Schalast | Distributed Ledger Technology

The foreseeable increased use of distributed ledger technology in the financial sector has various effects on our clients:

On the one hand, both German and European legislators are reacting to private providers’ use of distributed ledger technology, on the other hand, a possible introduction of digital central bank money based on distributed ledger technology would have potentially serious consequences:

Regulating cryptocurrencies in the Banking Act

As part of implementing the 5. fifth Money Laundering Directive(EU) 2018/843 ,cryptocurrencies were included in the group of regulated financial instruments within the meaning of the German Banking Act (KWG). If Distributed Ledger Technology-based tokens are used as a means of exchange or payment, or for investment purposes, the same regulations apply to them as to traditional financial instruments: In principle, they may only be stored, managed or brokered with the help of a regulated company, for example.

Corresponding companies with the necessary technical and regulatory competence are still scarcely established: Competition for the most efficient, customer-friendly providers who promise market participants protection, legitimacy and security (race to the top) is possibly foreseeable. The other side of the coin could be competition between European legislators for the lowest regulatory requirements (race to the bottom). In such a competition, pure FinTech companies and established banks are also in competition with foreign crypto exchanges. Here, market participants must note that passporting a crypto custody permit is not (yet) possible and crypto asset providers require the German supervisory authorities’ permission German to address the German market.

The German legislator was the first national law maker to implement EU requirements for crypto assets in national law. Germany will not remain the only state, but at least this will open up the possibility for German crypto asset providers to position themselves favorably on the European market.

EU Regulation for Cryptocurrency Markets (MiCAR)

In addition to the national (German) regulation of cryptocurrencies, the EU regulation for cryptocurrency markets is expected to come into effect in Q3 2022. If distributed ledger technology-based tokens are subject to this, these may then only be issued by regulated companies and services relating to them may only be provided by approved companies. Transitional provisions apply to tokens that are already in circulation at the time the regulation comes into force and service providers who are already active at that time.

Central Bank Digital Currency (CBDC)

While the European Central Bank is targeting the introduction of a digital euro in 2025, People's Bank of China the first major central bank already put a digital central bank currency into circulation in April 2021 - initially on a test basis and limited to 500,000 participants.

The disruptive character of this development does not result from the fact that payment means are being "digitized" (the majority of payment means in circulation are already stored in digitally managed accounts), nor from the possibility of real-time transfers (such as are already available via SEPA Instant Payment, for example technically possible today and being carried out by an increasing number of participating banks).

Rather, digital central bank money would lead to fundamental upheavals because, according to plan, it is to be administered directly to central bank accounts and thus private banks could no longer provide credit. This would result in a financial system which, unlike the current one, would no longer be based on private banks operating in the deposit and lending business.

This could lead to debt funds assuming an even more centralised role in the future, after having been given the regulatory opportunity not only to purchase receivables but also to grant loans themselves.

In addition, this development could give cross-border payment transactions a boost, making it easier for German companies to become active in foreign markets and thus (more) internationally competitive. Such a development would be extremely important for the export-oriented German market.

In addition to the excitement and opportunities that came with the introduction of digital central bank currencies, there are still a few questions to clarify. Euro member states seem to have addressed these issues and agree that data protection and cyber security in particular must be given due consideration.