As political experts focus on the diplomatic dance amid building tensions between the United States and China (punctuated by some balloon-shaped comic relief that might end up being not so funny after all), a more benign battle is brewing in the halls of financial regulators. While local for now, nothing stays local for long in global markets. The potential ramifications go well beyond crypto markets, potentially shaping economic influence that, in this changing landscape, is more geostrategically important than ever.
Earlier this week, Hong Kong’s Securities and Futures Commission (SFC) published the proposed text of its upcoming crypto regulation, slated to go into effect on June 1, and opened it up for public comment. Its scope includes the licensing of crypto-asset service platforms, which were originally only going to be allowed to service accredited investors. The SFC is now seeking input on whether or not retail investors should also be allowed to participate, and what types of protections should be in place. Also open for discussion is the range of “approved” assets, which in principle would only include a limited selection of the most liquid tokens.
So far, this seems like yet another example of a jurisdiction way ahead of the United States in terms of regulatory clarity and willingness to engage with the public on the topic. Yet, lifting the lid a little, it is so much more. It is also an example of the East-West strategy divide, the power of retail and the importance of watching the flows.
Noelle Acheson is the former head of research at CoinDesk and Genesis Trading. This article is excerpted from her Crypto Is Macro Now newsletter, which focuses on the overlap between the shifting crypto and macro landscapes. These opinions are hers, and nothing she writes should be taken as investment advice.
Hong Kong’s crypto-friendly overtures
Not that long ago, Hong Kong was not exactly welcoming to crypto businesses, but nor was it overtly antagonistic. It seemed to regard them as largely inconsequential, in contrast to China’s building antagonism. In 2020, Hong Kong announced plans to introduce a new licensing regime to directly regulate all crypto platforms and to limit their reach to accredited investors. This recent move seems not only to clarify those promises but also to broaden the scope and take into account what the regulators see as growing retail interest.
Yet, it's about more than licensing. Hong Kong has also budgeted HK$50 million (~$6.4 million) for crypto asset development, including education efforts for individuals and businesses. And Hong Kong's financial secretary, Paul Chan, announced the launch of a task force composed of policy and industry representatives to explore crypto asset integration. This feels much broader and longer-term than just crypto service provider oversight.
In part, it’s about laying some groundwork for the economic growth of the region. Hong Kong’s economy depends largely on financial services and tourism from the mainland, both of which were hit hard by the strict COVID-19 pandemic lockdowns. It recently reported its fourth consecutive quarterly GDP contraction, and the region’s Chief Executive John Lee has vowed to prioritize attracting foreign talent. Most crypto firms based in Hong Kong left as China’s 2021 crypto trading and mining ban cast a cloud of operational uncertainty. Now, several have announced they will be applying to return.
It's also about more than just Hong Kong and its 7 million residents. Hong Kong is obviously closely affiliated with China. The two jurisdictions operate under the constitutional principle of “one country, two systems,” which separates Hong Kong’s economic administration from that of its much larger parent. But events leading up to and during the recent protests made clear to the world that China holds the reins, and that nothing happens in Hong Kong without China’s approval.
Here’s where it gets particularly interesting: China seems to approve of Hong Kong’s crypto moves.
Crypto markets play out under China’s watchful eye
Earlier last week, Bloomberg reported that Chinese officials had been seen at Hong Kong crypto events. They were not undercover. In January, Huang Yiping, a former member of the monetary policy committee of China’s central bank, said in a public speech the country should reconsider its crypto ban. He was not speaking on behalf of the central bank, but it is extremely unlikely his speech would have become public without official approval.
None of this necessarily means that mainland China will be opening up to crypto markets any time soon – but it could be that China is watching Hong Kong’s moves with a view to relaxing its stance and eventually supporting the integration of global crypto assets into its economy.
This matters, in part, because of size. There are no small numbers in China, and the sheer scale of the potential participant pool could dwarf virtually any market. The country reportedly has 212 million retail investors – for comparison, the entire population of the United States is approximately 330 million. Many of these investors have withdrawn from the stock market given the economic uncertainty during the dark lockdown period, but with the improving outlook some of the buildup of pandemic savings could be looking for high returns.
What’s more, Chinese retail investors tend to be less risk-averse than their U.S. counterparts. In general, they prefer momentum chasing to steady yields, which, in part, explains their enthusiasm for crypto markets a few years ago and why the potential risk of a wipeout grew to the stage where the government felt the need to close off access. It did not manage to completely stamp out crypto activity, however – 8% of FTX’s creditors are mainland-based, according to the filings, and China-based miners could account for approximately 20% of global hashrate, according to the most recent study of bitcoin mining published by Cambridge.
Also, China is one of the few regions of the world actively easing money supply. Earlier this month, the central bank ramped up liquidity injections while keeping the monetary policy rate steady, but analysts expect the committee to continue to cut rates in the second quarter. The number of new loans extended by Chinese banks more than tripled between December and January. Most of us don’t have to cast our memories too far back to remember what monetary easing can do for risk assets.
China vs. the US: Two different styles of gamesmanship
It also matters, in part, because of geopolitics. It is no secret that China would like to see a weakening of the dollar’s international role without actually hurting the dollar, and it seems to understand that the role of U.S. capital markets is a key factor in global trade. For a few years now financial regulators have been working to encourage more activity on Chinese markets, such as opening them more to foreign investors, enabling more hedging, streamlining onshore listing requirements and boosting trade settled in yuan.
Allowing the opening of crypto markets could, of course, encourage more flows out of the yuan, which the Chinese authorities would understandably prefer to avoid. But if crypto assets and the innovation they bring are going to be key to the development of the financial markets of tomorrow, then China would obviously want some influence. Furthermore, China is probably watching with interest the building antagonism toward crypto from Washington, D.C. If the U.S. sees crypto markets as a threat, it could be a threat worth exploring.
This is representative of the typical strategic approaches of the two economic superpowers. I once heard someone compare the relative philosophies to board games popular in each region. In the U.S. they play chess, where you win by killing your opponent’s leader. In China they prefer Go, where you win by conquering and holding onto territory. It could be that Chinese leaders see crypto assets as a territory play, with global financial markets as the playing field. Rather than an enemy to be weakened, crypto markets could be a strategic pillar of a new world order, or at the very least an opportunity to attract global capital, talent and prestige.
So far this year, analysts have been focusing on macro factors as the main driver of crypto market performance, with evolving use cases and technical speculation also a feature of the recovery. It could be that a more significant driver is slowly building on the global strategy stage – specifically, in the geopolitical rivers of the east.