Hong Kong is on a strategic journey to position itself as a global hub for fintech and cryptocurrency markets. Central to this ambition is the Hong Kong Monetary Authority (HKMA), which announced the launch of a regulatory sandbox specifically designed for stablecoin issuers. This move is expected to bolster Hong Kong’s reputation in the fintech space by fostering innovation while ensuring robust regulatory oversight.

The sandbox initiative, announced following the conclusion of a public consultation on Feb 29, aims to communicate regulatory expectations to potential stablecoin issuers and gather feedback on proposed requirements. The consultation, initiated jointly by the HKMA and the Financial Services and the Treasury Bureau last December, suggested that all issuers of fiat-backed stablecoins should obtain a license from the HKMA.

The sandbox is designed as a controlled environment in which companies can test their issuance processes, business models, investor protection measures, and risk management systems under regulatory supervision. Applicants must present sound business plans, and their operations within the sandbox will be limited in scope to manage risks effectively.

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The HKMA has recently revealed the first batch of stablecoin issuers selected for the sandbox: several notable fintech companies and a joint venture involving a major bank and a technology firm. These companies will conduct limited-scale tests of stablecoins in scenarios such as e-commerce payments, cross-border trade settlements, and tokenized asset trading. The trials also involve a small number of customers. During this period, stablecoin cannot be available to the public.

Hong Kong’s regulatory approach has been carefully crafted to balance investor protection with creating a conducive environment for businesses. The HKMA has retained many of the stringent requirements proposed last December, including the mandate that stablecoin be fully backed by reserve assets at all times. Issuers must publish monthly confirmations of these assets from an independent auditor.

In response to industry feedback, some concessions have been made. For instance, the minimum paid-up share capital requirement has been reduced from 2 percent to 1 percent of the value of stablecoin in circulation, with a minimum of HK$25 million ($3.2 million). Overseas issuers still need to establish a local subsidiary with key management personnel based in Hong Kong, a requirement that has raised some concerns about its potential impact on attracting global players.

Hong Kong’s regulatory framework is one of the most stringent globally, even more rigorous than Singapore’s requirements. The Monetary Authority of Singapore requires stablecoin issuers to have a base capital of S$1 million ($767,200) or 50 percent of annual operating expenses. In contrast, Hong Kong’s regulations are designed to ensure higher capital adequacy and operational stability.

Hong Kong is one of the first jurisdictions to regulate stablecoin issuers, alongside the EU and Japan. Meanwhile, Singapore and the United Kingdom are still developing their regulations, and the US has yet to implement any.

The HKMA has addressed various concerns raised during the consultation. It has clarified what constitutes eligible reserve assets and how they should be held, providing more regulatory guidance. For example, issuers must keep their reserve assets with licensed banks in Hong Kong, though the HKMA is open to considering arrangements on a case-by-case basis.

These changes reflect the regulator’s effort to balance strong investor protection with clarity and guidance for potential issuers. While the rules present significant challenges for companies, requiring substantial resources to cover legal, technical, and operational costs, they also establish a solid foundation for market integrity and investor confidence.

A finalized bill for regulating stablecoin will be submitted to the Legislative Council later this year. Additionally, separate guidelines will address money laundering risks related to stablecoin. Once the rules are set, approved stablecoin issuers can sell their tokens on virtual asset platforms licensed by the Securities and Futures Commission. Unlicensed issuers may still sell to professional investors with portfolios of at least HK$8 million.

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While many firms showed interest during the consultation, the financial pressures and stringent requirements may mean that only a few will actually apply for licenses and issue stablecoin. Finding appropriate application scenarios remains a challenge, as simply replicating existing business models may not provide a competitive advantage.

Hong Kong’s proactive approach in regulating and fostering stablecoin issuance through a dedicated sandbox underscores its commitment to becoming a leading fintech and cryptocurrency hub. This initiative not only promotes innovation but also ensures a robust regulatory framework to protect investors and maintain market stability. As Hong Kong continues to refine its regulations and attract global fintech players, the city is well on its way to solidifying its position as a key player in the global financial landscape.

The author is chairman of the Asia MarTech Society and sits on the advisory boards of several professional organizations, including two universities.

The views do not necessarily reflect those of China Daily.