The Financial Services and the Treasury Bureau (FSTB) and the Hong Kong Monetary Authority (HKMA) ran a two month stablecoin consultation at the start of the year with 108 responses. Today they published a legislative proposal including responses to issues raised in the consultation. They plan to submit a bill to the Legislative Council later this year.
“In addition to the existing regulatory regime for VA (virtual asset) trading platforms, the establishment of a licensing regime for FRS (fiat-referenced stablecoin) issuers will further strengthen the VA regulatory framework in Hong Kong in line with international standards and effectively mitigate possible financial stability risks associated with FRS issuance activities,” said the Secretary for Financial Services and the Treasury, Mr Christopher Hui.
Today’s paper clarified several points, although there were only a few changes from the original consultation. One amendment related to capital. The original proposal was that stablecoin issuers must have the greater of 2% of the stablecoin issuance or HKD25 million ($2.9m) in capital. They reduced the percentage to 1%, but this is a minimum and the HKMA can specify a higher amount on a case-by-case basis.
When they published the consultation, we highlighted the key points which are repeated below with the addition of today’s clarifications.
Who can issue stablecoins?
Licensing requirements apply to issuers who issue a stablecoin in Hong Kong or reference the Hong Kong dollar. Additionally, any stablecoin issuer that “actively markets” to Hong Kong users needs to apply for a license. Any issuers not licensed by the HKMA can only offer stablecoins to professional investors.
One takeaway from this and other stablecoin regulations such as the EU’s MiCAR is that stablecoins that want to have global reach are likely to need to have a physical presence in most countries.
The marketing of stablecoins will not be restricted to specialist stablecoin issuers. Hong Kong also envisages crypto exchanges, regulated banks and certain securities firms that have crypto authorizations being able to offer stablecoins to clients, but the professional investor restriction applies to unlicensed stablecoins.
One of the issues the authorities debated was whether to adapt existing e-money regulations (referred to as stored value facilities (SVF)). However, it decided standalone regulations were more appropriate. The regulations also exclude CBDCs but notably don’t mention the topic of tokenized deposits.
Stablecoin reserves and interest ban
Stablecoins cannot pay interest to holders. Today the HKMA said that issuers can offer marketing incentives. But the incentive mustn’t relate to the amount of stablecoins held and how long the user holds the balance. Plus, the issuer can’t make arrangements with third parties to provide interest to users.
The original proposals didn’t provide specifics on the management of reserve assets. In today’s paper, the HKMA said the issuer would have to clarify this during the application process. Regarding segregating assets from the issuer’s own, the HKMA prefers the creation of a trust based on comments in the consultation response.
Reserve assets must be ‘high quality’ and ‘highly liquid’. Today HKMA clarified that this includes:
- Cash
- Bank deposits
- Marketable securities issued by governments, central banks or qualified international organizations with high credit quality
- Overnight reverse repo agreements with minimal counterparty risk and the same quality backing
- Tokenized versions of the above assets.
There’s a requirement for the assets to match the stablecoin’s currency but the HKMA will permit some exceptions, provided the issuer gets prior approval. Given the pegging of the Hong Kong Dollar (HKD) to the U.S. dollar, the HKMA said it intends to allow stablecoin issuers to include USD-denominated reserve assets. We’d observe that if the HKD ever abandoned the U.S. dollar peg, there’s a risk a stablecoin might lose its peg.
Reporting on the valuation and composition of reserve assets was quite specific. The stablecoin amount in circulation should be reported daily, the composition of reserves weekly, and auditor attestations monthly.
There was some pushback in the consultation regarding the monthly attestations. The HKMA did not concede on this but said it might reduce the frequency of the unaudited public disclosures. That’s surprising given we’d hope the internally generated public disclosures would be automated. It’s the attestations that are pricey.
Other stablecoin requirements
Stablecoin redemption requests should be dealt with in a timely manner. Today the HKMA clarified that this means one business day in normal circumstances. The issuer can request permission from HKMA for a longer period if there’s a market stress scenario.
The consultation states that AML procedures should cover “issuance and redemption, transaction monitoring and wire transfer (“travel rule”) requirements”. Concerning transaction monitoring, does that relate to all transactions, not just ones in which the issuer is directly involved?
The HKMA must authorize any additional stablecoins. It’s unclear if this purely applies to new brands or currencies or whether that also relates to the same brand being issued on a different blockchain.
Issuers can provide wallet services and any other activities would require authorization. However, an issuer cannot lend money or conduct other regulated activities.
There will be transitional rules, but existing stablecoin issues must apply within three months of the regulations coming into force. If not, they have to shut down.
Meanwhile, in March the HKMA launched a stablecoin sandbox.
