ETH HK Review on the Construction, Investment, and Regulation of the ETH Ecosystem

Author: MIIX Capital

MIIX Capital international investment analyst Mark participated in the event and detailed the discussions on the future ecological construction of ETH, the regulatory environment of the Crypto industry, and the investment points in the Web3 industry. We have extracted and organized the following:

Layer 2: What Does a True Rollup Look Like

On October 23, a meeting hosted by Gokhan Er, director of IOSG Ventures, included discussions with Arjun Kalsy (Head of the Mantle ecosystem), Zhang Ye (Co-founder of Scroll), Marco Cora (Head of Business Development at ZKSync), Victor Ji (Co-founder of Manta Network), and Laura Shi (Director at ConsenSys). They emphasized the importance of infrastructure and its functions (such as sequencers and provers) as key points in the system ecosystem.

Firstly, Layer 2 is an off-chain solution built on Layer 1, aimed at reducing bottlenecks in scalability and data. Transactions are executed off Layer 1, and then data is published to Layer 1 for consensus. This way, transaction data is stored in Layer 1 blocks, ensuring that rollups are secured by the native ETH. Marco Cora from zkSync stated, "We (builders) better focus on decentralization (decentralized provers) as soon as possible to avoid being overwhelmed by attacks."

Additionally, the discussion touched on two different security models: Optimistic Rollup, which assumes transactions are valid by default and only computes through fraud proofs when challenged; and Zero-Knowledge Rollup, which runs computations off-chain and submits validity proofs to the chain to verify that the changes to the network state are the actual results of running a batch of transactions. Victor Ji pointed out that lower gas fees in Layer 2 could make online gaming possible and drive broader adoption.

On-chain and Off-chain Investments and Web3 Investment Points

Recently, the Web3 industry has developed rapidly, with London, Dubai, Hong Kong, and Singapore competing for capital inflows into Web3 projects, becoming major centers of the crypto industry. During the meeting on Web3 investment, two key points resonated strongly with attendees:

Firstly, the definition of Web3.0 is not accurate, as the financial attributes of the crypto industry are stronger. For example, Venture Smart is applying for a stablecoin license in Hong Kong and is working on a BTC spot ETF because they believe the Web3 industry is more about finance than technology. While infrastructure as a tool is important, attracting more funds from institutions and retailers is key to developing the crypto industry. This is why when engaging with institutional clients, more discussions revolve around Finance 2.0 rather than Web3.0.

Secondly, investors in the Web3 industry primarily engage in on-chain investments, project investments, and liquidity fund investments, gaining rights in payments, stablecoins, custody, staking, and finance. Currently, there are many infrastructure projects being built or already built, including a large number of neglected "junk coins" in ETH and Layer 2 projects. If ETH network builders do not focus on quality and real use cases, the next bull market may only be related to BTC projects. In the next cycle, investors will be more rational and will pay more attention to how users' actual cases in applications and products are, whether they are implemented, and whether they bring value to the industry and users.

These two points directly highlight the existing problems and drawbacks of various projects, marking a necessary path for the industry's development from disorder to order, from barbaric growth to civilized construction, indicating that the Web3 industry is gradually maturing.

Regulatory Environment for Blockchain, Digital Assets, and Decentralized Protocols

Regarding the regulatory environment of the Crypto industry, participants deeply discussed the necessity of regulation during the meeting on October 24. By comparing the differentiated policies of different countries and regions, they concluded that this poses both challenges and opportunities for the Crypto industry:

Security and Anti-Money Laundering in the Web3 Ecosystem

The Web3 industry is in a stage of barbaric growth, with immature regulatory systems. Due to the financialization characteristics of the industry and projects, various risk issues have emerged, facing significant challenges in anti-money laundering and security.

In terms of anti-money laundering, centralized projects will inevitably face huge challenges in implementing compliance, as this requires substantial costs and infrastructure demands. Decentralized projects may seem to overlook regulatory impacts, but builders should also consider the regulatory policies of their regions to avoid conflicts with local regulations.

In terms of security, decentralized projects face primary risks from malicious code on websites (such as GitHub being compromised) and the leakage of administrator privileges (private keys); centralized projects face more direct cyberattacks, especially when these projects become well-known and targets for attackers, who will seek vulnerabilities to exploit and disrupt the system.

Personal assets also face various risks, including wallet theft, referral scams, investment fraud, and phishing.

All of these require us to rely on regulation and the gradual maturity of the industry for management, avoidance, and elimination. Therefore, we builders and developers should actively embrace regulation, communicate with regional authorities, and incorporate regulatory requirements into our development plans.

Regulatory Changes and Opportunities for Cryptocurrencies

From the collapse of the Terra Luna stablecoin in May 2022 to the bankruptcy of the world's largest cryptocurrency exchange FTX in November 2022, despite the industry facing a "crypto winter," Hong Kong continues to push forward its ambition to become an international virtual asset center.

The fundamental reason for the "crypto winter" is the lack of regulation. Thus, the approach of the Hong Kong Securities and Futures Commission (SFC) is "to regulate for the protection of investors," rather than "using enforcement as a tool to promote good behavior."

Starting from June 1, 2023, retail investors can trade certain digital assets (non-security tokens, such as BTC and ETH) on licensed cryptocurrency exchanges. Licenses must be obtained from the SFC. However, the SFC is formulating relevant systems, which are expected to be implemented next year.

According to Sean Lee from the Crypto Innovation Committee, since the Hong Kong dollar is pegged to the US dollar, Hong Kong dollar stablecoins will be a perfect combination of traditional finance and Web3 projects, with stablecoins and traditional industries gradually linking to Web3. Therefore, from the perspective of large-scale transactions, projects focused on stablecoins have significant potential.

In Japan, the use of stablecoins is limited to traditional financial institutions, which are regulated and regularly audited, making it very strict; while in Singapore, it is very open and flexible; Hong Kong occupies a unique middle position. Hong Kong is both a cryptocurrency center and a potential national stablecoin center, and it should also be a CBDC center.

Conclusion

The above is a summary of the discussions on the construction, investment, and regulation of the ETH ecosystem during the ETH HK event. This event has provided us with a clearer understanding of the ETH ecosystem, industry investment trends, and Hong Kong's regional policies, and we look forward to more rich industry activities in the future.