Cobo: Becoming the Global Web3 Hub, Hong Kong's Regulation Alone is Not Enough

Author: Lily Z. King, Cobo COO

Editor's Note: An article by Cobo COO Lily Z. King was published on the South China Morning Post website on February 15, discussing Hong Kong's advantages in the cryptocurrency industry and the current environment, as well as how Hong Kong can become a global Web3 hub.

The Hong Kong Monetary Authority recently released a document regarding the regulation of activities related to stablecoins. This aligns with Hong Kong's strategy to connect the next generation of digital assets with its well-established traditional financial ecosystem—Hong Kong's core advantage in becoming a Web3 hub. Hong Kong has made steady progress in establishing a clear and comprehensive framework, so it is not surprising that there is regulation on stablecoins.

However, being a global financial center with a robust regulatory framework is not enough for Hong Kong to gain a sustainable advantage over other potential hubs like Silicon Valley, Dubai, and Singapore. Hong Kong also needs to become a leader in digital infrastructure that supports the creation and trading of digital assets, thereby attracting the best builders in the industry.

Hong Kong was once home to many well-known cryptocurrency exchanges and still has more Bitcoin ATMs than any other city in Asia. However, since 2019, due to the pandemic and cautious policies, Hong Kong's position in the global cryptocurrency industry has declined.

Missing out on the cryptocurrency industry's wild boom and bust may not be a bad thing. FTX, founded in Hong Kong and later moved to the Bahamas, ultimately triggered a multi-billion dollar financial disaster that collapsed the entire cryptocurrency industry. Cryptocurrency mining companies that chose to list on Nasdaq rather than the Hong Kong Stock Exchange are now mostly in financial distress and facing severe criticism for their negative environmental impact.

The cryptocurrency industry has entered a reset mode, which gives Hong Kong a great opportunity to redefine how a Web3 hub should operate.

This year, we have seen more signs that the Chinese government views blockchain and digital assets as potential sources of economic growth. Hong Kong has gained support to explore a path of innovation and global integration that is not constrained by mainland policies. Meanwhile, following the collapses of FTX and Genesis, the U.S. and Europe are tightening their cryptocurrency regulations. This may lead to more activities around digital assets shifting eastward—making it a good time for Hong Kong to regain its influence.

As one of the world's strongest capital markets, Hong Kong's well-established financial regulatory framework and top financial and tech talent are significant advantages. With its mature capital market, Hong Kong's digital asset industry is also a unique blend of technology and finance. This makes it an ideal place for creating real-world blockchain applications, especially in asset tokenization.

The Hong Kong government's goal is to create a favorable environment for collaboration between the public and private sectors. When government agencies, financial institutions, tech giants, and native cryptocurrency builders work together, digital assets have the potential to better integrate into the real-world economy and create impacts that extend beyond the virtual world.

Hong Kong can also leverage tech entrepreneurs from mainland China. Chinese internet companies that have created Web2 products comparable to leading Western firms still possess a wealth of expertise related to digital assets and Web3. Chinese Web2 giants listed in Hong Kong, such as Tencent, Alibaba, Bilibili, and Baidu, are already experimenting with digital assets. Hong Kong may be the nurturing ground they need.

However, Hong Kong also faces challenges in becoming a Web3 hub. One is that the existing regulatory framework designed for traditional assets may not be suitable for rapidly evolving digital assets and cutting-edge technologies.

The principle of "same business, same risks, same rules" in Hong Kong's digital asset regulation means that traditional financial regulations also apply to digital assets. The high barriers to obtaining licenses have made it a playing field more favorable to mature institutions. Innovation often comes from unpredictable "grassroots" levels, so creating space for bottom-up innovation is an urgent issue that needs to be addressed.

Moreover, fundamentally, Web3 is a technological movement, but Hong Kong does not have the same resources as tech centers like Shenzhen or Silicon Valley. Therefore, Hong Kong also needs differentiated technology infrastructure aimed at digital assets.

The security of digital assets differs from that of traditional assets. Their on-chain characteristics mean that digital assets cannot rely on a closed security system like traditional finance. Licenses or regular audits cannot ensure the safety of customer funds on centralized platforms. Advanced technologies like multiparty computation are needed to give asset owners complete control or shared management of their assets.

What kind of Web3 infrastructure does Hong Kong need to develop? Given the significant losses suffered by retail investors last year, 2023 will be more promising for institutional business. Digital assets are primarily held by exchanges, mining pools, investment funds, and other institutions. To reduce the risks of centralized platforms, a large portion of these assets will ultimately be transferred to custody platforms that adopt the latest technological solutions.

More importantly, to comply with new regulations, institutions also need solutions that enable distributed private key management and fund segregation. Custody, institutional wallets, and digital security are just some examples of the infrastructure needed in the digital asset ecosystem.

The spectacular boom and bust cycles of the cryptocurrency industry over the past three years have shown us the potential problems that can arise. Hong Kong is in a favorable position to learn from all these lessons to establish a Web3 hub with an appropriate regulatory environment and technological infrastructure, promoting innovation while managing risks.