Legislative Uncertainties Are Shackling the Crypto and Cold Storage Wallet Market

As the world’s most mature crypto markets are located in the Europe and North America, these regions have been more active than others in proposing legislation to solidify the role that cryptocurrencies and, by extension, cold-storage wallets will play over the next few years. Recent regulatory advances, such as the announcement of the Markets in Crypto-Assets (MiCA) provisional agreement from the EU and the release of the Framework for International Engagement on Digital Assets in the United States, have demonstrated the collective will to supply regulatory transparency in this market. Over the next few years, the cryptocurrency and stablecoin adoption rates will mirror the stringency of regulation in that particular area of governance. As seen in many economic markets, regulatory certainty has a strong hold over the direction of economic behavior, which is a major factor as to why mature economic areas, such as the EU and the United States, are taking the lead.

In geographical terms, ABI Research identifies sharply rising demand for cryptocurrencies such as Bitcoin and Ethereum across larger economies such as India and Brazil, as well as an entrenched market in the West, which will drive a significant opportunity to grow the cold storage wallet market. This is partially driven by the increase in global inflation and a potential for safe-haven assets away from market turbulence, such as the recent FTX crash and the RobinHood trading scandal in January 2021. It is a trend that will grow in the event end-users lose control over their portfolios, with a spike in cold wallet adoption in response to users’ self-sovereignty being endangered. Furthermore, larger economies such as Brazil, India, China, and Japan are becoming more IT-centric and digitally savvy, which is driving crypto awareness and security risk; exactly the kind of market conditions required to drive further opportunities and expand the cold storage wallet market. 

At the present time, ABI Research does not see any method to fairly restrict the use of self-custody devices, primarily due to the fact that governments have prioritized control over cryptocurrency and stablecoin itself before they can determine the legitimacy of a specific device. Any legislation specific to cold-wallets is very much in its infancy and certainly does not address their usage across borders. One of the main issues is that of consistency: in 2018, India effectively banned all crypto trading, instructing the country’s banks to withdraw service for customers exchanging digital currencies and, while the Supreme Court overturned the ban in 2020, the government and the Reserve Bank of India (RBI), still demonstrated a reticence toward crypto.

Europe has proposed some of the strongest cold wallet regulation, though it has yet to be passed. The European Commission published the Markets in Crypto-Assets Regulation (MICA) for self-custody devices in September 2020, which will potentially pose a risk to the growth of the cold wallet market in the region if it is passed. This is due to the fact that the EU has since proposed to restrict Virtual Asset Service Providers (VASPs) from transacting with un-hosted wallets without first confirming ownership via Know Your Customer (KYC). As an un-hosted wallet is defined as a non-custodial wallet managed entirely by an individual, this includes both cold wallets, such as Ledger and Trezor, as well as hot wallets, such as MetaMask.

As it relates to the US, ABI Research identifies a strongly growing market for crypto users but a fragmented legal approach at the state level as the US continues to progress in developing federal cryptocurrency legislation. The Financial Crimes Enforcement Network (FinCEN) does not consider cryptocurrencies to be legal tender but considers cryptocurrency exchanges to be money transmitters on the basis that cryptocurrency tokens are “other value that substitutes for currency.” The Internal Revenue Service (IRS) does not consider cryptocurrency to be legal tender but defines it as “a digital representation of value that functions as a medium of exchange, a unit of account, and/or a store of value” and has issued tax guidance accordingly. At the present time, the US is neither restrictive nor progressive towards crypto or wallets.

Similarly, Latin America has taken a mixed approach; Bolivia has comprehensively banned cryptocurrencies and exchanges, and Ecuador has issued a ban on the circulation of all cryptocurrencies apart from the government-issued Sistema de Dinero Electronico (SDE). By contrast, in Mexico, Argentina, Brazil, Venezuela, and Chile, cryptocurrencies are commonly accepted as payment by retail outlets and merchants. This is being accelerated by the boom in neo and challenger banks, bringing financial inclusion to underbanked populations, championing digital-first approaches, and providing education and services for the use of cryptocurrencies.

As it relates to Asia-Pacific, the approach is certainly more open. Japan, in particular, currently has one of the world’s most progressive regulatory climates for cryptocurrencies and recognizes Bitcoin and other digital currencies as legal property. The main exception to the rule is that of China. The Central Bank of China has been working on introducing an official digital currency for years and, in September 2021, announced that it had completed pilot tests of its e-CNY digital currency in several cities and as a result has clamped down on other cryptos.

ABI Research identifies that some level of restriction may be necessary to facilitate the introduction of appropriate legislation that safeguards individuals. However, sweeping bans for crypto assets will be heavy-handed and ineffective. Governments must still seek to leverage the benefits of technology-driven innovation in financial services (which is still occurring across the board), while ensuring that markets and consumers are shielded from malicious activity. As it relates to the immediate future without global standards, authorities facing short-term threats may be required to restrict crypto offerings or services, but with the option for users to still buy and sell crypto. There is still the requirement to address the underlying market drivers that push citizen to use unregulated crypto, such as insufficient macroeconomic conditions, a lack of trust in traditional financial services, and deceptive marketing.

As it stands, global standards for unbacked crypto assets are limited in scope and scale and do not successfully safeguard from vulnerabilities. While standards are being developed, they are targeted against specific market offerings such as global stablecoins, meaning there remain regulatory loopholes in most countries. This is exacerbated where crypto assets are permitted in a jurisdiction in which regulatory frameworks fail to safeguard crypto assets based on current legal interpretations of financial services and products.

Establishing global standards is, of course, no small task and must be leveraged against potential risk. Regulation at the domestic level should establish equity across markets and be applied fairly to financial organizations and third parties operating in the cold wallet and crypto space, also catering for an ever-changing payments landscape with evolving threats.