CAI0032

Written evidence submitted by Howard Kennedy LLP

This evidence is submitted on behalf of Howard Kennedy LLP, who are a full-service law firm providing advice to entrepreneurial businesses and individuals on domestic and international matters. In particular, we advise on the legal and regulatory issues surrounding the practical use and application of blockchain sector-wide, with a particular focus on financial services. We service a number of clients in the crypto-asset industry, which is why we have made this submission to you today.

The Call for Evidence asks: Is the Government striking the right balance between regulating crypto-assets to provide adequate protection for consumers and businesses and not stifling innovation?

In our opinion, the answer is "No". Current regulatory measures in the UK toward crypto-assets are not only stifling innovation, but also failing to adequately protect consumers and other market participants.

Government and regulators are failing to adequately address the fundamental innovations of crypto-assets derived from the decentralisation afforded by distributed ledger technology (DLT).

Crypto-assets are dematerialised. Blockchain represents to the transfer of value what the internet represented to the transfer of information. The speed with which crypto-assets, non-fungible tokens and other DLT-powered developments have come to prominence points to an international interconnectedness which is novel.

Technology allows consumers and businesses all around the world the ability to access the crypto-asset marketplace from wherever they are. As such, it is inappropriate to consider a Governmental or regulatory approach to crypto-assets on a national or jurisdictional level in the traditional sense. It is reminiscent of King Cnut for us to refuse to accept that the tide of crypto-assets is rising on our shores in one form or another. But we can choose how to engage with this wave of innovation.

Crypto, therefore, allows creators and participants to choose their preferred jurisdictions, and allows some jurisdictions to be seen as more crypto-friendly than others. Jurisdictional arbitrage is not a new concept, but the crypto playing field is a new arena. The UK is not thus far (in spite of politically expressed will) crypto-friendly. Assessing the effectiveness of regulatory measures assumes an alignment (or at least recognition) between all stakeholders as to the aim and purpose of financial regulation. And in the UK this is an assumption open to challenge. Existing and incoming regulatory measures have created barriers to entry for innovation, and continue to drive existing business offshore from the UK. Lack of clarity from the FCA as to their expectations of market participants is distancing interested parties in the financial services industry from their regulator. The cumulative effect seems to be a delight to competing jurisdictions as they watch us wilfully drive innovation and business from our shores and toward other jurisdictions. In these times of economic hardships, it is surprising that the UK should wish to surrender its pre-eminence in the financial markets in this way.

Crypto remains an immature, but quickly evolving, market. We now have the ability to link previously unconnected concepts and DLT allows us to tear up old ways of doing things. It allows us to disintermediate and decentralise transactions instantaneously. The speed of development means our regulatory response needs to be faster, and both more flexible and more joined up.

In the UK, crypto was initially viewed as being outside the regulatory perimeter, on the basis it is not a currency in the economic sense. Subsequent efforts at regulating parts of the crypto landscape have been piecemeal have been founded on ways in which crypto seems similar to other existing asset classes or instruments and uncommercial. This is not the forum to explore the virtues of the argument that such an approach has been the only one available in the UK under our existing regulatory framework. However, the approach going forward must be to accept that crypto-assets are fundamentally differentiated from existing asset classes and instruments. These differences in turn require a different legal and regulatory approach to what has gone before. If the current framework is not flexible enough to allow the UK to be the leader in attracting, and retaining, crypto-asset related innovation and commerce, then the framework must adapt. And not only adapt purely to accommodate crypto, but to be flexible enough to allow us to capture and leverage of future innovations.

September 2022