Japan Blazing Trail in Crypto, Blockchain Regulations

Japan has emerged as a leading force in regulatory efforts related to cryptocurrencies and blockchain and continues to fine-tune its laws to protect consumers while allowing the market to remain vibrant.

Blockchain and cryptocurrency are enjoying massive popularity in Japan and have also become a focal point for regulatory reforms as the country seeks to promote the technology and continue to set an example in terms of industry oversight, according to an article published in the ACCJ Journal, the official newsletter of the American Chamber of Commerce in Japan.

Before the Mt. Gox heist of some 850,000 Bitcoins (then valued at $450 million in total), blockchain and cryptocurrencies were left alone by regulators. Since then, however, authorities in Japan have given consumer protection priority in the crypto space.

Mineyuki Fukuda, former lawmaker from the ruling Liberal Democratic Party and a founding member of the Japan Blockchain Association (JBA), said “there were no regulations covering blockchain and cryptocurrencies” prior to the Mt. Gox calamity in 2014. The situation changed when the crypto exchange suffered that massive loss.

Fukuda added:

"We made it a rule that, if people wanted to start an exchange, they had to join the association to comply with the guidelines. And while there was no enforcement mechanism for the guidelines, members could comply with them via self-regulation."

Through the JBA, Fukuda helps bring together politicians, entrepreneurs, and government regulators to discuss rules for the industry. The organization is also credited with lobbying laws on digital currencies, as well as assistance in crafting the legislative landscape in Japan's blockchain ecosystem and pushing through the Virtual Currencies Act of 2015.

Another vital piece of Japanese legislation is the Payment Services Act (PSA), which was enacted on June 3, 2016. The law provides a specific definition of cryptocurrencies.

"Virtual currency is thought of as a payment method rather than a financial asset. It is something close to the money, without being a fiat currency,” explained Ken Kawai, a partner at Tokyo-based law firm Anderson Mori & Tomotsune.

Under PSA rules, exchanges must be registered or secure the appropriate license if they want to trade in cryptocurrencies and fiat. This provision aligns with the declaration of the Paris-based Financial Action Task Force on Money Laundering on anti-money laundering (AML) and know-your-customer (KYC) compliance.

“One of the main aspects of the registration is the segregation requirement of customers’ money or assets from that of the exchange. In the Mt. Gox example, there was no separation between the two. Under the most-recent regulations, an exchange must check daily to ensure that there is sufficient segregation between their own and the consumer’s assets,” Kawai added.

The enactment of the PSA led to an increase in blockchain and cryptocurrency activities in Japan, the article noted. The country saw a boom in initial coin offerings (ICOs) and rapid growth in digital asset classes, with even ordinary investors rushing in to join the cryptocurrency craze. This whirlwind of activity transformed digital currencies into an asset class instead of having them treated as merely a payment method.

Kawai went on to note:

“What I see is that some countries would like to create legislative structures for cryptocurrencies that are similar to those in Japan, perhaps as part of their e-government system. They are studying the rules in Japan so that they can create their own rules.”

In the latest regulatory development, Japan’s Financial Services Agency (FSA) said early this week it planned to revise the legal framework for cryptocurrency exchanges. The market watchdog is proposing to shift the regulation of these platforms from the PSA to the Financial Instruments and Exchange Act (FIEA), meaning that crypto exchanges will be following the rules set for traditional securities firms and stock brokerages, and digital assets will thus be treated as a financial product.