regulatory sandboxes. This approach will likely be more of a monitored pilot project with a very limited (if so) audience.

In addition, regulation of smart contracts and establishing standards might help to drive innovation and establish a reliable legal framework for smart contracts, in particular concerning interoperability of smart contracts. Even though German contract law does not require a standard in this field, it might help to set up international binding contracts based on smart contracts. The ISO/TC 307 taking care of international standards in Blockchain and DLT have started to develop the possibilities of international standards for legally binding smart contracts (ISO/AWI TS 23259).

From this, businesses in Germany can expect several additional activities by the Federal Government, including new draft regulations concerning the use of Blockchain and DLT.

 

Crypto-Assets enchained

As one of the first items from the German Federal Governmental buckets list, the regulation of crypto-assets has at least partly already become reality. Following 1 January 2020, for example crypto custody services are to be regulated by law in Germany [German Read]. The lawmaker did not only implement the given European regulation but also decided to concretely specify the gap in the existing rules and provide both the providers and regulators more reliability in the relevant rules.

Accordingly, in Sec. 1 (1a) cl. 2 no. 6 of the German Banking Act, the crypto custody service is defined as “custody, management and safekeeping of crypto values or private cryptographic keys which are intended to keep, save and transfer crypto values for other persons. The term” crypto values” is defined in Sec. 1 (11) cl. 4 German Banking Act, stating that crypto values “are digital representations of a value that has not been issued or guaranteed by any central bank or public body and does not have the legal status of currency or money, but is accepted by natural or legal persons as a means of exchange or payment by virtue of an agreement or actual practice, or is used for investment purposes and can be transferred, stored and traded electronically.”

As such, the crypto custody service for crypto values addresses clearly the custodian services referring to crypto tokens. Such services will now require a licence and will have to apply for a licence.

The BaFin will be in charge to issue licenses for crypto custody services. Therefore, BaFin surveyed until the middle of December 2019 chances and risks of crypto assets, and asked stakeholders for their opinion on a future regulatory framework.

 

Looking to the future, however, it has to be noted that the European Union urgently requires uniform regulation, and if only to avoid an internal EU regulatory patchwork. Moreover, the creation of a uniform legal framework would be within the realm of what is actually possible, as already achieved for example (largely) with MiFID II and PSD2.

How the market for crypto-currencies and crypto-services in Germany will develop in the long run remains to be seen; in particular, whether it will have a lasting effect on the classic banking business on the one hand and the development of the crypto industry on the other.