Exchanges Can Lead the Way in Setting Blockchain Industry Best Practices

The blockchain industry is rightly focused on developing good technology, but it must also establish reliable industry standards and sound business practices.

Exchanges are well-placed to set such an example.

- The Role of Exchanges -

New technology will change much of the way capital markets infrastructure works but the blockchain industry can still benefit from well-established principles of the best practices in traditional finance.

The idea of a venue for “exchange” itself is principally the same whether you consider a cryptocurrency exchange or a more traditional stock or commodities exchange.

The key feature is the service: The bringing together of buyers and sellers.

It sounds very simple, but there is much more to it. Exchanges are unusual. While they are often private businesses, they also perform a quasi-regulatory role.

Exchanges set rules which govern the way that markets work and help to ensure that they are run smoothly. These rules cover which listings will be admitted, the responsibilities held by issuers, and the roles of other third-party participants, for example. Exchanges also establish the disciplinary procedures and penalties for violations of their rules and measures to appeal decisions.

They sit relatively neutral to most other businesses which can afford them, from a very different position and perspective.

Sometimes there is only one exchange in a particular country, or certainly very few, and they do not compete with other market participants in the same way. For example, brokers compete with each other, as with listed supermarket chains or hedge funds. However, they are all equally customers of an exchange which ideally should not prioritise one over another. If an exchange did favour some participants over others then, practically, how could anyone have confidence in that market? In principle, it would be unfair and wrong.

There are many theoretical and practical questions an exchange must be able to answer when setting rules for its markets.

Which buyers, which sellers? What conditions? How do you ensure everyone is being treated fairly? What is fair? What are the business continuity plans? What are the cyber safety measures? How do you ensure proper delivery of what has been bought and sold? How does a particular rule or occurrence affect everyone in the market?

In 2017, when it comes to token sales, cryptocurrency exchanges, and the use of blockchain technology, many of these questions have not been suitably addressed. Token sale platforms and cryptocurrency exchanges can look towards the experience of traditional stock exchanges and adapt their methods appropriately for better solutions.

- Why Regulation is Helpful -

The service of bringing buyers and sellers together is not just a practical point, but also of international regulation. There are many existing laws, rules, regulations, guidelines and codes of conduct for traditional financial markets. However, the same cannot be said for token sale platforms and cryptocurrency exchanges.

Gibraltar has created the Distributed Ledger Technology Regulatory Framework (DLTRF) which bridges this gap. The licencing regime is run by the financial services regulator, the Gibraltar Financial Services Commission (GFSC), and sits within recognisable, traditional structures. At the same time, the DLTRF is principles-based, not prescriptive, and affords firms the flexibility to find the right practical solutions which live up to the ideals of best business practices.

The principles laid out in the DLTRF are very reasonable. They are principally concerned with the fair treatment of customers, planning and structure, in order to help reduce risks.

Exchanges can be fully supportive of this kind of regulatory framework. It encourages in ethos what is not yet clear and certain enough to codify as law. Any of the nine principles that the DLTRF sets out would be fine examples, but let’s consider the fifth principle.

“A DLT Provider must have effective arrangements in place for the protection of customer assets and money when it is responsible for them.”

Accountability to a principle like this might have helped prevent the original attack at Mt. Gox, or at least help restore the holdings of clients who lost their bitcoins. Rules and regulations are not just about telling people what to do — they often help provide structure and encourage good business practices. There is more to running a good business than just having a good product or service. Governance, risk management, and continuity plans are just some of the other factors behind a well-run and successful business.

The Gibraltar DLTRF provides enough of a foundation to work from without stifling the ability to innovate, within responsible boundaries.

- Bridging the Gaps -

An exchange itself can bridge some gaps between the regulators and the regulated. An exchange itself is not a regulatory body but captures many aspects of one. It also has the flexibility of a private company.

There is a great opportunity for stock exchanges to bring their experience to bear, begin work on setting good business practices, and create structure and predictability to help do business in this new market.

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