An in-depth analysis of Hong Kong’s Web3 policies since the release of the ‘Declaration
Analysis of Hong Kong's Web3 policies post 'Declaration' releaseAuthor: Lawyer Wu Wenqian (Gilbert Ng)
Over the past 10 months, the development of Web 3.0 and virtual assets worldwide, especially in the Chinese community, has focused on Hong Kong.
Hong Kong has always been the base for many well-known Web 3.0 institutions, such as bitfinex, crypto.com, and even FTX initially had Hong Kong as its base. In the past 10 months, the development of Web 3.0 in Hong Kong has been faster and more urgent than in the past 10 years. The main reason is that the Hong Kong government has made a 180-degree change in its policies on virtual assets and Web 3.0, leading this industry to flourish in Hong Kong.
The story of the development of Web 3.0 policies in Hong Kong should start from 2018. On November 1, 2018, the Hong Kong Securities and Futures Commission issued a statement outlining new regulations for virtual assets. The statement also announced the regulatory sandbox of the Securities and Futures Commission, inviting exchanges to accept regulation by the Commission and allowing the Commission to understand the operation of virtual asset trading platforms. Hashkey and OSL, which recently obtained approval for upgraded licenses from the Securities and Futures Commission, allowing retail investors to trade, were also sandbox applicants at the time and applied for and received licenses after the sandbox period ended.
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For various reasons, the regulatory guidelines issued by the Securities and Futures Commission at that time did not have as significant an impact as this wave, at least not attracting overseas virtual asset institutions to settle in Hong Kong or traditional institutions to enter the virtual asset industry. At that time, the Securities and Futures Commission also did not accept the top exchanges at the time as applicants for the sandbox.
The biggest difference between the 2018 policy and today’s policy is that at that time, it was only the regulatory authorities trying to promote the policy, while in the past 10 months, the entire industry has felt the different policies on Web 3.0 from various departments, different regulations, and different institutions of the Hong Kong government, including the Securities and Futures Commission, the Hong Kong Monetary Authority, the Innovation and Technology Bureau, Invest Hong Kong, Cyberport, Science Park, and even legislative council members, all working together to promote different policies on Web 3.0.
The Hong Kong government’s multi-faceted promotion
The recent policy on Web 3.0 in Hong Kong started with the “Policy Statement on Development of Virtual Assets in Hong Kong” (“Policy Statement”) issued by the Financial Secretary’s Office on October 31, 2022. The Policy Statement sets out the Hong Kong government’s policy stance and guidelines on Web 3.0, promoting Hong Kong as the center of global Web 3.0 through legal and regulatory systems that support market development. The Policy Statement also sets out the direction for future policy development, such as policies on stablecoins and tokenized assets (RWA).
However, when the Policy Statement was released, it did not have a significant impact on the market. The market generally regarded this statement as similar to the wave in 2018, where it was just a sound heard from the stairs. Many people in the cryptocurrency community also had doubts about the sustainability of the policy, believing that the policy might come to nothing or change in the near future.
On December 8 of the same year, the Legislative Council officially passed the new legislation on virtual assets, and Hong Kong officially regulated virtual assets and provided a clear definition of virtual assets. The enactment of this legislation was a significant milestone in the development of Hong Kong’s virtual asset policy. However, similar to the Policy Statement issued just in October, the cryptocurrency industry did not have much response. I remember that most cryptocurrency media did not report on it at the time, only one or two English-language media outlets covered it.
The market has had a significant response to the policies regarding Web3.0 in Hong Kong. This is likely due to the official launch of the first Bitcoin and Ethereum ETF in Asia by the Hong Kong Stock Exchange on December 16 last year. The approval of the Bitcoin ETF just two months after the policy declaration demonstrates the government’s efficiency and determination in implementing Web 3.0 policies, which is different from the previous practice of taking months to years for the Hong Kong government to execute policies.
The fact that the Web 3.0 policy is driven by the entire Hong Kong government rather than individual regulators can be best evidenced by the proactive meetings held by the Hong Kong Monetary Authority (HKMA) with local banks and virtual asset institutions in April this year to assist the relevant institutions in opening bank accounts with local banks. It is rumored that during the meeting, the HKMA directly questioned the banks on their refusal to open accounts for virtual asset institutions. In June, the HKMA held another meeting with banks, hoping that licensed virtual currency service providers could open accounts as soon as possible.
Prior to the current government taking office, the HKMA’s attitude had always been regulatory, never prohibiting banks from opening accounts for virtual asset service providers. Whether to open accounts or not was a business decision for the banks. The proactive request by regulatory authorities for banks to open accounts is an unprecedented practice worldwide, demonstrating the government’s determination to make Hong Kong a global Web 3.0 hub.
In addition, the Financial Secretary has allocated funds to develop the Web 3.0 ecosystem, Cyberport has established a Web3 base, a dedicated working group for Web3.0 development has been set up with the Financial Secretary as the chairman, and the HKMA has launched the “Cyberport Dollar” pilot program, all driven by the Hong Kong government.
VASP License
What really ignited the entire Hong Kong Web 3.0 market was the consultation paper on virtual asset trading platforms published by the Securities and Futures Commission (SFC) in February this year. Like other overseas regulators, the SFC also took centralized exchanges as the first step in regulation. There are three main reasons why the market became heated:
Speed of policy implementation. The consultation paper was published in February, the consultation period ended in March, and the new licensing regime came into effect on June 1. The entire process took less than four months, which is unprecedented in the history of policy formulation and licensing. For example, the HKMA published a consultation paper on stablecoins in January 2022, but the summary of the consultation paper was only released on January 31 this year, one year later.
Transition period arrangement. The SFC allowed exchanges that were already operating in Hong Kong before June 1 to continue operations for an additional year, providing a transition period for these exchanges to apply for licenses. Whether intentional or not, this arrangement did encourage many operators to establish operations in Hong Kong and set up exchange platforms before June 1 in order to take advantage of this transition period. This led to more exchanges being established in Hong Kong.
Retail investors. Prior to the publication of this consultation paper, the SFC’s position had always been to not allow retail investors to trade virtual assets in Hong Kong. The reason was that virtual assets have high volatility and insufficient investor protection, so it was believed that retail investors were not suitable for investing in virtual assets. The permission for retail investors to invest proves that the Hong Kong government believes that virtual assets will have long-term development in Hong Kong, once again demonstrating the continuity of the policy. Just last week, the SFC officially approved the upgrade applications of two exchanges and allowed retail investors to trade, further proving that the Hong Kong government does not have a cautious attitude towards virtual assets, but rather a proactive one in quickly building Hong Kong into a Web 3.0 hub.
Although VASP licenses still have many restrictions, such as prohibiting retail investors from trading stablecoins and derivatives (including Staking), and strict requirements for listing, there will be more opportunities in the market in the future when other policies, such as stablecoin licenses and derivative product policies, are introduced. It is worth mentioning that the Hong Kong government has also mentioned in different public occasions that it may allow the OTC market for virtual asset derivative products in the future.
Stablecoins
Stablecoins have always been an important bridge in both traditional markets and the cryptocurrency industry, and they also play an important role in the entire ecosystem of virtual assets. The Hong Kong Monetary Authority (HKMA) is also aware of the risks and potential of stablecoins to disrupt traditional financial markets, especially the liquidity of the Hong Kong dollar, so the HKMA issued a consultation paper as early as January last year to consult the cryptocurrency and financial industries on whether stablecoins should be regulated and how they should be regulated.
The summary of the consultation paper published in January this year also indicates the HKMA’s position that the issuance of stablecoins is inevitable and the issuance system will be established as early as next year. The department responsible for financial technology at the HKMA has also stated in multiple public occasions that it will issue a second consultation paper before the end of this year, hoping to establish the issuance system next year.
Many institutions in the market want to issue Hong Kong dollar stablecoins in Hong Kong, even before the stablecoin policy is released, in order to seize market share. Currently, stablecoins are not regulated by specific legislation and they are unlikely to be classified as securities before the license is issued. However, overall, the HKMA has indicated that there will be a regulatory framework, and the Securities and Futures Commission has also stated that retail investors are not allowed to trade stablecoins on VASPs. Stablecoins issued before the stablecoin legislation is clear may face regulatory pressure.
Tokenization of Assets
The Hong Kong government stated in its policy manifesto that the tokenization of real-world assets (RWA) is an important category for Hong Kong as a global Web 3.0 center.
On February 16 this year, the Hong Kong government took the lead in issuing HKD 800 million worth of tokens for green bonds, making it the world’s first government-issued tokenized green bond. In June, BOC International also successfully issued RMB 200 million worth of digitized structured notes, becoming the first Chinese financial institution to issue digital securities.
Although both of these asset tokenization cases rely heavily on traditional financial trading and settlement methods, with blockchain applications focusing on on-chain record keeping, these two cases are sufficient to prove that the Hong Kong government, as well as traditional and even Chinese financial institutions, are interested in developing in the field of virtual assets and Web 3.0. Similarly, the Hong Kong government has also mentioned in public occasions that RWA can fractionalize traditional financial products, bring more liquidity and trading volume, and allow smaller investment institutions and even retail investors to participate.
Before the policy declaration was made, the Securities and Futures Commission (SFC) considered security tokens as complex structured products and only allowed professional investors to invest. The SFC will soon issue an updated circular to change its view on Security Token Offerings (STOs) that was formed four years ago (in 2019). STOs or RWA will no longer be defined as complex products and may be open to retail investors. In addition, licensing institutions for issuing STOs or RWAs (License Type 1) may not need to upgrade their licenses in the future and may only need to report to the regulator depending on the circumstances. This may trigger a new wave of RWA issuance.
In the future, with the regulatory framework for stablecoins and OTC derivatives in place, along with RWA issuance, VASP, and licensing for exchanges with License Type 1 and 7, the ecosystem of virtual assets and traditional finance in Hong Kong’s Web 3.0 will begin to take shape.
So far, the policies stated in the policy declaration have been implemented one by one. Over the past 10 months, various regulatory and other departments have gradually implemented the policies. After the financial center, Hong Kong may soon become the center of Web 3.0 globally.
Summary of Hong Kong’s Web 3.0 policies:
