Regulatory regime for systemic payment systems using stablecoins and related service providers

As previously announced in EventID 23724, the Prudential Regulation Authority (PRA) has now published its own discussion paper on a „proposed new regulatory regime for systemic payment systems using stablecoins and related service providers“. The discussion paper comes in response to the increased use of stablecoins particularly by cryptoasset exchanges as a means of payments for cryptoassets. Generally speaking, so the PRA, are stablecoins digital currencies whose values are pegged to another currency, asset, or cryptoasset. They may be used in various business settings and have the potential to function as „normal“ currencies to pay for goods and services. In this discussion paper, the PRA only focuses on sterling-denominated stablecoins because it believes that such stablecoins „are the most likely digital settlement assets to be used widely for payments“.
Before deep-diving into the new proposed regime, the PRA further notes that its suggestions are largely based on international standards like the IOSCO Principles for Financial Market Infrastructures (eventid=16908) and expectations set by the Financial Policy Committee (FPC). Moreover, the regime is built upon the concept of equivalent risks, equivalent regulatory measures. In other words, if stablecoin-based payment systems pose risks akin to traditional payment systems, they should adhere to equivalent regulatory standards. Additionally, as a novel form of privately issued currency, issuers of stablecoins used in significant payment systems should meet standards similar to those required of commercial banks.
The following summary presents the key pillars of the proposed new regime, ranging from backing requirements, to transfer function requirements, to safeguarding and redemption obligations. For detailed comprehensive information, please refer to the enclosed legal document. To begin, it shall be noted that the new regime aims to assess, address, and control risks comprehensively within the entire stablecoin payment chain. Therefore, stablecoin issuers and entities involved in the payment chain are expected to maintain robust financial resources, including sufficient capital, liquidity, and other financial safeguards, to withstand potential shocks or disruptions. They will also be required to adopt effective risk management and sound governance practices to ensure regulatory compliance and prevent risks from customers and the payment system overall.
(1) Backing requirements: The new regime would require stablecoins to be fully backed by non-interest bearing deposits held at the Bank of England. This backing is essential to ensure that the value of the stablecoins in circulation is supported by assets held at the central bank, providing confidence to users that the stablecoins can be redeemed at their full value at any time.
(2) Redemption requirements: In line with the backing requirement, stablecoin issuers would be required to redeem stablecoins at any time at par value, that is without any loss of value. A redemption request would have to be processed by day end. As far as redemption fees are concerned, the PRA suggests either banning redemption fees altogether or requiring that any fees charged to holders of stablecoins accurately reflect the actual costs incurred by the stablecoin issuer or any entity offering redemption services.
(3) Capital requirements of stablecoin issuers: According to the discussion paper, stable coin issuers would be subject to additional capital requirements intended to ensure that issuers have enough financial backing to handle operational risks, distribution costs, and general business risks. The goal is to safeguard against potential shortfalls in backing assets, maintain stability during issuer distress, and protect the ability of coinholders to redeem stablecoins at their face value. In line with international principles, stablecoin issuers would have to maintain capital as the highest of:
– Six months of operating expenses;
– Potential business losses; or
– Wind-down costs
minus any potential capital reserves that must be held on trust in highly liquid assets to compensate for the costs of meeting shortfalls in the backing assets or the costs for covering a potential wind-down.
(4) Transfer function requirements: The framework necessitates the presence of a designated entity, the payment system operator (PSO)“, responsible for managing the transfer function within the entire stablecoin value chain. This entity serves as the linchpin of regulation and oversight by assuming the role of a „systemic risk manager“. The PSO would have to be recognized by the HM Treasury which in turn would hold the PSO accountable for assessing and managing all potential risks across the entire payment chain, including infrastructure-related risks like ledger systems disruptions. Furthermore, the PSO would be responsible for ensuring that the settlement asset used within the system adheres to the FPC standards and international norms. This can be achieved by either the PSO issuing the stablecoin itself or choosing another regulated entity that meets the proposed requirements.
(5) Requirements on wallet providers: As custodial wallets would play a critical role in managing stablecoins on behalf of users by controlling private keys and requiring authentication from users to access funds, they would be subject to stringent requirements, ranging from the safeguarding of user assets, to ensuring operational resilience, and to maintaining legal clarity in case of any issues or failures. Some of the most noteworthy obligations involve the maintenance of robust mechanisms to prevent disruptions in users‘ ability to access or control stablecoins due to outages, cyberattacks, or other issues, the adequate and detailed record-keeping and segregation of user assets, maintaining distinct holdings for each user and separating them from the firm’s assets, and the ability to facilitate redemption directly from the issuer in case of custodian failure, ensuring users can reclaim the full value of their stablecoins.