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EU Adopts More Stringent Crypto Regulations For Banks

EU Adopts More Stringent Crypto Regulations For Banks

By Oreld Hadilberg
Reviewed by Tony Spilotro

Table of Contents

Crypto adoption is increasing worldwide as more financial institutions keep opting to partner rather than oppose the innovation. The faster transactions, scalability, and effectiveness of the blockchain have placed it at the frontline, amongst other technologies. Thatโ€™s why popular banks such as Morgan Stanley, Commonwealth Bank of Australia, and GS Growth have invested in it.

However, a problematic area in crypto adoption is regulation. Most pro-crypto groups argue that crypto regulation will destroy the decentralized nature of cryptocurrencies; however, the need for regulation is evident. But the crypto industry has witnessed the rise and fall of notable establishments, such as the recent FTX exchange crash.

The now infamous exchange filed for bankruptcy in November 2022. Investigations revealed gross financial misconduct that resulted in the loss of customers' funds. As a result, regulators argue that customers and institutions deserve some degree of protection to prevent a future reoccurrence of such acts.

European Union Tightens Crypto Regulations

The European Union lawmakers voted to enforce stricter regulations for banks that transact with cryptocurrencies. This decision seeks to control the number of unbacked loans with Bitcoin and Ethereum that a lender can give out. The banks will have to set aside a certain amount of capital to back these loans and protect customers from losses.

These new laws will align with the Basel III International Regulatory Framework. The Basel II regulation is an operational code that is agreed upon internationally. Under these regulations, a bank must reveal its exposure to cryptocurrencies and the current level of exposure. However, the rules must undergo approval by the European Parliament and EU Finance Ministers to qualify as a law.

Crypto Lobby Group Lend Their Thoughts

The Association of Financial Markets in Europe (AFME), reacting to the new laws, expressed their concerns. The AFME felt that the amendments to the financial laws are too expansive. The association is a lobby group that protects the interest of traditional financial institutions such as banks.

In an e-mail correspondence, the body stated that there was no clear definition of crypto assets in the law. Therefore, the requirements could apply to tokenized securities and other non-crypto assets under the new laws.

Requirements For Banks With Crypto Exposure?

According to the proposed laws, banks must implement a risk-weighting of 1,250% for crypto-asset exposures. The new bill will account for all financial capital needs of traditional financial entities. The banks will now take responsibility for backing up their total capital reserves without gaining leverage.

This percentage is the highest level of protection on assets in the Basel III reforms of the committee. Also, the European Union lawmakers placed limits on the amount of capital a bank can expose to crypto assets. The implementation of the new laws will take place in 2025.

Markus Ferber, an economic spokesperson, stated that banks must hold a euro of their capital for every euro they hold in cryptocurrencies. He believes that such strict capital requirements will shield the financial systems from the volatility and instability of crypto. According to Ferber, crypto assets have proven to be highly volatile in recent years.

Caroline Liesegang, Head of Prudential Regulation in the AFME, also shared her thoughts. She believes that the parliament has taken the right steps in altering the legislative framework for banks moving forward. Caroline believes the amendments will be given more attention during negotiations between financial institutions.

History Of Cryptocurrency Induction In The Banking Sector

Many institutions and individuals previously viewed digital currencies as a threat to traditional banking systems and a means to conduct illegal business anonymously. While some individuals still hold these views, reputable banks are adopting cryptocurrencies to partake in the latest trends. Jamie Dimon, CEO of the largest bank in the United States, JPMorgan Chase, had referred to crypto as "fool's gold" in 2014.

However, in 2019, JPMorgan chase became the first bank to unveil a payment network based on its digital currency. They continued with this innovation in 2021, giving customers access to funds to enable them to participate in the crypto rush.

Cryptocurrencies have risen from a mere footnote in history to international relevance with notable partnerships formed with popular brands. The networks process transactions worth trillions of dollars, making many users prefer them to the old banking system.

On a national level, El Salvador adopted bitcoin as a legal tender. Rather than compete against cryptocurrencies, banks are now buying into the vision and rolling out their crypto development plans.

The Impact Of Cryptocurrency On The Banking Industry

Cryptocurrencies have impacted traditional financial institutions both negatively and positively. On the downside, decentralization is a problematic area that makes crypto assets carry significant risks. Since crypto tokens are decentralized, they are not under any entity control and sometimes leave crypto users vulnerable to attacks.

With the numerous hacks and Ponzi schemes that plague the industries, some banks view decentralization as a threat. It also strips the bank of its regulatory role in financial transactions. However, a centralized cryptocurrency might not be appealing to users.

Another issue with cryptocurrencies is their volatility. 2022 saw valuable crypto assets, such as a stablecoins crash. These crashes and other disastrous events in the crypto space affected financial institutions exposed to the projects.

On the bright side, cryptocurrencies have helped to facilitate faster payments due to the processing speed of the blockchain. They also help lower or eliminate transaction fees. ย With the adoption of cryptocurrencies, banking is now much more creative and innovative. However, the right balance must exist between regulation and crypto adoption in banking activities.