By 2022, the UK will be a global hub for blockchain technologies and the crypto economy. That is the claim of a new report from the Big Innovation Centre, DAG Global and Deep Knowledge Analytics, released last month. It’s good news, but why the four-year wait? Why is the UK, the global financial heavyweight, with a liberal market economy, smart regulatory environment and excitement for innovation, not a leader now?
There is a vital relationship - a friendship - which is missing from the equation and stymieing growth in the UK: that between banks and crypto-exchanges and crypto-businesses. When I speak to those in the blockchain industry, financial institutions and regulators, the conversation always turns to this topic. Without cooperation between exchanges (the platforms enabling cryptocurrency-fiat transactions) and banks (the institutions that have transacted, and dealt with the transactions of others, for centuries) crypto and blockchain technologies cannot become mainstream. Every transformation we know cryptocurrencies and blockchain can bring - from vast reduction in transaction costs to serving the underbanked - cannot come quickly to fruition without mass adoption from banks and financial institution.
It may not be sexy, but the way to bridge these two groups lies in compliance.
First, traditional financial services firms should acknowledge that exchanges and other cryptocurrency companies are increasingly taking a proactive approach to self-regulation in addition to compliance with identified regulations such as anti-money laundering. Earlier this year, for example, seven UK-based firms launched CryptoUK to promote best practice. Members sign up to a code of conduct which covers due diligence, customer protection in the event of insolvency, and pricing transparency. In the crypto industry, players know that taking a proactive regulatory stance in areas such as anti-money laundering (AML), anti-fraud and security will likely avoid any crackdowns in the future.
And banks should be aware that these companies, in addition to establishing a regulatory consensus within their own market, are already reaping the rewards of utilising blockchain technology. Thanks to blockchain, the technology that underpins cryptocurrencies, they have faster, more secure ways to store and move value which are cheaper to run. Cooperating to understand, rather than ignoring, should, therefore, be the way forward.
Second, building harmonised compliance processes for banks and crypto-exchanges will engender cooperation, and innovation. Tools that give visibility to banks on transactions coming in and out of exchanges, and visibility to exchanges of transactions that banks have internally on their books, are key. So too is the ability for both parties to see any high-risk activity and manage that in a live environment.
The conversation needs to be based on facts, with both sides understanding the parameters they need in which to operate. One of the argument I hear from banks, for instance, is that exchanges pose too great a risk, or that relationships with them could not be managed properly. This is not true. Where, for example, exchanges are based outside a regulatory jurisdiction, companies like mine can identify them, assess what AML processes they are applying, and mark them in our systems to provide information to the market. Similarly we can act if we see in our system an exchange’s profile becoming too high.
With tools already available to manage risk, if banks allowed customers to open crypto accounts (via exchanges), they would enhance their own KYC capabilities, piggybacking on the transparency of distributed ledger technology. A final idea is to lower the KYC requirements on crypto transactions of less than $1,000. This would encourage individuals and companies to continue transacting via one account, rather than opening multiple, or even using “tumbler” services to mix good money with bad. We can, as a side note, already eliminate smurfing (when one person opens a number of accounts in order to stay undetected) by using graph analysis to connect seemingly unrelated addresses.
Third, access to these intermediary systems could also be given to regulators, doing away with swathes of auditing trails, and the reactive manner in which they are currently obliged to respond. Compliance intermediaries can provide the tools to promote cooperation between banks and crypto-exchanges, and provide access to regulators.
Progress is coming. In late July, the UK Cryptoassets Taskforce organised a roundtable. Here, those of us in the industry were able to speak with representatives from the Bank of England, Financial Conduct Authority, HM Treasury, banks and universities. We discussed the approach the UK should be taking towards bitcoin and other cryptocurrencies, and blockchain. I for one was pleased with the result: it looks like the UK is moving towards considering crypto-assets as opportunity.
Which brings us to the fourth thing we need to see: political and regulatory will. If policymakers, regulators - and banks - want a blueprint for how things can be done, Japan provides one. Not only are large financial institutions already issuing their own coins; they are also investing in crypto-exchanges. Just last week, the country saw the launch of the world’s first bank-owned crypto-exchange, with applications being accepted for new accounts.
If incumbent financial players, and those in the crypto and blockchain space, want to be greater than the sum of their parts, they need to cooperate. The right compliance systems will form the basis of doing so successfully.