The European Parliament’s Committee on Economic and Monetary Affairs (ECON) issued a motion for a European Parliament resolution on virtual currencies that covers numerous regulatory proposals.
The motion summarizes the risks and opportunities of distributed ledger technology (DLT) and virtual currencies. It notes that both have the potential to benefit consumer welfare and economic development by lowering transaction costs for transfer of funds and payments below 1%, compared to 2% to 4% for traditional online payment systems and more than 7% for cross-border remittance transfers.
The motion notes that reducing the cost of access to finance without a traditional bank account can be reduced, thereby contributing to financial inclusion, which is consistent with G20 and G8 objectives. The technology can also enhance the resilience and speed of payment systems due to DLT’s decentralized structure, which could continue to reliably operate even if sections of the network were to suffer a hack or a malfunction.
The technology could enable systems that combine low transaction costs, ease of use and a high level of privacy without full anonymity so that transactions can be traced back in cases of malfeasance. Such systems could develop online micropayments that could replace the existing “data-hungry” online models that challenge individual privacy.
The systems could also permit different types of innovative payment mechanisms, from credit cards to mobile solutions, to combine into one user-friendly and secure application.
DLTs and virtual currency schemes involve risks that must be addressed, including tax fraud, terrorist financing and money laundering based on “mixing services” and “pseudonymity” that some services provide, keeping in mind that the traceability of cash is still much lower.
Another risk is the absence of reliable governance structures, notably in some DLT applications like bitcoin that provide uncertainty and consumer perception issues, particularly in cases of challenges unforeseen by the original software designers. There is sometimes limited capacity of regulators regarding new technology that could make it hard to define the right safeguards promptly to ensure the proper functioning of DLT applications before they expand to the level of becoming systematically relevant.
The legal uncertainty surrounding new DLT applications is also a concern.
Beyond payments, the motion notes that DLT has potential to decentralize, automate, accelerate and standardize data-driven processes that can alter the way assets are transferred, and records kept. This has implications for both the public and private sectors.
The public sector is concerned in three areas: as a service provider, as a legislator, and as a supervisor. ECON pointed out that settlement, clearing, and other post-trade management processes now cost the global financial industry more than EUR 50 billion annually. This is an area where DLT could prove to be transformational in speed, resilience and efficiency, but would also raise regulatory challenges.
The potential of DLT extends well past the financial sector and includes the potential for smart contracts.
ECON encouraged the government agencies to test DLT systems to improve providing services to citizens while cautioning on the outsourcing of public services to private DLT schemes. It recommended that government agencies examine the use of real-time DLT-based reporting and supervision tools as part of the RegTech agenda in the financial sector and elsewhere, including reducing the sizeable value added tax (VAT) gap in the EU.
The motion calls for a regulatory approach that does not stifle innovation in an early stage while recognizing the regulatory challenges that the wide use of virtual currencies and DLTs could pose. Key EU legislation will likely apply about activities carried out, irrespective of the technology.
ECON welcomed the Commission’s suggestions for including virtual currency exchange platforms in the AMLD and recommended further extending its scope to custodian wallet providers when the use of the currency becomes prevalent and that users would no longer need to exchange virtual currency for legal tender.
ECON recommended a review of EU legislation on payments, including EMD and PSD, on account of new possibilities offered by new technological developments with a goal of enhancing competition and lowering transaction costs. This could include enhanced interoperability via the development of a universal and non-proprietary electronic wallet.
The motion calls for the creation of a horizontal task force on DLT under the Commission’s leadership to give the necessary regulatory and technical expertise to support the relevant actors (at both the EU and member state level) in efforts to ensure a well-informed response to the new challenges and opportunities.
It asks the Commission to examine a legislative proposal requiring DLT and virtual currency scheme actors that don’t yet have to comply with standards to demonstrate the following:
• If used on a large scale, is the scheme designed to prevent harming users and consumers?
• Is it safe, systemic, and have a dependable governance structure?
The motion instructs the president to send this resolution to the Council and the Commission.
Investment in distributed ledger technology (DLT) is soaring, ECON noted. DLT enables a fast, decentralized, secure way to record any transaction along with the history of previous transactions in a distributed ledger.
While questions remain over the scope of DLT, The European Parliament recognizes both the opportunities and risks it involves.
The key opportunities in the payments field relate to the reductions in transaction costs and the ease of use while enabling varying levels of privacy. The transaction costs for payments on average account for more than 7% of cross-border remittances. Both the G20 and the G8 have committed to reducing these transfer costs. More competitive costs can also be delivered to the single market.
In the medium term, the introduction of an interoperable and non-proprietary single wallet can strengthen competition.
Much of DLT’s potential will likely expand beyond the payment sector. The motion notes post-trade management as a DLT manifest use case in the private sector. Applications are likely to emerge where reliability, ownership, proof of identity and standardization are critical. These include supply chain management, property transfers, government services, intellectual property transfers and smart contracts.
The potential to reduce the VAT gap of 168 billion euros using DLT should be explored, for example, as part of the RegTech agenda.
Risks related to DLT and virtual currencies will become clearer as their use expands. Some big risks have already emerged, such as the abuse of applications for criminal behavior, including terrorist financing and money laundering.
Because DLT will likely be used in several systemic areas, the resilience and proper functioning of these systems must be assured based on supervisory structures and sound governance. In addition, consumer protection issues will likely emerge in some applications.
One aspect of smart regulation in an environment of dynamic innovation is for the regulator to create sufficient capacity, including technical expertise. Heavy-handed and pre-emptive regulation that could stifle growth can and should be avoided.
A smart regulatory regime based on proportionality and analytical excellence should not be confused with “light touch” regulation. If and when appropriate, fast and forceful regulatory measures should be part of the toolkit in order to address risks before they get systemic.