Hong Kong will not tolerate algorithmic stablecoins in new regulation

In the key principles of its upcoming regulatory framework, the Hong Kong Monetary Authority (HKNA) didn’t find a place for algorithmic stablecoins. Instead, the chief financial regulator will demand all stablecoin issuers back up their values with underlying reserve assets at all times.

On Jan. 31, the HKNA issued the consultation conclusion to the discussion paper on crypto and stablecoins, summarizing the feedback from 58 submissions. In its summary, the regulator repeats the popular formula of a “risk-based and agile” approach, which is necessary for the maturing crypto industry.

The regulatory arrangements, based on the consultation process, are expected in 2023/24 either in the form of new legislation or amendments to the existing laws. As repeatedly specified in the paper, the priority would be given to regulating stablecoins that “purport to reference to one or more fiat currencies.”

The new licensing process would be obligatory for both the issuers that conduct their activity in Hong Kong directly and those companies, that “actively” market their products to the Hong Kong public. The key regulatory principles highlighted the importance of full backing and redemption at par:

Stablecoins that derive their value based on arbitrage or algorithm will not be accepted. Stablecoin holders should be able to redeem the stablecoins into the referenced fiat currency at par within a reasonable period.

The HKNA intends to develop a comprehensive regulatory framework for stablecoins, based on the principle of full backing and redemption at par. It also would restrict the companies from deviating from their principal business. The paper cites the example of wallet operators, which wouldn’t be allowed to engage in lending activities.

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As the regulation would focus on the areas of issuance, governance and stabilization, some of the stablecoin-related activities “may not be captured” in the regulatory scope at the initial stage. Among them are purchasing or exchanging a stablecoin with fiat currency, operation and management of centralized stablecoin lending services, issuance of crypto-asset debit/credit cards and operation of crypto-asset automated teller machines (ATMs) or exchange shops.

According to a recent report from CryptoCompare, the current market share of algorithmic stablecoins stands at 1.71%, while its all-time high record in April 2022 reached 12.4% of the whole crypto market.