Thoughts on the Regulation and Future Development of Stablecoins in Hong Kong: Expanding the Scenarios for HKD/Offshore RMB Stablecoins

Author: Jiang Zhaosheng, Senior Researcher at OKLink Research Institute

Recently, the Hong Kong Financial Services and the Treasury Bureau and the Monetary Authority jointly released a consultation summary on legislative proposals for stablecoin regulation, stating that they will finalize legislative proposals based on market opinions and suggestions to implement a regulatory system and submit a draft bill to the Legislative Council as soon as possible. As a result, Hong Kong will become one of the first regions in the world to impose regulations on stablecoin issuers.

Stablecoins are not only an important branch of the virtual asset and Web3 market but are also gradually becoming a widely accepted payment method due to their value stability and transaction convenience, serving as the most important "bridge" connecting traditional finance and the crypto market. With the acceleration of the Web3 compliance process, countries are actively promoting local stablecoin regulation and development, which may lead to a transformation in the stablecoin market landscape. Against this backdrop, this article will focus on the characteristics and advantages of Hong Kong's latest stablecoin regulatory framework, as well as the potential challenges and opportunities for future development.

Hong Kong's Stablecoin Regulation is Relatively Friendly to International Issuers

In the recently released consultation summary, the Monetary Authority responded to certain controversial or ambiguous issues and provided more appropriate guidance on core issues such as stablecoin stability mechanisms, reserve asset composition and investment restrictions, redemption requirements, and business activity limitations. Compared to the EU, Japan, and Singapore, although the regulatory framework revealed in the consultation summary has stricter requirements in certain aspects (such as financial resource requirements), it still maintains a considerable degree of flexibility and openness while ensuring regulatory effectiveness and leadership, striving to balance effective investor protection with providing greater innovation space for potential issuers.

Under the proposed framework, Hong Kong's friendliness towards international issuers such as USDT/USDC has become a hot topic. The global stablecoin market capitalization has continued to rise in recent years, recently surpassing $160 billion, with USDT/USDC accounting for over 90% of the market share, indicating their importance as the majority of crypto transactions are conducted through these two stablecoins. If regulation keeps these international issuers out of Hong Kong, the impact on the local virtual asset industry could be significant.

However, from the consultation summary document, the author believes that the upcoming stablecoin regulatory framework in Hong Kong is generally relatively friendly to international issuers, proposing more open and flexible measures than before, which should alleviate the potential burdens on international issuers. For example, the regulatory framework does not restrict the types of fiat currencies for stablecoin pegging and is open to the storage of fiat stablecoin reserve assets in other regions. This indicates that Hong Kong has fully considered the global nature of stablecoins and is willing to attract more relatively mature international issuers to apply for licenses within a certain scope. Considering Hong Kong's policy friendliness and continuity towards virtual assets, as well as its importance in the global financial market, the author believes that the stablecoin issuer license in Hong Kong will be attractive to many international issuers.

Small and Medium-sized Institutions May Find It Difficult to Directly Participate in Stablecoin Issuance

In addition to relatively mature international issuers like USDT/USDC, the issuance of stablecoins in Hong Kong requires more local institutions to participate. From the consultation summary's requirements for issuers' financial, technical, and operational capabilities, the main participants in Hong Kong's stablecoin market will be banks and large technology/financial institutions, making it unlikely for small and medium-sized institutions to directly participate in stablecoin issuance. The list of participants in the Monetary Authority's recently announced stablecoin issuer "sandbox" has already proven this point to some extent.

Although the consultation summary adjusted the financial resource requirements for issuers, lowering the minimum paid-up capital requirement from "2% of stablecoin circulation or HKD 25 million" to "1% of stablecoin circulation or HKD 25 million," many small and medium-sized institutions still face significant financial pressure. Furthermore, stablecoin issuers are required to maintain full reserves at all times, which places higher demands on the companies' financial management and liquidity.

To comply with strict licensing conditions and ongoing compliance requirements, companies may also need to make substantial adjustments to existing systems and risk control processes to ensure their technical capabilities are sufficient to prevent and respond to potential technical and security risks during the issuance and operation of stablecoins. It is anticipated that, despite the high attention on fiat stablecoins and the large number of institutions that previously participated in consultations, the final number of institutions that actually apply for licenses and issue stablecoins will not be very large.

Among the potential stablecoin issuers, commercial banks are the most noteworthy. Unlike the current concentration of stablecoin applications led by non-bank institutions in the virtual asset field, stablecoins launched by commercial banks may explore more integrated application scenarios, expanding the use of stablecoins into a larger digital ecosystem, which is crucial for the entire stablecoin system. For commercial banks themselves, compared to other virtual assets and Web3 directions, stablecoins align most closely with the essence of banking business and have a clear entry path.

The inflow and outflow channels are one of the most valuable scenarios to develop in the crypto ecosystem and are also the easiest to solidify value, while stablecoins are currently an essential infrastructure for building these channels. Stablecoins issued by commercial banks can not only provide transaction settlement services for more compliant virtual asset institutions but can also gradually offer stablecoin services to individual customers. Even if large-scale business operations cannot be launched in the short term due to compliance costs, the initiative of commercial banks to issue stablecoins can still bring significant brand publicity effects and opportunities to gradually improve customer structure. Moreover, the issuance of stablecoins has already been proven to have significant profit potential.

Finding Suitable Application Scenarios is the Biggest Challenge for Hong Kong's Stablecoin Advantage

In addition to compliance costs and technical challenges, finding suitable application scenarios for fiat stablecoins after successfully obtaining licenses and issuing them may become the biggest challenge for issuers. Stablecoins can only realize their value when they are liquid and can serve as the infrastructure for Hong Kong's virtual asset and Web3 industries. Without sufficient application scenarios to support them, simply replicating existing dollar stablecoin business models may make it difficult for Hong Kong's stablecoins to establish a competitive advantage. Looking at the current development direction of Hong Kong's virtual asset and Web3 market, RWA tokenization will be an important area for Hong Kong's stablecoins to focus on, and cross-border trade and payment businesses in the Greater Bay Area and even broader regions will become the tracks that Hong Kong's stablecoins must compete for.

Furthermore, although the consultation summary does not restrict the types of fiat currencies that can be pegged for issuing stablecoins in Hong Kong, the practical significance of issuing dollar stablecoins in Hong Kong is limited. The author believes that local issuers should issue stablecoins primarily denominated in Hong Kong dollars/offshore renminbi, thereby promoting the development of payment and settlement businesses in Hong Kong dollars and offshore renminbi, and truly retaining the funds, traffic, and talent brought by Web3 innovation in Hong Kong.