Global Regulatory Brief: Digital finance, September edition

The Global Regulatory Brief provides monthly insights on the latest risk and regulatory developments. This brief was written by Bloomberg’s Regulatory Affairs Specialists.

Digital finance regulatory developments

The growing role of technological innovation in financial services continues to attract the attention of regulators and policy-setters as they embark on a range of initiatives to manage risks and set appropriate standards. From Taiwan to the US, the following global developments in digital finance over the past month stand-out:

• Taiwan proposes principles for the use of AI in financial services
• UK to host global AI safety conference in November
• Dubai aims to deliver market assurance standards for virtual assets
• Singapore finalizes stablecoin regulatory framework
• FCA sets out expectations for UK crypto-asset businesses complying with Travel Rule
• Hong Kong SFC warns virtual asset trading platforms about improper practices 
• SEC adopts rules on cybersecurity risk management, strategy, governance, and incident disclosure by public companies
• Federal Reserve Board provides additional information on its supervision of novel activities 
• FDIC issues warning on risks to US banking system posed by crypto-assets

UK to host global AI safety conference in November

The UK government confirmed that global policymakers, leading industry players, and research experts will unite for talks in early November regarding the safe development and use of frontier artificial intelligence (AI) technology. 

Overview: The major global event will take place on the 1st and 2nd November to consider the risks of AI, especially at the frontier of development, and discuss how they can be mitigated through internationally coordinated action. 

• To be hosted at the symbolic location of Bletchley Park in Buckinghamshire, the conference is expected to see coordinated action to agree on a set of rapid, targeted measures for furthering safety in global AI use.

Dubai aims to deliver market assurance standards for virtual assets

Dubai’s Department of Economy and Tourism (DET) and Virtual Assets Regulatory Authority (VARA) have signed a Memorandum of Understanding (MoU) for the provision of unified city-wide services to enable the Virtual Assets sector.

Summary: The MOU outlines a framework for collaboration to deliver effective and synchronized VA market assurance across the Emirate of Dubai. 

• Both institutions have agreed to pool their capabilities to reinforce the city’s reputation as an attractive, innovative, and secure global hub for virtual asset service providers (VASPs), operators, and customers. 
• The MoU’s scope further strengthens VARA’s commitment to achieving full transparency and market conduct adherence across VASPs licensed to operate in Dubai.

The wider context: The MoU comes as Dubai seeks to establish an advanced regulatory, licensing and operational framework for the emerging industry of virtual assets, with a focus on emerging technologies such as metaverse, artificial intelligence, blockchain, and Web 3.0.

Closely related: VARA published a revised Custody Services Rulebook permitting VASPs to provide staking services to their customers from the same legal entity and without obtaining a separate license, given specific additional approval from VARA. 

Taiwan proposes principles for the use of AI in financial services

Taiwan’s Financial Supervisory Commission (FSC) published principles and draft policies for consultation on the use of artificial intelligence (AI) in the financial industry. These principles include:

• Governance and accountability: Emphasize that financial institutions should have responsibility for internal governance and protection of consumers’ rights and interests when using AI systems, and ensure proper risk management and use of AI systems.
• Fairness and people-oriented values: Emphasize that financial institutions should attach importance to providing fair and inclusive financial services when using AI systems, and comply with the principles of people-oriented and human controllability.
• Privacy and customer rights protection: Emphasize that financial institutions must fully respect and protect the privacy rights of customers when using customer information, and properly manage and use relevant information to enhance consumer confidence and satisfaction.
• Ensure system robustness and security: Emphasize that financial institutions should be committed to maintaining the robustness and security of the AI ​​system, and conduct appropriate risk management and supervision of third-party operators to provide consumers with better financial services.
• Transparency and explainability: Emphasize that financial institutions should ensure the transparency and explainability of their operations when using AI systems, and when using generative AI as an auxiliary tool for handling business or providing financial services, should be properly disclosed.
• Sustainable development: Emphasize that when financial institutions use AI systems, they should ensure that their development strategies and implementation are in line with the principles of sustainable development, and try their best to protect the rights and interests of employees at work.

Important context: The report follows a survey of financial institutions in Taiwan from May this year finding that while no financial institutions have currently implemented generative AI in their operations, a number of institutions have plans to do so and others are considering it. 

Looking ahead: Taiwan’s regulatory authorities will continue engagement with financial institutions regarding the use of generative AI and will release final guidelines following feedback from industry. The FSC will continuously monitor and review the application of AI systems in the financial industry.  

Singapore finalizes stablecoin regulatory framework

The Monetary Authority of Singapore (MAS) announced details on a new regulatory framework for stablecoins following engagement with industry. 

The details: This framework will apply to single-currency stablecoins (SCS) pegged to the Singapore Dollar or any G10 currency, that are issued in Singapore. Issuers of these SCS will have to fulfill key requirements such as:

• Value stability: SCS reserve assets will be subject to requirements relating to their composition, valuation, custody and audit, to give a high degree of assurance of value stability.
• Capital: Issuers must maintain minimum base capital and liquid assets to reduce the risk of insolvency and enable an orderly wind-down of business if necessary.
• Redemption at Par: Issuers must return the par value of SCS to holders within five business days from a redemption request.
• Disclosure: Issuers must provide appropriate disclosures to users, including information on the SCS’ value stabilizing mechanism, rights of SCS holders, as well as the audit results of reserve assets.

The impact: Only stablecoin issuers that fulfill all requirements under the new framework can apply to MAS for their stablecoins to be recognised and labeled as “MAS-regulated stablecoins”.

• This label will enable users to easily distinguish MAS-regulated stablecoins from other digital payment tokens, including “stablecoins” which are not subject to MAS’ stablecoin regulatory framework.

Background context: Stablecoins are digital payment tokens designed to maintain a constant value against one or more specified fiat currencies. 

• When well-regulated to preserve such value stability, the MAS considers stablecoins as a tool to serve as a trusted medium of exchange to support innovation, including the “on-chain” purchase and sale of digital assets.  

FCA sets out expectations for UK crypto-asset businesses complying with Travel Rule

The Financial Conduct Authority (FCA) expects UK crypto-asset businesses to collect, verify and share information about crypto-asset transfers, known as the ‘Travel Rule’, from September 1, 2023. 

What this means: Firms are now required to comply with the Travel Rule when sending or receiving a crypto-asset transfer to a firm that is in the UK or any jurisdiction that has implemented the Travel Rule. 

• The Travel Rule is designed to bring greater transparency to crypto-asset transfers, making it harder for criminals to use crypto-assets for illicit activity. 
• Specifically, the Travel Rule advances anti-money laundering (AML) and counter-terrorist financing (CTF) efforts globally by helping crypto-asset businesses detect suspicious transactions and carry out effective sanctions screening.
• If the firm cannot receive the necessary information, the UK crypto-asset business must still collect and verify the information as required by the Money Laundering Regulations (MLRs) and should store that information before making the crypto-asset transfer. 

The wider context: The Financial Action Task Force (FATF) has called on other jurisdictions to swiftly implement the Travel Rule, which aligns practices for crypto-asset businesses sending and receiving transactions with those common in other areas of financial services. 

Hong Kong SFC warns virtual asset trading platforms about improper practices

The Hong Kong Securities and Futures Commission (SFC) issued a statement to warn virtual asset trading platforms (VATPs) of the potential consequences of engaging in improper practices. 

In more detail: The SFC warns VATPs that it is an offense for any person to make a fraudulent or reckless misrepresentation for the purpose of inducing another person to trade in virtual assets. 

• The SFC will take into account any misrepresentation made by an unlicensed VATP in considering its fitness and properness to be licensed when it eventually submits a license application with the SFC. 
• When assessing the license applications of VATPs, the SFC will take into consideration any past non-compliant activities of VATPs and also consider whether the VATPs can demonstrate a genuine intention to rectify non-compliant activities, including gradually unwinding impermissible transactions in an orderly manner.

Who will be affected: Established entities of unlicensed VATPs which are operating a business in Hong Kong of providing virtual asset services will be subject to the new virtual asset service provider regime and will also need to apply for SFC licenses or they should proceed to close their business in Hong Kong. 

SEC adopts rules on cybersecurity risk management, strategy, governance, and incident disclosure by public companies

The Securities and Exchange Commission (SEC) adopted rules requiring registrants to disclose material cybersecurity incidents they experience and to disclose on an annual basis material information regarding their cybersecurity risk management, strategy, and governance. 

Closely related: The Commission also adopted rules requiring foreign private issuers to make comparable disclosures. 

Next steps: The final rules will become effective 30 days following publication of the adopting release in the Federal Register. 

• Chair Gary Gensler and Commissioners Jaime Lizarraga, Mark Uyeda, Caroline Crenshaw, and Hester Peirce released individual statements on the rule adoption.

Federal Reserve Board provides additional information on its program to supervise novel activities in the banks it oversees

The novel activities supervision program aims to foster the benefits of financial innovation while recognizing and appropriately addressing risks to ensure the safety and soundness of the banking system. 

The details: The program will be integrated into the Federal Reserve’s existing supervisory processes, with program experts working alongside current supervisory teams to oversee banks engaged in novel activities. Novel activities include complex, technology-driven partnerships with non-banks to provide banking services to customers; and activities that involve crypto-assets and distributed ledger or “blockchain” technology. 

Closely related: The Board also provided additional information on the process for a state bank supervised by the Federal Reserve to follow before engaging in certain dollar token or stablecoin activity, including demonstrating to its Federal Reserve supervisors that it has appropriate safeguards to conduct the activity safely and soundly.

FDIC issues warning on risks to US banking system posed by crypto-assets

In its 2023 Annual Risk Review, the Federal Deposit Insurance Corporation (FDIC) outlined the risks posed to the US banking system by crypto-asset related activities. 

The details: The report characterizes these risks as “difficult to fully assess”, and notes that they are “novel and complex” in nature. 

• In particular, the report specifies risks associated with fraud, legal uncertainty, misleading or inaccurate representations and disclosures, risk management practices exhibiting a lack of maturity and robustness, and platform and other operational vulnerabilities.

Notable takeaway: Interestingly, the report also pointed to potential contagion risk associated with interconnections among “certain crypto-asset participants” that has the potential to create concentration risks for banks that have crypto-asset exposure.

The impact: While the report does not outline any specific policies or regulations, it does explain that federal banking regulators are continuing to monitor crypto-asset related activities and exposures of banking organizations and will issue additional statements in the future addressing banks engaging in crypto-asset activities. 

Closely related: CFTC Chairman Rostin Benham said that “the {crypto} market seems to want some sort of regulatory framework,” and posited that institutional demand would likely increase if there was a “clear regulatory framework.” 

• While SEC Chair Gary Gensler continues to maintain that no legislation is needed to regulate the crypto space and most cryptocurrencies are securities, CFTC Chair Benham considers 70% of the market to be commodities and that legislation would “fill the gap around commodity tokens” and that fraud and manipulation concerns means “it’s pretty clear that something needs to get done”. 

View the additional regulatory briefs from this month:

• Trading and markets
• Risk, capital and financial stability
• Green finance

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