(Bloomberg) — Small shops dotted around Hong Kong where you can exchange cash for cryptocurrencies with few questions asked, a modern-day reflection of the city's freewheeling past. Many businesses may soon be shut down due to the looming crackdown.
Authorities estimate that 450 stores, automated teller machines and websites in Hong Kong offer such services. They are a significant part of over-the-counter, or OTC, cryptocurrency trading, accounting for the bulk of the $64 billion in digital assets that flowed through the city in the year to June, according to Chainalysis.
Some crypto shops are suspected of facilitating prohibited activities, such as Chinese people ignoring overseas remittance restrictions and scammers luring investors into scams. Against this backdrop, Hong Kong is planning a licensing system under customs authorities that would require virtual currency OTC providers to collect customer records and add staff to monitor fraudulent activity, which is expected to increase costs.
At the same time, the city aims to build a highly regulated cryptocurrency exchange as the primary alternative to the OTC route to digital assets. Such exchanges have a Feb. 29 deadline to obtain or apply for permits under a rulebook the Securities and Futures Commission will impose in mid-2023.
“Integration” is likely
The planned OTC framework “will lead to reduced consolidation and use of these platforms as entry points into cryptocurrencies,” said Chengji Ong, head of APAC policy at Chainalysis, which tracks digital asset trading. . Providers will need to better manage crime, cybersecurity and other operational risks, she said.
The Hong Kong Financial Services Authority and the Treasury Department this month began consultations on the OTC rules, which run until April 12. It focuses on preventing money laundering, terrorist financing and fraud. This provision does not apply to service providers such as digital asset exchanges, which are already subject to strong supervision by the SFC and the Hong Kong Monetary Authority.
Jason Chan, a partner at Hong Kong-based law firm Howes Williams, which specializes in advising on financial regulations, said involving the city's customs office alongside other authorities meant that regulation would be “piecemeal.” He said there was a risk of giving the impression that the rules were being formulated.
A spokesperson for the Department of Financial Services and Treasury said that given Customs’ experience, Customs is the most appropriate authority to supervise virtual currency OTC service providers. The planned rulebook will provide the necessary controls and maximum investor protection, the spokesperson added.
rising costs
One of the OTC companies in Hong Kong is Wan Satoshi, which operates a chain of stores. Co-founder Roger Lee said the business is primarily aimed at individual investors, typically for small-value trades of HK$10,000 ($1,278) or less.
The company already has anti-money laundering and know-your-customer checks in place, but new requirements related to compliance officers and record-keeping could increase costs, Lee said. OTC companies “will either have to cease their crypto business or apply for a new license,” he said, adding that further guidance is awaited.
Hong Kong has set its sights on developing a digital asset hub in the second half of 2022. It's part of an effort to appear cutting-edge at a time when questions remain over Hong Kong's future as Beijing tightens its grip on the former British colony. The SFC announced regulations for crypto exchanges last June, welcoming license applications while stressing the need for investor protection given the industry's history of volatility and fraud.
There are currently two certified digital asset exchanges: HashKey Exchange and OSL Group. About 18 other people have applied for permits. The SFC is also open to allowing exchange-traded funds to invest directly in cryptocurrencies, while the city's financial authority has announced stablecoins (a type of token intended to hold a fixed value, usually $1). ).
Regulatory challenges
“Incorporating OTC trading into the regulatory structure is a natural extension of the system,” said Vince Turcotte, an advisor to crypto exchanges. “The main impact is to further legalize Hong Kong’s market.” Told.
Hong Kong is competing with the likes of Singapore and Dubai for digital asset business. The jury is out not only on whether cryptocurrency and its underlying blockchain technology is worth pursuing on a large scale, but also on how well it will perform. Last year, the explosion of the unlicensed JPEX crypto platform in Hong Kong caused a loss of HK$1.6 billion, underscoring the sector's risks once again.
It will be no easy task for the city to police the industry and surface transactions, given the large number of crypto platforms around the world and the opportunity for peer-to-peer transactions that are difficult to trace.
“The decentralized nature of cryptocurrencies makes it very difficult to regulate the industry,” said Carlton Lai, head of blockchain research at Daiwa Capital Markets. “There are many of them, and users can easily access them without government oversight.”
–With assistance from Rebecca Choong Wilkins.
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