It is not a secret that countries first feared crypto-assets. Nevertheless, many are racing to regulate them as they see a potential future financing interest related to such investments. The most relevant examples come from Europe and the UAE.
After Facebook announced its rebranding to “Meta”, and its intention to launch a new crypto-assets platform and stablecoin “Libra” that later was renamed “Diem”, the whole world became interested in the financial regulation of blockchain assets, more specifically Europe[2].
The types of tokens proposed in MiCA
As such, the EU Commission has suggested MiCA as customized legislation for “utility tokens and stablecoins”, such as “payments tokens”, “asset-backed tokens”, and major stablecoins. The EU Digital Finance Strategy relies on the existing corpus of EU financial and securities regulation when it comes to investment and security tokens.
The issuing of e-money tokens (also called payment tokens), asset-referenced tokens (stablecoins), and crypto-asset activities are all regulated and subject to licensing under MiCA, creating a distinctive regulatory structure for crypto-assets. The European Banking Authority will be responsible of regulating large ARTs and EMTs, whereas national authorities will regulate crypto-asset service providers (CASPs).[3].
The interesting point for this study is that this proposition not only aims to regulate cryptocurrency, but rather uses the word “token” to include all kinds of crypto-assets. This makes us think of an extension of the application of this law, when approved, on non-fungible tokens. Indeed, the uses of NFTs, as previously mentioned throughout this study, can be put under one or more of the three categories that this proposition listed. More specifically, NFTs can be included in the definition of “utility tokens” or “investment or security tokens” if the latter is used in the creation of a company or a project.
More precisely, the three categories are ‘utility tokens’, ‘Security/financial/investment tokens’ and ‘Currency/payment tokens’.
First, 'Utility tokens' give users access to a company's ecosystem, goods, or services in some way. Utility tokens may also grant holders governance rights in the issuing corporation, such as the ability to vote on functional structure upgrades and generally influence the future of the issuing entity. These tokens are frequently compared to pre-payment of license fees or crowdfunding sales on platforms like Kickstarter. A utility token that fits into one of these schemes is not typically considered a traditional investment or financial instrument because its goal is to enable the practical use of a blockchain-based ecosystem rather than to generate future revenue flows. NFTs can definitely be included in this definition, as they are becoming a tool for raising funds for specific projects.
Second, 'Security/financial/investment tokens' are linked to an underlying asset and represent a fractional share of the asset's overall worth but not the asset itself (example, a firm, real estate or collectibles). They provide rights to future profits and are often classified as financial products, securities, financial instruments, derivatives, or collective investment schemes under financial regulatory regimes. In this case, NFTs might be included if we talk about access to an “underlying asset”. Nevertheless, in terms of a digital “security”, this point brings us back to the securitization debate previously discussed. There are unquestionably several opinions on whether an NFT can be seen as a security, not to mention the significant disparities already discussed above.
Finally, ‘currency/payment tokens’ fulfill the functions of money in the economy, including those of a monetary unit, a store of value, and a means of exchange. Stablecoins, such as Diem, are now included in the currency tokens widespread and most popularly exemplified by Bitcoin. This tokens category certainly cannot include NFTs, as it indicates that the regulations regarding these tokens apply on cryptocurrency only.
The Swiss Financial Market Supervisory Authority (FINMA) used these classifications in the updated Swiss DLT Law of 2020. In addition, the French Parliament voted in April 2019 to add a new chapter to the “Code Monétaire et Financier” that only adheres to the so-called “jeton d'usage” (i.e. if the token is unable to be considered a financial instrument), following the AMF's official statement in Fall 2017 that says this token does not fall into any of the three main groups of financial instruments listed in Article L. 211-1 of the “Code Monétaire et Financier”. French issuers have the choice of conducting a regulated token offering, based on AMF authorization, without the French regulator's approval.[4]
The security guaranteed by Mica
Under the proposed framework, anyone producing cryptoassets will be required to publish a prospectus and a whitepaper. Brokers, exchanges, and wallet providers that deal in cryptoassets will all need a license. According to Marian Scheele, senior counsel at Clifford Chance, these licenses will come with several ongoing requirements relating to onboard screening, organization, capital, and transparency. "It's a significant hardship for smaller market players," she said[5].
However, due to the inventive and developing character of cryptocurrency as a currency and asset class, there was a significant shift in the market in the last few years since the regulation was first proposed.
"Non-fungible tokens (NFTs) are a demonstration of how swiftly the market is evolving," Linklaters senior associate Simon Treacy said. "No one was really talking about NFTs when the draft legislation was first published in 2020, and yet 18 months later, it's front and center."[6]
This raises concerns about possible innovation in the following 18 months, before the legislation takes effect.
The structure of the MiCA proposition
MiCA is divided into nine titles.
MiCA's scope and definitions are detailed in Title I.
MICA's core, the restrictions on 'issuers' of crypto-assets, are found in Titles II to IV.
The MiCA predicts the presence of EU financial law for financial instruments, e-money, and organized deposits, as stated in Titles III and IV, respectively. Title III talks of asset-referenced tokens (ARTs), the EU's word for stablecoins, and involves "significant ARTs" (SARTs), the EU's word for GSCs. In contrast, Title IV regulates e-money tokens (EMTs) designated for payment tokens (2). In this situation, MiCA does not apply.
As a result, Title II is viewed as a generic element of the MiCA proposition that applies to any crypto-assets that do not fall into the prior categories. Utility tokens and other non-financial instruments are essentially excluded from its reach.
As a result, the subsequent scaling structure emerges: “payment tokens [SART/SEMT > ART>EMT] > Crypto-assets” (Zetzsche, Annunziata, Arner, & Buckley, 2021).
While the broad section of MiCA's Title II on crypto-assets focuses exclusively on increased transparency, ART and EMT providers will be bound to a licensing and authorization obligation and some operating restrictions.
Title V defines necessary permission and operational norms for service providers related to crypto-assets. Title VII outlines the supervisory responsibilities of competent national authorities (NCAs) for ART and EMT servicers, the responsibilities of the European Banking Authority (EBA) for SARTs, and shared responsibilities with NCAs for significant EMTs. In contrast, Title VI outlines the responsibilities of NCAs for ART and EMT issuers and the responsibilities of the EBA for SARTs. Finally, titles VIII and IX of the MiCA are dedicated to legislative policy.
As a result, the draft MiCA's structure is built on two distinct ideas. First, laws apply to crypto-assets that are directly or indirectly related to payment instruments and e-money. If backed by another property, such as stable currencies, these tokens are called ARTs. Unless they are e-money, they become EMTs. Second, MiCA sets up regulations for all crypto-assets that are not protected by the current EU financial markets laws, including tokens that are not meant to provide any financial investment or return (frequently known as the "utility tokens") and payment tokens that aren't connected to any property[7].
MiCA flaws and recommendations
First, the conditions regarding the issuers of cryptoassets impose that the entity in question is a legal entity with a whitepaper and already established funds. As mentioned, the latter makes it somewhat very hard for small issuers to be subject to this law or compete in financial markets.
Secondly, although this is the first legislative paper regarding cryptoassets, this paper seems theoretical and does not give adequate power of regulation to an executive organism or such.
Thirdly, the proposition also proposes to issue stablecoins using central banks. While this is regarded as a first step to enhance crypto-trading and digital finance, this can be seen as a centralization step.
Finally, for our study, this proposition does not target NFTs in particular, which can be a source of dispute in the future about the extent of the application of this law on NFTs and other cryptoassets that might appear in the future.
In conclusion, even though Mica still has some flaws, it is the first step towards a decentralized finance regulation that should be approved to allow further regulation development. This will allow the financial market to grow with clear regulations in mind.
The government of the United Kingdom has made its intention clear to regulate certain stablecoins.[8]
The United Kingdom government announced intentions to issue its own non-fungible token on Monday as part of a quest to become a "global leader" in the cryptocurrency field.
City Minister John Glen stated at a fintech event in London that Finance Minister Rishi Sunak has urged the Royal Mint — the government-owned firm responsible for minting coins in the United Kingdom — to manufacture and issue the NFT "before the summer." "More information will be accessible very soon," he added. The minister also announced further plans that include the request to the Law Commission about considering the legal status of the DAOs (decentralized autonomous organizations).[9]
In addition, a UK judge in 2019 recognized cryptoassets as tradeable property and declared that smart contracts are enforceable contracts under English Law.[10]
Finally, the UK cryptoassets taskforce published a report on anti-money laundering obligations and counter-terrorist financing, stating that the cryptoassets’ role is relatively low in that field. In addition, the report paper classified the tokens into three categories: exchange tokens, security tokens, and utility tokens, making their point of view very analogous to the MiCA proposition previously discussed. Furthermore, the task force highlights that each token should be studied case-by-case to determine whether existing regulations apply. Following this rationale, non-fungible tokens should be studied individually to see which legislation best matches them. As previously stated, each use of an NFT may differ; hence, each situation may rely on a different regulatory framework.
The UAE is recently endorsing the development of blockchain investments. From the establishment of the VARA authority in Dubai, to many businesses functioning on the blockchain in the Emirates, the country aims to be the leader of crypto regulations in the area.
Dubai: NFTs and the VARA authority
Law No. 4 of 2022 on the Regulation of Virtual Assets was published on February 28th, 2022. Its goal is to develop an advanced legal framework to protect investors and design the much-needed worldwide standards for virtual asset (VA) industry governance to support responsible company growth. The rule applies across the emirate, including special development zones and free zones, except for the Dubai International Financial Centre.[11]
This Law sets up the Dubai Virtual Assets Regulatory Authority (VARA) which is instructed to overlook the organization and issuance of virtual assets and virtual tokens. In addition, the law imposed certain conditions for the people wishing to organize trades relating to cryptoassets, including to register its activity in Dubai, and to be authorized by the competent authority to proceed with it. The law also specified the kinds of services that VARA will be approving, which includes:[12]
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- operating and managing virtual asset platforms services
- services for exchanging virtual assets and currencies, whether national or international
- trade services to one or more types of virtual assets
- transfer services for virtual assets
- custody and management services for virtual assets
- providing services for the portfolio of virtual assets as well as the sale and exchange of digital tokens
Concluding, the VARA authority being in charge of all “virtual assets” in Dubai, we can only say that it is a very important step towards the regulation of NFTs. Indeed, even if we can think that the government had in mind the trade of cryptocurrencies, with the big platform “Coinsfera”[13] operating from Dubai, the legislators here didn’t limit VARA to only digital currencies. However, we will have to wait for future NFT investment in Dubai to check if VARA will be activated, knowing that we don’t have a case of this kind today.
NFT-based diamond business in Dubai: the first of its kind
Icecap, the first company to use non-fungible token (NFT) technology to deliver investment-grade diamonds, has relocated its offices to the Dubai Multi Commodities Center (DMCC) and launched a line of high-end diamond and jewelry collections.
"NFT technology has opened up diamonds as a diversification asset class," stated Icecap CEO Jacques Voorhees. He added that diamonds normally outpace inflation, but they can now be purchased, sold, and exchanged virtually as effectively as gold and silver, thanks to NFT technology. We may say that the world's most challenging asset is now liquid, thanks to NFTs. Additionally, diamonds have been a popular investment for over a thousand years. They are not fungible; each one is unique. Non-fungible token technology now makes it simple to trade this asset class without the hassle of tracking the tangible commodity, which is kept secure, vaulted, and insured.[14]
The diamond tokens of Icecap are exchanged on OpenSea.io. A buyer can keep the token as an investment, sell it to liquidate it, or redeem it and receive the physical diamond - which can then be re-tokenized if desired.
Abu Dhabi’s stance on NFTs and its published report paper.
One of the first UAE government agencies to produce its own Non-Fungible Token is the Department of Culture and Tourism – Abu Dhabi (DCT Abu Dhabi) (NFT).
The two-day workshop comprised of eight sessions during which 20 teams of an overall 220 employees worked on their designs using a photo collection with over 1,000 images which aimed to reflect DCT Abu Dhabi's corporate principles of being friendly, pioneering, fast, and collaborative. The distinct designs were combined to form a collage, which was then transferred to DCT Abu Dhabi's special NFT.
Other UAE government bodies have expressed interest in repeating the NFT workshop to create their own unique digital assets since DCT Abu Dhabi's workshop[15].
The Abu Dhabi Global Market (ADGM) has produced a consultation document titled "Proposals for enhancements to capital markets and virtual assets in ADGM." Proposed criteria for NFT trading, as well as other digital asset classes, are included in the publication. According to the article, companies with a free zone's financial regulator license would be allowed to support NFT trading.
In addition to pages on basic financial instruments, the document includes a little section on virtual assets and non-traditional financial instruments. In this section, the free zone's primary regulator, the Financial Services Regulatory Authority (FSRA), refers to NFTs as intellectual property rather than defined assets or financial instruments. It also proposes that multilateral trading facilities (MTFs) and virtual asset custodians manage NFT marketplaces (VACs).
According to the report, NFT transactions may be subject to the ADGM's Anti-Money Laundering (AML) and Sanctions Rules. It is also important to mention that the paper does not aim to regulate NFTs at the moment.[16]
Conclusion and recommendations:
After giving examples of the different propositions around the world, we can say that many countries perceive the blockchain and NFTs as the future of transactions. Therefore, regulators should not fear them but rather endorse them as a new contracting method.
Thus, NFTs should be regulated according to their technicality. This can be done at the beginning on a national scale. However, regional and international organizations can be beneficial in this matter. Just like the European Union drafted the MiCA proposition, it can draft a unique NFT proposition.
The assets traded on the blockchain can also be divided according to their uses, as per the MiCA proposition. This will allow regulators and courts to understand the legal nature of NFTs.
The national laws should implement these propositions to guarantee local compliance with the projected rules.
Finally, regulators should not forget to introduce NFTs or cryptoassets in anti-money laundering and counterterrorism financing acts to create a more considerable trust in the trade of these instruments.
[3] Zetzsche, D. A., Annunziata, F., Arner, D. W., & Buckley, R. P. (2021). The markets in crypto-assets regulation (MiCA) and the EU digital finance strategy. Capital Markets Law Journal, 16(2), 203-225. doi:10.1093/cmlj/kmab005
[4] Zetzsche, D. A., Annunziata, F., Arner, D. W., & Buckley, R. P. (2021). The markets in crypto-assets regulation (MiCA) and the EU digital finance strategy. Capital Markets Law Journal, 16(2), 203-225. doi:10.1093/cmlj/kmab005
[7] Zetzsche, D. A., Annunziata, F., Arner, D. W., & Buckley, R. P. (2021). The markets in crypto-assets regulation (MiCA) and the EU digital finance strategy. Capital Markets Law Journal, 16(2), 203-225. doi:10.1093/cmlj/kmab005
