The European Union's recent adoption of the Markets in Crypto-Assets Regulation (MiCA) into law represents a huge, and foolish, step in how Europe approaches the regulation of crypto. Given recent regulatory actions by the Securities and Exchange Commission (SEC) aimed at crypto exchanges in the United States, many are wondering what effect, if any, MiCA will have on the crypto ecosystem in the U.S. and worldwide. How will it change financial innovation in Europe? Will a similar framework be adopted elsewhere?
MiCA makes two mistakes at once. It undermines the privacy of E.U. residents while triggering a departure of financial technology talent from Europe to other jurisdictions—most likely Hong Kong, El Salvador, and the United States.
These new European regulations have sparked intense debate surrounding privacy and the erosion of personal freedoms, especially because of its requirement to verify the identity of recipients when sending crypto worth over 1,000 euros to private wallets.
This follows a trend of diminishing financial privacy in the E.U., as the European Central Bank has been reducing the size of cash transactions that do not require mandatory reporting. However, the 1,000 euro limit for crypto is much lower even than cash reporting requirements. Want to buy a new laptop for your small business? Or perhaps you purchased some farm equipment from your neighbor? European Central Bank president Christine Lagarde must be told about it.
Such a sweeping violation of privacy is harder to establish in the U.S. because there is a stronger expectation of personal freedom here. Still, even U.S. regulators have shown they believe their obsession with anti-money-laundering measures is more important than its citizens' financial privacy. Financial surveillance, especially related to cryptocurrencies, does threaten to ratchet higher in the U.S. unless financial privacy advocates speak up effectively.
Beyond privacy concerns, MiCA puts Europe at risk of losing its competitive edge as a hub for financial innovation. Regardless of whether the multitude of "crypto" projects has a future, it's clear that bitcoin will play a central role in the future of digital finance. The jurisdictions that can attract this talent will benefit from the small but growing bitcoin infrastructure sector of the world economy.
Hong Kong has positioned itself as a crypto innovation hub, carrying forward the city's legacy as a world leader in free capital markets. On the other hand, the Chinese Communist Party's crackdown on Hong Kong's Umbrella Movement casts a shadow over the future of Hong Kong that will be difficult for long-term investors and tech nomads to ignore.
El Salvador, for its part, has made remarkable strides in embracing bitcoin, including making the virtual currency legal tender in 2021. Last month, its president approved the Innovation and Technology Manufacturing Incentives Act (ITMIA). Instead of trying to stamp out innovation, El Salvador is aggressively building a robust bitcoin and A.I.-driven economy. The ITMIA eliminates taxes—yes, all taxes—on companies that are creating or importing most kinds of technology.
This is the kind of power move that underdogs can afford to make. The E.U. clearly believes it's immune to a permanent loss of tech talent to upstarts like El Salvador and that increasing taxes on the existing economy will pay off more than creating a regulatory environment that encourages growth in the technology sector. Time will tell if the E.U.'s risky bet pays off.
Mairead McGuinness, an E.U. commissioner, has said that regulating crypto is "a little bit like climate change" in that merely addressing the topic "in the E.U. is not enough, we need to have global engagement and sharing of experience." This is a fascinating window into the thinking behind MiCA. Regulators in Europe believe that their environmental targets should be adopted globally. In recent decades, however, it has become clear that the E.U. lacks the leverage to compel the world's largest economies and most populous countries to fall in line.
Like with the E.U.'s green deal, European regulators believe the whole world should fall in line with them and that MiCA should serve as a global standard for how crypto is dealt with legally. But this dream of theirs fails to account for a lack of incentive alignment. Countries that wish to grow their technology sectors would never willingly adopt a regulatory framework like MiCA.
There is also a certain irony in European lawmakers attempting to suppress bitcoin particularly, which stands out as a digital asset with the potential to protect the vulnerable. Its decentralized nature, consistent demand, and growing acceptance by institutions show that its value proposition is understood by more people each day.
As the world embraces the possibilities presented by bitcoin, people who live in jurisdictions with hostile regulatory environments will lose privacy and prosperity relative to those who live in places that recognize and encourage financial innovation.