Author: TaxDAO
1. Background of Hong Kong's Stablecoin Regulatory Policy
1.1 Definition of Stablecoins
Stablecoins are a special asset in the cryptocurrency market, whose main feature is to peg their value to fiat currencies or other assets, thereby maintaining a relatively stable value. The Bank for International Settlements (BIS) defines them as "cryptocurrencies whose value is pegged to fiat currencies or other assets." Unlike traditional cryptocurrencies (such as Bitcoin), stablecoins aim to avoid violent price fluctuations by pegging to fiat currencies or other assets. The emergence of stablecoins has provided a relatively stable value carrier for the cryptocurrency market, especially in the field of decentralized finance (DeFi), where their widespread application has brought liquidity and stability to on-chain transactions, lending, and other scenarios.
Stablecoins can be roughly divided into three types based on their anchoring mechanism:
Fiat-collateralized Stablecoins: Such as USDT and USDC, which maintain a 1:1 exchange rate with the US dollar through the US dollar as collateral.
Crypto-collateralized Stablecoins: Such as Dai, which ensures stability through over-collateralized crypto assets.
Algorithmic Stablecoins: Such as Ampleforth, which maintains price stability by automatically adjusting the supply.
The rapid global development of stablecoins has demonstrated their tremendous potential in payments, cross-border transactions, and financial instruments. By 2024, the market capitalization of stablecoins has exceeded $300 billion, with daily trading volumes reaching hundreds of billions of dollars. Among them, USDT (Tether) is the most popular stablecoin globally, accounting for nearly 70% of the total stablecoin market capitalization and becoming the absolute leader in the stablecoin market.
1.2 International Background of Stablecoin Regulation
Internationally, the regulation of stablecoins is becoming increasingly strict. In 2021, the US Treasury Department publicly called for strong regulation of stablecoins, emphasizing the systemic risks they pose in payment systems. Europe and the UK are also gradually advancing the regulatory framework for stablecoins to ensure their compliance and financial security. At the same time, many countries have also begun to study the launch of central bank digital currencies (CBDCs), which to some extent compete with stablecoins, but the roles and use cases of the two are different. In emerging markets such as Southeast Asia and the Middle East, stablecoins have brought new opportunities for cross-border payments and financial inclusion, allowing many unbanked people to participate in the global financial market and improving the economic liquidity in these regions.
1.3 Background of Stablecoin Regulation in Mainland China and Hong Kong
The Chinese government has a relatively cautious attitude towards stablecoins. The People's Bank of China has emphasized strict supervision of virtual currencies since 2017 and further strengthened the crackdown on cryptocurrency trading and mining in 2021. Although the People's Bank of China has been promoting the application of the digital renminbi (e-CNY), its attitude towards foreign stablecoins remains strict, as stablecoins are considered to potentially affect China's monetary sovereignty and financial security. Therefore, when considering cross-border payments, China is more inclined to promote the government-led digital renminbi.
As a special administrative region, Hong Kong has adopted a different regulatory strategy from the mainland, tending to provide a certain degree of innovation space for virtual assets. Its relatively loose virtual asset regulation has attracted a large number of crypto companies and innovative projects. This year, a subsidiary of JD.com has also joined Hong Kong's regulatory sandbox, indicating the mainland enterprises' interest and trust in Hong Kong's virtual asset policies. In fact, as early as 2018, Hong Kong began to gradually introduce regulatory policies on virtual assets. In 2019, the Hong Kong Securities and Futures Commission (SFC) issued regulations on virtual asset trading platforms and fund management, clearly defining the compliance requirements for virtual assets, marking Hong Kong's entry into a new era of virtual asset regulation. In 2023, Hong Kong officially launched the Virtual Asset Service Providers (VASP) licensing system, further clarifying the regulatory framework for virtual asset trading platforms and service providers. This system requires virtual asset service providers to obtain a license to operate legally in Hong Kong and sets strict KYC (Know Your Customer) and AML (Anti-Money Laundering) compliance requirements. This article will focus on Hong Kong's stablecoins and analyze its regulatory system and policies.
2. Evolution of Hong Kong's Stablecoin Regulation
Since 2022, Hong Kong has gradually promoted the regulatory framework for stablecoin issuance, with the core goal of ensuring the transparency and security of stablecoin issuance and laying the foundation for the healthy development of the virtual asset market. The following is a timeline of the evolution of Hong Kong's stablecoin regulation:
2.1 2022: Preliminary Discussion and Consultation
In January 2022, the Hong Kong Monetary Authority (HKMA) released the "Discussion Paper on Crypto-assets and Stablecoins." The paper pointed out that with the rapid development of crypto-assets and stablecoins, the existing payment system and stored value facility (such as e-wallets) regulatory framework is no longer sufficient to cover all types of stablecoins. Therefore, HKMA proposed the necessity of prioritizing the regulation of payment-type stablecoins pegged to fiat currencies (such as USDT and USDC), and excluded the regulatory priority of algorithmic stablecoins and other non-asset-backed types. The paper also invited relevant industries to provide feedback on the discussion paper by the end of March 2022, which would serve as an important basis for the design of the future regulatory framework.
2.2 2023: Gradually Clarifying the Regulatory Framework
In 2023, HKMA accelerated the development of a specific regulatory system for stablecoins. In December, HKMA and the Financial Services and the Treasury Bureau (FSTB) jointly released legislative proposals for the regulation of stablecoin issuers, proposing a specific regulatory framework draft. This framework not only comprehensively regulates the issuance and management of stablecoins, but also sets detailed requirements for the management of stablecoin reserve assets, corporate governance, risk control, information disclosure, anti-money laundering, and counter-terrorist financing.
Particularly noteworthy is the framework's regulation of reserve assets, requiring all stablecoin issuers to ensure that the stablecoins in circulation have 100% reserve asset support and to set up separate accounts to manage these reserve assets. In addition, issuers need to regularly disclose the reserve status of stablecoins to the public.
2.3 2024: Legislation Promotion and Public Consultation
In 2024, Hong Kong further promoted the legislative process of the stablecoin regulatory framework. In January 2024, HKMA released a consultation paper proposing more detailed regulatory measures and for the first time clearly defining Fiat-Referenced Stablecoins (FRS). These stablecoins need to be pegged to fiat currencies, commodities, or other financial assets, and their issuers must be registered and licensed in Hong Kong.
The document also proposes specific requirements for the licensing of stablecoin issuers, including a minimum paid-up capital requirement (such as HK$25 million) and the requirement for issuers to establish an entity in Hong Kong and ensure that the local management structure meets regulatory requirements. In addition, non-Hong Kong registered issuers who want to market their stablecoins to the Hong Kong public must also comply with Hong Kong's regulatory provisions. The implementation of this system has gradually made Hong Kong one of the global centers for virtual asset and stablecoin issuance activities.
To help the emerging stablecoin projects and enterprises smoothly transition to the new regulatory framework, HKMA also proposed a regulatory sandbox system for stablecoin issuers. This system allows enterprises to communicate with HKMA about regulatory requirements before actual issuance, obtain preliminary guidance and supervision, and ensure compliant operations. This measure not only encourages innovation, but also provides flexibility for the compliant development of stablecoins.
3. Detailed Introduction to Hong Kong's Fiat-Referenced Stablecoin Regulatory System
Hong Kong's Fiat-Referenced Stablecoin (FRS) regulatory system is an important policy framework proposed by Hong Kong to ensure the stability, transparency, and compliance of the virtual asset market. This regulatory system not only defines what constitutes an FRS, but also sets clear applicable subjects, applicable conditions, and a series of regulatory requirements for its issuance.
3.1 Regulatory Subjects and Concept Explanation
In Hong Kong, all entities issuing fiat-linked stablecoins (such as stablecoins pegged to the Hong Kong dollar, US dollar, etc.) must apply to the HKMA for an issuance license, even if they are international issuers, as long as (1) their stablecoin is issued in Hong Kong, or (2) is pegged to the Hong Kong dollar, or (3) their product is marketed to the Hong Kong public, they must comply with Hong Kong's regulatory requirements. According to Hong Kong's proposal, the definition of FRS includes the following core elements: Cryptographically-protected digital form of value: FRS is a digital form of value that is cryptographically protected through distributed ledger or similar technology. Value stability: FRS needs to be pegged to a fiat currency (or a basket of assets) and maintain a relatively stable value. Products that maintain value through supply and demand mechanisms, such as algorithmic stablecoins, may have difficulty meeting this requirement. Utility: FRS needs to be used as a payment tool, investment tool, or debt settlement tool. All types of stablecoins, regardless of whether their stabilization mechanism is based on fiat currency reserves, must comply with this regulatory system as long as they claim to maintain price stability. 3.2 Conditions and regulatory requirements for issuing stablecoins in Hong Kong To issue stablecoins in Hong Kong, strict regulatory conditions must be met, mainly including the following aspects: Financial resource requirements: FRS issuers must have sufficient capital, with a minimum paid-up capital requirement of HK$25 million, to ensure that issuers have sufficient capital buffers to withstand market volatility. In addition, issuers must ensure that the stablecoins in circulation have reserve assets corresponding to their face value, and these assets must be highly liquid and low-risk, and the reserve assets must be held separately in a regulated financial institution. Governance and risk management: Issuers must have a sound corporate governance structure to ensure the effectiveness of their internal controls and risk management mechanisms. Issuers must conduct annual risk assessments, including technical risks, security controls, and anti-fraud measures. In addition, FRS issuers must also meet the requirements of the Anti-Money Laundering and Counter-Terrorist Financing Ordinance to ensure that their systems can monitor transactions and prevent financial crimes. Reserve asset management: Issuers must ensure that all issued stablecoins have sufficient reserve assets to support them, and the reserve assets must correspond to the fiat currency to which the stablecoin is pegged, and the reserve assets must be disclosed to the public on a regular basis, including the total amount of stablecoins in circulation and the market value and composition of the reserve assets. This measure aims to ensure transparency and market trust. Prohibition of interest payment: Hong Kong's FRS regulatory system prohibits issuers from paying interest to stablecoin holders. This provision is to prevent stablecoins from becoming deposit-like products and to avoid their impact on the banking industry. Localization requirement: All FRS issuers must be registered companies in Hong Kong, and ensure that their senior management and management teams are based in Hong Kong and have the ability to effectively control the stablecoins they issue. 3.3 Specific process for issuing stablecoins in Hong Kong To issue stablecoins in Hong Kong, the issuer must first apply for a license from the HKMA and meet a series of strict standards, including but not limited to sufficient financial resources, a sound corporate governance structure, and a professional reserve management mechanism. This process requires the issuer to submit a detailed business plan to the HKMA, which not only outlines the stablecoin issuance plan, including the target market, issuance scale, and expected use, but also includes a specific reserve management plan to ensure that each unit of the stablecoin has corresponding reserve assets, as well as a comprehensive risk management framework to ensure the stability of the stablecoin's value and the system's security under various market conditions. In addition to submitting the plan, the issuer must also ensure that its reserve asset management system and information disclosure system meet the high standards set by the HKMA, which means that the system must not only have a high degree of security and transparency, but also be able to disclose key information such as the issuance volume and reserve asset status to the public in a timely and accurate manner, so that investors and other stakeholders can make informed decisions. Once licensed, the issuer must also comply with ongoing compliance requirements, including regularly submitting detailed operational reports to the HKMA, covering all aspects of business operations, such as financial performance, the effectiveness of risk management measures, and customer protection measures, to ensure that all operations comply with legal and regulatory requirements and to maintain the fairness of the market and the interests of investors. Issuing stablecoins in Hong Kong faces many challenges. The capital requirements pose a high threshold for many startups, as issuers not only need to hold sufficient funds to support the initial issuance, but also need to ensure that the reserve assets always match the face value of the issued stablecoins, which may require a large amount of liquid capital as support. Secondly, compliance costs cannot be ignored, as FRS issuers must comply with strict regulations including anti-money laundering, information disclosure, and risk management, which usually means that companies need to invest additional human and material resources to establish dedicated compliance teams and systems to ensure the legality and transparency of their operations. For some international issuers, local management is also a significant challenge, as companies issuing stablecoins in Hong Kong must establish a local entity and ensure that the management and key functional teams can operate effectively in Hong Kong, which not only increases the company's operating costs, but may also bring challenges in terms of cultural integration and management. 3.4 Stablecoin regulatory sandbox system On March 12, 2024, the HKMA launched an innovative initiative called the "Sandbox Program" to provide a pilot environment for entities interested in issuing stablecoins in the Hong Kong market before the relevant legislation is formally implemented. The Sandbox Program allows participants to test their products and services in a controlled risk environment, while also providing regulators with the opportunity to observe and evaluate the operation of these new financial instruments, not only promoting exchange between regulators and the industry, but also laying a solid foundation for the future stablecoin issuance regulatory framework. To ensure the effectiveness and fairness of the Sandbox Program, the HKMA has not limited the specific number of participants, but has set strict standards for applicants, who must demonstrate their genuine intention and reasonable planning to issue fiat-linked stablecoins in Hong Kong, and have already developed a specific strategy for participating in the Sandbox Program. They also need to prove that they have the ability to meet the regulatory requirements outlined in the consultation document, including having a detailed business plan, a professional team based in Hong Kong, and sufficient start-up capital to cover the initial operating costs. For companies wishing to join the Sandbox Program, the application process is relatively straightforward, as applicants can submit the necessary documentation to the HKMA through a designated email address, and the HKMA may request additional information to assist in the evaluation. During the review process, the regulator will comprehensively consider multiple factors, such as the uniqueness of the stablecoin application scenarios proposed by the applicant, the effectiveness of the price stabilization mechanism, the management of the reserve assets, and the protection measures for users. Even if a project successfully enters the sandbox arrangement, it does not mean that it has been officially recognized or regulated by the HKMA or other financial regulators. Once the licensing system for stablecoin issuers is formally implemented, all sandbox participants must reapply to obtain the official operating license. In addition, the sandbox arrangement itself also has certain restrictive conditions, such as possibly controlling the user base and stablecoin issuance volume of participants to ensure that the risk is at an acceptable level. The HKMA also reserves the right to adjust the sandbox rules based on specific circumstances to adapt to the constantly changing market and technological environment. All sandbox participants must obtain HKMA approval before publicly releasing any information about their sandbox status, to prevent misleading propaganda and protect potential investors from unnecessary risks. On July 18 this year, the HKMA announced the list of stablecoin issuer "sandbox" participants, which are JD Coin Chain Technology (Hong Kong) Limited; Yuancoin Innovation Technology Limited; Standard Chartered Bank (Hong Kong) Limited, Anqi Group Limited, and Hong Kong Telecommunications Limited.From a comprehensive perspective, Hong Kong's FRS regulatory system is forward-looking globally, with its strict reserve requirements and transparency provisions ensuring market stability and trust, but for issuers seeking to enter the Hong Kong market, they also need to address higher capital and compliance costs. Through the sandbox system, companies can obtain the necessary support and guidance to ensure their operations comply with regulatory requirements.
4. The Impact of Hong Kong's Stablecoin Regulatory System
As an important international financial center, Hong Kong's stablecoin regulatory system provides a robust legal framework for the global cryptocurrency market. Hong Kong's regulatory system emphasizes the management of reserve assets, through strong regulation, ensuring that all issued stablecoins have 100% reserve asset support, and these assets must be deposited in regulated financial institutions. For international companies, this means that issuing stablecoins in Hong Kong requires meeting high regulatory standards, for example, all non-Hong Kong issuers who want to launch stablecoins pegged to the Hong Kong dollar or conduct market promotion in Hong Kong must obtain a license from HKMA. Algorithmic stablecoins and other non-asset-backed stablecoins may be unable to be issued in Hong Kong as they are difficult to meet regulatory requirements. In addition, Hong Kong's regulatory sandbox system provides a "controlled" environment for companies, helping them to test their business models and compliance before entering the market, reducing the initial operational risks, and also providing an opportunity for Hong Kong's regulatory authorities to establish closer cooperation with companies, thereby continuously improving their regulatory framework.
As a special administrative region of China, Hong Kong's regulatory policies are in stark contrast to the mainland's cryptocurrency policies. Mainland China has a relatively conservative attitude towards cryptocurrencies, while Hong Kong, leveraging its status as an international financial center and flexible regulatory approach, has become a bridgehead for mainland Chinese companies to experiment with virtual asset businesses, for example, a subsidiary of JD.com has already joined Hong Kong's regulatory sandbox to explore innovative applications of stablecoins and other virtual assets. This trend indicates that mainland companies are increasingly focused on expanding into global markets through Hong Kong, and may also imply that mainland China may adjust its attitude towards cryptocurrencies in the future. Hong Kong's regulatory system is also expected to provide a reference for mainland China's virtual asset policies, as its transparency, reserve management, and risk control requirements in the regulatory framework provide practical reference for the future virtual asset regulatory system in mainland China.
For global cryptocurrency companies and investors, Hong Kong's stablecoin regulatory system has created a relatively stable and transparent market environment, where companies issuing stablecoins in Hong Kong must meet high standards of reserve management and compliance requirements, providing investors with more trust. At the same time, Hong Kong's anti-money laundering (AML) and counter-terrorist financing (CFT) regulations also make the stablecoin market more secure and reliable, reducing the risks of money laundering and illegal transactions, which helps to enhance the reputation of the entire cryptocurrency market. Hong Kong also provides companies with flexible market entry channels and a sandbox system, where companies can test their business models within a limited scope and receive guidance from regulatory authorities, thereby reducing compliance risks, which provides opportunities for startups and SMEs to enter the market and enhances their competitiveness.
5. Conclusion
Hong Kong's stablecoin regulatory system not only promotes innovation, but also provides market safety guarantees. The implementation of this system will help the long-term healthy development of the stablecoin market and enhance Hong Kong's position in the global crypto-asset field. As stablecoins have strong monetary attributes, other jurisdictions will also increasingly tighten their regulation of stablecoins in the future. The stablecoin regulatory system explored by Hong Kong also provides valuable experience for other jurisdictions to reference.
References
[1]. Overview of Crypto Compliance Licenses: Hong Kong Edition. Web3caff
[2]. Consultation Conclusions on Legislative Proposals to Regulate Stablecoin Issuers. HKMA
[3]. A Guide to Hong Kong's Stablecoin Issuer Licensing Regime. Jincheng Tongda & Neal
[4]. HKMA Announces Stablecoin Issuer "Sandbox" Participants. HKMA
[5]. Hong Kong Monetary Authority introduces plans to regulate stablecoins. Reed Smith In-depth
[6]. Summary of the Discussion Paper on Crypto-assets and Stablecoins. HKMA
[7]. A Comprehensive Research Report Analyzing the Stablecoin Landscape: Models, Operating Principles, Trends, and Reflections on Hong Kong Stablecoins. AiYing Compliance
