Knock on the blackboard! Understand the core information of Hong Kong's newly introduced regulatory system for stablecoin issuers
An overview of the key information on Hong Kong's latest stablecoin regulatory proposal, and an exclusive interview with OSL CFO Hu Zhenbang on his views.On July 17, the Hong Kong Financial Services and the Treasury Bureau and the Monetary Authority released the “Consultation Summary on Legislative Proposals for Implementing a Regulatory Regime for Stablecoin Issuers in Hong Kong”, indicating that they will respond to a series of opinions and suggestions and will submit a bill to the Legislative Council as soon as possible. The Monetary Authority also disclosed that it is processing "sandbox" applications for stablecoin issuers, and the publication of the applicant list is particularly eye-catching. OSL has already communicated with various institutions in the stablecoin "sandbox" for further cooperation.
With the improvement of the regulatory regime, stablecoins are expected to play a more important role in Hong Kong's financial ecosystem, further consolidating Hong Kong's position in the global financial arena and inevitably attracting more global fintech companies and investors to focus on Hong Kong.
Historic Milestones in Hong Kong's Stablecoin Regulation
The subtle signs and hidden currents are significant. If we look back at the history of Hong Kong's regulatory policies regarding stablecoins, we find that Hong Kong began laying the groundwork around digital Hong Kong dollars and central bank digital currencies (CBDCs) as early as 2020.
Over the past four and a half years, several regulatory processes related to stablecoins in Hong Kong have been steadily advancing. Here is a summary of significant events:
On January 22, 2020, the Hong Kong Monetary Authority published the “Results and Next Steps of the Inthanon-LionRock Project”, announcing the research results on central bank digital currencies and "plans to further cooperate with the Bank of Thailand."
On June 8, 2021, the Hong Kong Monetary Authority released the “Fintech 2025” strategy, mentioning "a commitment to research wholesale central bank digital currencies while collaborating with the National Bank of Settlement Innovation Hub's Hong Kong center to study retail central bank digital currencies, and will subsequently begin researching a local retail digital Hong Kong dollar (e-HKD) to explore its use cases, advantages, and related risks." Additionally, the Monetary Authority stated that it "will continue to cooperate with the People's Bank of China to conduct technical testing of the digital renminbi in Hong Kong to provide convenient cross-border payment services for residents of Hong Kong and the mainland."
On October 4, 2021, the Hong Kong Monetary Authority published the “Technical White Paper on Retail Digital Hong Kong Dollar e-HKD”, stating that "the white paper is based on the retail central bank digital currency model jointly researched by the Monetary Authority and the Hong Kong center under the Bank for International Settlements Innovation Hub, exploring potential technical solutions for issuing and distributing retail central bank digital currencies. The proposed design is a technical architecture put forward by the central bank, featuring breakthrough arrangements for privacy protection, capable of tracking transactions while safeguarding privacy."
On January 12, 2022, the Hong Kong Monetary Authority released a discussion paper on “Crypto Assets and Stablecoins”, inviting industry and the public to provide opinions on the relevant regulatory framework.
On April 27, 2022, the Hong Kong Monetary Authority published a discussion paper titled “e-HKD: Policy and Design Perspectives”, soliciting opinions on key issues regarding "retail central bank digital currency (CBDC) e-HKD," focusing on the issuance mechanism, interoperability with other payment systems, privacy, and data protection.
On September 29, 2022, the Hong Kong Monetary Authority announced that it would launch a series of pilot programs with banks and technology companies, starting tests of the digital Hong Kong dollar (e-HKD) in the fourth quarter.
On October 19, 2022, the Chief Executive of the Hong Kong Special Administrative Region, John Lee, delivered his first “Policy Address”, mentioning that the Hong Kong Monetary Authority is studying market opinions on regulating stablecoins and will ensure that the regulatory framework aligns with international regulatory recommendations while being suitable for local conditions; additionally, the Monetary Authority has begun preparations for the "digital Hong Kong dollar" and is cooperating with mainland institutions to expand testing of the "digital renminbi" as a cross-border payment tool in Hong Kong.
On October 28, 2022, a report titled “The Bridge Project: Central Bank Digital Currencies Facilitate Economic Integration” was jointly released by the Bank for International Settlements (BIS) and others, announcing that the multilateral central bank digital currency bridge project, jointly constructed by the BIS Innovation Hub (Hong Kong), the Hong Kong Monetary Authority, the Bank of Thailand, the Digital Currency Research Institute of the People's Bank of China, and the Central Bank of the UAE, successfully completed the first real transaction pilot based on four central bank digital currencies. Within six weeks, 20 commercial banks from four different jurisdictions completed a total of 164 cross-border remittance and foreign exchange transactions for their clients through the currency bridge platform, amounting to over 150 million RMB.
On January 31, 2023, the Hong Kong Monetary Authority published the “Summary of the Discussion Paper on Crypto Assets and Stablecoins”, summarizing the opinions collected on the aforementioned documents and the Monetary Authority's responses, while stating that "it is recommended to include several activities related to stablecoins in the regulatory framework and to clarify the expected regulatory scope and main regulatory requirements in the summary document."
On December 27, 2023, the Hong Kong Financial Services and the Treasury Bureau and the Monetary Authority jointly released the consultation document on the proposed regulatory regime for stablecoin issuers, further soliciting public and industry opinions; the deadline for public submissions is February 29, 2024.
On March 12, 2024, the Hong Kong Monetary Authority announced the "Stablecoin Issuer Sandbox" policy, allowing operations to be tested within a regulatory "sandbox."
On July 17, 2024, the Hong Kong Financial Services and the Treasury Bureau and the Monetary Authority released the “Consultation Summary on Legislative Proposals for Implementing a Regulatory Regime for Stablecoin Issuers in Hong Kong”, stating that they will "finalize legislative proposals to implement the regulatory regime in response to the opinions and suggestions of respondents and will submit a bill to the Legislative Council as soon as possible."
Key Information from the Latest Legislative Consultation Proposal
If we carefully review the key information in the latest legislative consultation proposal, we find that it covers almost all aspects of regulatory requirements, including reserve management, stabilization mechanisms, redemption requirements, governance, knowledge, and experience.
Currently, a draft bill to implement the regulatory recommendations is being prepared and is planned to be submitted to the Legislative Council for review later this year. The Monetary Authority will issue licenses and regulatory guidelines in due course to assist fiat stablecoin licensees in understanding and complying with relevant regulations.
Both single-currency and multi-currency fiat stablecoins are connected to the traditional financial system and may pose risks to financial stability. It is necessary to include all fiat stablecoins in the proposed regulatory regime, and requirements will be formulated commensurate with the complexity of the business operations of fiat stablecoin issuers. There is no intention to specify the reference currency range for fiat stablecoins under the regulatory regime; the recommendation to regulate fiat stablecoins will be retained, and the regulatory scope for stablecoins will be closely monitored and adjusted as necessary based on market developments.
Only licensed fiat stablecoin issuers, banks, licensed corporations, and licensed virtual asset trading platforms may sell fiat stablecoins in Hong Kong or actively promote related services to the public in Hong Kong. For existing stablecoin issuers, the proposed regulatory regime will also have corresponding transitional arrangements.
The minimum paid-up capital of issuers should be at least 2% of the total amount of circulating fiat stablecoins or HKD 25 million (whichever is higher). Some respondents believe that it is difficult to maintain sufficient capital based on the circulation of fiat stablecoins; the authorities will change the minimum paid-up capital requirement to HKD 25 million or 1% of the circulation of their stablecoins (whichever is higher), while the Financial Commissioner retains the flexibility and authority to impose additional capital requirements when necessary.
Issuers must have a physical company in Hong Kong. There is a preference to maintain the establishment of a physical company in Hong Kong as one of the licensing criteria. Companies not registered in Hong Kong that wish to apply for a license must establish a subsidiary in Hong Kong, with key management personnel, including the CEO and deputy CEO, stationed there, which is crucial for ensuring effective management of the stablecoin business.
The regulatory regime will prioritize the regulation of fiat stablecoin issuance activities, clarifying the "issuance" activities and providing guidance after the licensing system is implemented. Licensed fiat stablecoin issuers are responsible for maintaining a robust stabilization mechanism. Currently, there is no need to establish a separate licensing system for the management and custody of reserve assets; from the perspective of risk management and user protection, the government and financial regulators are exploring regulatory models for the storage of private keys and the provision of wallet services and will maintain communication with the public and relevant stakeholders.
Legislative approach: A new law will be established as planned to implement the regulatory regime for fiat stablecoin issuers. The Monetary Authority will continue to cooperate with other regulatory bodies to build a consistent virtual asset regulatory framework in Hong Kong to avoid regulatory arbitrage.
To protect fiat stablecoin users, anyone promoting non-licensed fiat stablecoin issuance activities will be deemed illegal. Generally, agents or intermediaries actively promoting licensed entities' fiat stablecoin issuance activities will not be considered as issuing fiat stablecoins, thus not requiring a stablecoin issuer license.
Anyone issuing fiat stablecoins in Hong Kong must apply for a license from the Financial Commissioner. Whether a certain fiat stablecoin is considered issued in Hong Kong will depend on the facts and specific circumstances of each case, and further guidance will be provided on this matter.
Full reserve backing: Circulating fiat stablecoins must always have reserve assets providing full backing. In the future, fiat stablecoin licensees will need to demonstrate to the Financial Commissioner that they have measures (such as over-reserves) in place to comply with this requirement. Reserve assets must be of high quality and high liquidity, involving minimal market, credit, and concentration risks. The Monetary Authority will consider factors such as the issuer's need to manage liquidity and market risks, operational needs, the banking regulations defining high-quality liquid assets, and other applicable international standards, and may consider other investment tools on a case-by-case basis. The issuer must bear ultimate responsibility for the risk management of reserve assets and should also discuss investment policies with the Monetary Authority.
Issuers should entrust reserve assets to licensed banks in Hong Kong for custody. The licensed issuers will be open to storing reserve assets in other regions, considering individual circumstances, provided that the issuer can demonstrate the need for such arrangements to ensure that additional risks are appropriately managed and that the rights of fiat stablecoin users are not affected. Separating reserve assets from the issuer's own assets and establishing effective trust arrangements can provide fiat stablecoin users with statutory rights and priority claims to reserve assets in the event of issues with the issuer's business. Appointing independent trustees and making trust declarations regarding reserve assets are considered acceptable trust arrangements. Even if a custodian is appointed, it does not exempt the issuer from the responsibility of properly managing and safeguarding reserve assets and complying with regulatory requirements.
Risk management and control procedures: Issuers will be required to establish sound, appropriate, and proportionate reserve management policies to address financial and operational risks arising in the reserve management process.
Disclosure and reporting: It is believed that regardless of the circulation of stablecoins, comprehensive and transparent disclosure, along with independent and trustworthy third-party certification, is key to proving that circulating fiat stablecoins are fully backed by reserve assets. At this stage, it is proposed to maintain the requirement for qualified independent auditors to certify reserve assets monthly to build public confidence, with a tendency to reduce the frequency of public disclosure of the market value and composition of fiat stablecoin circulation and reserve assets to strike a balance between the operational burden of issuers and transparency. The Monetary Authority will maintain communication with the industry and the public to develop more detailed disclosure requirements.
Prohibition on interest payments: Issuers should not pay interest to fiat stablecoin users, but there is no prohibition on issuers providing promotional incentives. Issuers must not make arrangements with third parties to provide interest to fiat stablecoin users, and issuers intending to offer promotional incentives should ensure that their promotional activities do not constitute interest payments.
Redemption requirements: Under normal circumstances, issuers should fulfill redemption requests within one working day of receiving the request. If it is anticipated that it will be difficult to fulfill the redemption request within one working day (for example, due to unexpected market pressure), prior approval from the Financial Commissioner should be sought. It is reiterated that issuers should fulfill redemption requests at face value in one or more reference currencies at all times and should not impose unreasonable fees or conditions on such requests.
Issuers should conduct risk assessments at least once a year. Incident management should include, but not be limited to, the establishment of incident management policies, monitoring mechanisms, and incident response plans, enabling issuers to initiate recovery actions promptly and report incidents to the Financial Commissioner.
How to View the Development of Stablecoin Regulation in Hong Kong?
As the only publicly listed company focused on digital assets in Hong Kong, OSL Group (863.HK) operates a licensed digital asset trading platform, OSL Digital Securities Limited, which became the world's first licensed digital asset trading platform by the Hong Kong Securities and Futures Commission on December 15, 2020 (for Type 1 "Securities Trading" and Type 7 "Automated Trading Services"). It currently offers market services (brokerage, exchange, and custody) and Software as a Service (SaaS) technology solutions.
Regarding community concerns and market discussions related to Hong Kong's stablecoin regulation, OSL Group CFO Hu Zhenbang shared some insights:
Q: How do you think the custody of reserve assets, stablecoin minting/redemption, and other aspects in Hong Kong will differ from popular stablecoins in terms of participating institutions and business processes?
Hu Zhenbang: In recent years, the application of stablecoins has become increasingly widespread globally, especially in Southeast Asia, the Middle East, and Africa, where USD-pegged stablecoins like USDC and USDT have become important digital asset payment tools. However, there are many questions regarding these stablecoin issuers, including the adequacy of their asset reserves, financial transparency, risks from investment activities, solvency, and the efficiency of minting and redemption.
The Hong Kong Monetary Authority (HKMA) has launched consultations on stablecoins and invited some stablecoin issuers to participate in the stablecoin sandbox program to test their operational methods, marking an important step for Hong Kong in promoting the development of the stablecoin market.
Hong Kong's stablecoins are likely to primarily rely on banks and financial institutions regulated by the HKMA to custody stablecoin reserve assets, as these institutions have sound compliance systems and stable asset management capabilities, which will help enhance market confidence. Compliant digital asset exchanges or compliant custodians in Hong Kong may also participate in parts of the custody, minting, and redemption processes for stablecoins in the future. This diversification of participating institutions will improve overall operational efficiency and flexibility, benefiting issuers in completing redemptions within one working day of receiving redemption requests.
Hong Kong's regulatory authorities are likely to maintain "full" asset reserves at all times through clear asset reserve requirements and strict regulations, and some additional buffer reserve requirements may also be introduced. These reserve requirements can ensure the solvency and liquidity of stablecoin issuers. This means issuers will be required to limit reserve assets to highly liquid and low-risk assets, such as cash and short-term government bonds to ensure that there are sufficient reserves to support the redemption demands of stablecoins under any market conditions. In the future, regulated Hong Kong stablecoins are likely to place greater emphasis on financial transparency and auditing. Institutions under the supervision of the HKMA will be required to regularly publish detailed audit reports, audited by independent auditing firms. This will significantly enhance transparency and ensure the adequacy and security of reserve assets.
Hong Kong has a well-established judicial system that can effectively protect investors' rights. The legal system in Hong Kong is based on common law, characterized by high transparency and international recognition. Stablecoin issuers may be required to implement strict trust arrangements to separate reserve assets from the issuer's own assets and establish effective trust agreements. These arrangements can provide fiat stablecoin users with statutory rights and priority claims to reserve assets in the event of issues with the issuer. In terms of trust arrangements, appointing independent trustees and making trust declarations regarding reserve assets are recognized practices.
Hong Kong is likely to strictly require all institutions involved in the issuance and management of stablecoins to comply with AML (anti-money laundering) regulations to ensure the legality and transparency of all transactions. This will greatly reduce the risk of illegal activities and enhance market confidence. Additionally, Hong Kong has close cooperative relationships with multiple global financial centers, which can promote cross-border regulatory cooperation to ensure the legality and stability of stablecoins internationally. As policies become clearer and more implemented, Hong Kong stablecoins will play an increasingly important role in the global financial market.
Q: What practical application scenarios do you foresee for Hong Kong stablecoins?
Hu Zhenbang: We expect that in the early stages of stablecoin development, priority will be given to issuing stablecoins based on the Hong Kong dollar and US dollar, and transactions will be conducted on mainstream public chains such as Ethereum ERC-20. Large banks will participate in the custody of reserve assets to ensure the security and transparency of assets. Hong Kong's regulatory authorities will strictly regulate the issuance and management of these stablecoins to ensure compliance and transparency.
In the initial phase, we anticipate that the application scenarios for Hong Kong stablecoins will primarily focus on B2B areas such as cross-border trade payments. As an international financial center and trade hub, Hong Kong has close trade ties with countries around the world. Using stablecoins for cross-border payments can significantly improve payment efficiency, reduce transaction costs, and mitigate delays associated with traditional payment methods. Businesses can achieve instant settlements through stablecoins, avoiding exchange rate fluctuation risks and simplifying payment processes, thereby enhancing overall trade efficiency.
As the market matures, the application scope of Hong Kong stablecoins will gradually expand to B2C payments and investment scenarios. In the B2C field, stablecoins can be used for e-commerce, retail payments, and personal cross-border remittances, providing consumers with a more convenient and cost-effective payment experience.
Q: What other aspects of the development of Hong Kong stablecoins need to be explored in depth?
Hu Zhenbang: How enterprises and individuals can safely custody and trade stablecoins is a problem that needs to be addressed. In this regard, compliant exchanges with custody and trading capabilities can play a certain role. As an emerging financial tool, stablecoins still present a high cognitive threshold for participants in stablecoin application scenarios. Investor education is a key aspect to ensure the healthy development of the market. Hong Kong needs to strengthen investor education and protection measures through cooperation between regulatory authorities and market participants.
The global application prospects for stablecoins are broad, but they also face challenges in regulatory coordination and legal compliance. How to promote the legitimate application of stablecoins in overseas markets and ensure legality and compliance across different jurisdictions will be crucial. The question of whether reserve assets can be stored overseas also requires in-depth discussion. Reserve assets stored overseas may face different legal and regulatory environments, raising higher demands for asset security and transparency. Clear policy provisions on under what circumstances reserve assets can be stored overseas, as well as how to ensure the security and compliance of these assets, are very important for issuers and investors.
[Disclaimer: The information provided in this article is for reference purposes only and does not necessarily reflect the views or positions of OSL Group Limited or its affiliates. Some of the information is a reproduction and reprint from third-party sources, and OSL has not independently verified this information, striving but not guaranteeing its accuracy, completeness, and timeliness. Please refer to the information published on the websites designated by regulatory authorities. OSL assumes no responsibility for any losses arising from or related to the information in this article. Investment carries risks, and any forecasts and opinions contained in this article are for general market commentary only and do not constitute an offer of securities or investments, nor do they constitute an invitation, suggestion, investment advice, or guarantee of returns. The information, forecasts, and opinions contained herein are as of the date of this article, and any changes will not be notified separately and should not be regarded as any investment product or market advice. Investors should not rely on this to replace their independent judgment or make decisions based on such information. ]
