What is the MiCA Regulation and how will it impact crypto?

The Markets in Crypto-Assets “MiCA” regulation aims to create a harmonized regulatory framework across all EU countries for “crypto-assets” that are not covered by existing EU law.

Like a lot of EU law, MiCA is a hefty document. It spans more than 400 pages, so it’s pretty impenetrable for those not familiar with EU law. In this summary of the MiCA regulation, we’ve set out the most important details you need to know.

Background to the MiCA Regulation

The explosion in crypto-related activity and the ICO (Initial Coin Offering) boom at the end of 2017 caught the attention of EU regulators. While the European Commission recognized the immense potential of the underlying blockchain and DLT technology, it also noted that cryptocurrencies posed risks for investors:

Technological innovation has led to new types of financial assets such as crypto-assets. Such crypto-assets and the underlying blockchain technology hold promise for financial markets and infrastructures. Their use also presents risks, as has been witnessed by strong volatility of crypto-assets, fraud and operational weaknesses and vulnerabilities at crypto-asset exchanges. 

European Commission

Early in 2018, the Commission’s FinTech Action plan mandated the European Banking Authority (EBA) and the European Securities and Markets Authority (ESMA) to investigate whether cryptocurrencies fell within the remit of any of the regulatory frameworks that existed at that time.

Both the EBA and ESMA found that while certain aspects of crypto could theoretically be regulated under existing frameworks, the practical application would be problematic and not straightforward. As well as this the EBA and ESMA found that the application of existing laws to crypto might “inhibit the use of DLT“. On the back of this finding, the European Commission began work on a new regulatory framework for cryptocurrencies – which would eventually become MiCA.

Who does the MiCA regulation apply to?

When implemented, MiCA will apply to a wide range of actors within the crypto ecosystem, including exchanges, trading platforms, wallet providers, and those giving advice in respect of crypto-assets.

MiCA establishes some new terminology for these actors – it refers to them as Crypto Asset Service Providers or “CASPs” for short.

MiCA also establishes rules for the issuers of crypto-assets. The regulations differ depending on the type of crypto-asset being issued – we’ll go into this distinction in a bit more detail below.

What types of assets does MiCA regulate?

MiCA applies to “crypto-assets”, which it defines as “a digital representation of value or rights which may be transferred and stored electronically, using distributed ledger technology or similar technology“. MiCA splits crypto-assets into three broad categories (which we will examine in more detail below):

• Utility Tokens
• Asset-Referenced Tokens and
• E-Money Tokens.

MiCA does not apply to:

• financial instruments that are regulated by the Markets in Financial Instruments Directive (MiFID) or
• central bank digital currencies (CBDCs).

MiCA Licencing and Authorization for CASPs

First – in order to become a CASP, a provider will have to obtain a license or “authorization”. Those who wish to provide crypto-asset services must submit an application to the relevant “competent authority”. Note that companies already licensed as credit institutions (i.e. banks) or “MiFID” firms (firms providing certain investment services) do not have to submit a full application.

The MiCA framework allows for a system of “passporting”. This essentially means that once a service provider has obtained authorization in one EU member state, it can operate in other member states without having to complete the entire authorization process again. Generally, a CASP would only have to notify regulators in other member states that it wishes to provide services in.

MiCA’s requirements on CASPs vary depending on what type of service is being offered, and how much risk is associated with that service.

Stablecoins and MiCA

The MiCA regulation splits what we call stablecoins into two separate categories:

1. Asset-Referenced Tokens: These are tokens that are pegged to the value of several fiat currencies, commodities (such as gold), or other cryptocurrencies (or a combination of these assets). Examples of stablecoins that would be considered “asset-referenced tokens” include Wrapped Bitcoin (WBTC), which is backed by Bitcoin issued on the Ethereum blockchain, and PAXG, a stablecoin backed 1:1 by physical gold reserves.
2. E-Money Tokens: This is a stablecoin that is pegged to the value of one particular fiat currency (e.g. USDC or Tether).

If you look at MiCA it’s quite noticeable a lot of ink was spent drawing up rules for asset-referenced tokens. This appears to have been in response to Facebook’s plan to issue a stablecoin in 2019, called Libra. If brought to market, Libra would have been a multi-platform stablecoin backed by a basket of currencies. Governments and regulators were quite alarmed by the idea of Libra, and most of them saw a Facebook-issued stablecoin as a “threat to national sovereignty” and potentially a direct competitor to digital currencies issued by central banks.

The Varying Rules for Stablecoin Issuers

MiCA establishes a distinct set of rules for issuers of asset-referenced tokens vs. issuers of e-money tokens.

Authorization

Entities issuing e-money tokens (i.e. stablecoins pegged to the value of a single fiat currency) are required to either obtain a license under the EMD or be licensed as a credit institution. Issuers of asset-referenced tokens, on the other hand, must obtain authorization under MiCA.

Capital Requirements

MiCA also sets out capital requirements for issuers of stablecoins. This means that companies must maintain funds of at least €350,000 or 2% of their total reserve assets at all times. This must consist of the highest quality, liquid funds (which are also known as Common Equity Tier 1 funds under the Basel framework).

Additionally, MiCA requires stablecoin issuers to keep reserve assets and its own funds separate, as well as having the reserves custodied by a credit institution (i.e. bank). Issuers are also required to have an independent auditor carry out an inspection every six months.

e-Money Tokens

MiCA aims to give the same protections to users of crypto-based e-money tokens (i.e. stablecoins pegged to the value of a single fiat currency) as users of conventional e-money. For example, when MiCA is implemented, holders of e-money tokens will have a claim on the issuer. This means that an issuer must be in a position to redeem the tokens at the request of the holder.

Issuers of “Significant” Stablecoins

MiCA gives the EBA and ESMA powers to determine whether stablecoins should be considered “significant”, in which case they will be subject to heightened standards.

In making its determination as to whether e-money tokens or asset-referenced tokens are significant, the EBA and ESMA respectively will look at:

• the value of the tokens or their market capitalization
• the significance of the issuers’ cross-border activities
• the size of the reserve of assets
• interconnectedness with the financial system.

In the explanatory memorandum to the MiCA regulation, EU regulators set out their rationale for applying heightened standards to “significant” stablecoins.

A relatively new subset of crypto-assets – the so-called ‘stablecoins’ – has recently emerged and attracted the attention of both the public and regulators around the world. While the crypto-asset market remains modest in size and does not currently pose a threat to financial stability, this may change with the advent of ‘global stablecoins’, which seek wider adoption by incorporating features aimed at stabilising their value and by exploiting the network effects stemming from the firms promoting these assets.

Explanatory Memorandum, Markets in Crypto Assets Regulation (MiCA)

Does the MiCA regulation allow investors to earn interest on stablecoins?

One of the most significant changes that MiCA will usher in for investors is its outlawing the ability to earn interest on stablecoins. At the moment, investors can earn healthy yields on stablecoins (over 10% APR on certain platforms). However, after MiCA comes into force, it will no longer be possible for EU crypto investors to earn interest on stablecoins.

Issuers of other types of crypto-assets

In order to be permitted to offer crypto-assets that are not stablecoins to the public or trade on an EU exchange an issuer must:

• be a legal entity, and

• publish a whitepaper, notify to a designated regulator and have it published on its website.

MiCA sets out requirements for the content that whitepapers must include. For example, issuers must provide details of the project and its utility, the main participants involved in the project’s design and development, risks and benefits for investors and a description of the underlying technology. Note that requirements for issuers of non-stablecoin cryptos are less stringent than they are for stablecoin issuers. Utility token issuers do not have to have a physical presence in an EU country.

There are also a number of exceptions to the above, which are set out in Article 4.2 of the MiCA regulation. For example, an issuer doesn’t have to comply with these rules if the crypto-assets being offered are free, if they are NFTs or if the “offer to the public of the crypto-assets is solely addressed to qualified investors and the crypto-assets can only be held by such qualified investors“.

Issuers of Utility Tokens

MiCA defines utility tokens as “a type of crypto asset which is intended to provide digital access to a good or service, available on DLT, and that is only accepted by the issuer of that token“.

MiCA imposes a number of additional rules on issuers of utility tokens, including certain disclosures explaining that the tokens may not be exchangeable, especially in the event of failure or discontinuation of the project.

Will the MiCA regulation ban proof of work cryptocurrencies?

In March 2022, the European Parliament voted against including the following wording in MiCA: “Crypto-assets shall be subject to minimum sustainable environmental standards with respect to their consensus mechanism used for validating transactions, before being issued, offered or admitted to trading in the union”.

The proposed wording faced a fierce backlash from a very vocal crypto community, and some interpreted the provision as effectively banning proof-of-work cryptocurrencies, such as bitcoin.

Read more: What are the most environmentally friendly cryptocurrencies?

Instead the EU parliament agreed to task the commission to come up with an alternative solution:

“By 1 January 2025, the Commission shall present to the European Parliament and to the Council, as appropriate, a legislative proposal to amend Regulation (EU) 2020/852, in accordance with Article 10 of that Regulation, with a view to including in the EU sustainable finance taxonomy any crypto asset mining activities that contribute substantially to climate change mitigation and adaptation”.

In short, MiCA does not currently ban proof-of-work cryptocurrencies. However, it appears that the possibility has been left open for the European commission, in the future, to limit the use of blockchain technology that does not align with its sustainability objectives.