After the MtGox hack, Tokyo put in place tough rules that later protected FTX customers. Now, from that secure base, it’s moving to allow blockchain technologies to flourish.
More than a million investors around the world were left stranded when FTX suddenly collapsed in November with an astonishing hole, estimated at $8.7 billion, in its balance sheet. The cryptocurrency exchange and its 130-plus affiliates have been operating in bankruptcy for five months, and a new management team claims to have recovered $7.3 billion of the missing cash and tokens. Yet only one component of the company has returned money to clients.
FTX’s Japanese unit allowed all verified accounts to resume withdrawals on February 21. As of April 25, nearly 10,000 individual and corporate clients had withdrawn crypto and cash worth approximately 23.4 billion yen ($175.4 million), according to the company.
Count this as a victory for Japan’s financial regulators and the strict rules they’ve put in place to protect consumers in the wild and wooly world of crypto.
Japan cracked down with safety and soundness rules from a unified regulator after two big exchange hacks. But now, from that stable (and some in the industry would say overly restrictive) base, it’s seeking to come up with a strategy to become a leader in the collection of mostly decentralized, blockchain-based technologies known as web 3. The U.S., by contrast, has arguably been open to more innovation, but its dueling oversight agencies and lack of rules have created gaps in oversight and a culture of regulation by enforcement that makes strategic planning perilous.
Japan, an early adopter of digital assets, learned the value of regulation early and the hard way, through what remains arguably the most notorious crypto hack ever–the 2014 plunder of 800,000 bitcoins from MtGox, which had been the world’s largest bitcoin exchange. Four years later, Coincheck, another cryptocurrency exchange based in Tokyo, was robbed of $500 million worth of NEM blockchain’s xem coins.
“The drama and shakeup that the U.S. is experiencing around Sam Bankman-Fried, FTX, the Bahamas situation is not relevant in Japan,” says Sheila Warren, CEO of the Crypto Council for Innovation, a Washington, D.C.-based group that advocates for the industry worldwide. That’s because Japan has already been there and done that.
After the MtGox and Coincheck shocks, Japan’s primary financial regulator, the Financial Services Agency (FSA), tightened rules on crypto exchanges, notes Ananya Kumar, associate director of digital currencies at the Atlantic Council’s GeoEconomics Center, the think tank’s unit addressing foreign policy, finance, and economics.
The FSA’s rules include:
- Customer and company assets must be held separately, with holdings verified in annual audits.
- Investors can’t borrow more than twice their investments for leveraged trades on exchanges. (Many cryptocurrency exchanges, including Binance, allow trading at 100x leverage.)
- Exchanges must hold at least 95% of customer funds in cold wallets, which are not connected to the internet.
The measures proved instrumental in enabling clients of the Japanese subsidiary of FTX to withdraw their assets after its parent filed for bankruptcy in November. It remains unclear when other FTX clients will be able to get their money back, and how much of it they’ll get.
Japan has thus become a customer-friendly crypto haven but at the expense of stringent supervision of the freewheeling digital assets industry.
Now, Japan is building on that secure base, with a national economic strategy and a bid to lead its allies in creating rules that will effectively govern the industry.
“The FSA contributes to international policy discussion, including the one at the Financial Stability Board—an international organization that monitors and makes recommendations about the global financial system—on crypto-assets by leveraging its experience as a global forerunner in the regulation and monitoring of crypto-asset activities and markets,” the agency told Forbes in written comments.
On April 6, the ruling Liberal Democratic Party’s web3 project team, tasked with drafting crypto-focused policy proposals, released a white paper outlining several recommendations, including a call for Tokyo to take the lead.
“After crypto winter, Japan may be the first to welcome spring,” the 35-page document predicts. “As a country that has overcome many hardships in the cryptocurrency industry, we are in a position to persuade the world about the immeasurable potential of web3.”
Suggestions in the paper cover tax reform, improved accounting standards, and regulation of blockchain-based finance. There’s even a recommendation for the government to drive the conversation about digital assets at the next Group of Seven (G7) summit, scheduled to be held in Hiroshima later this month.
“While Western financial regulators appear to be single-mindedly focused on tightening regulations in the midst of what is being called a crypto winter, I assess that Japanese financial regulators correctly understand the potential of blockchain and other technologies and are working to design regulations in a forward-looking manner,” Masaaki Taira, the team’s leader and a member of the House of Representatives, said in written comments to Forbes.
In February, Prime Minister Fumio Kishida told the Budget Committee of Japan’s House of Representatives that there are “various possibilities for using web3” in Japan. He said that the Japanese government could employ blockchain-based mechanisms like non-fungible tokens and decentralized autonomous organizations to revitalize regions and promote “Cool Japan” — a national strategy aimed at promoting the country’s innovations and culture to the rest of the world that dates back to the early 2000s and echoes the U.K.’s “Cool Britannia” policies of the 1990s.
According to Taira, his team–including about 10 members of the Diet (Japan’s national legislature), six lawyers from the private sector with expertise in web3 and 10 leading Japanese digital influencers acting as advisors–works directly with Kishida and several government bodies. “The policy proposals compiled by the project team are adopted almost directly by the LDP, and a significant portion is adopted into government policy. It is an extremely powerful team,” he says.
“The way they talk about crypto is very crypto-native in terms of what the technology enables and what aspects of current regulation are just not workable,” says the Crypto Council’s Warren. “They are saying analogue regulation doesn’t work in digital environments.”
Japan does not have a long history of being hospitable to blockchain entrepreneurs. In addition to its heavy-handed regulation, Japan’s tax code is particularly hostile to the industry. It’s also hard to get new cryptocurrencies approved. After founding their gaming company Murasaki on home shores last year, Shinnosuke Murata and Shunsuke Sasaki recently decided to move their business to the Netherlands. “Why would two Japanese entrepreneurs with considerable experience starting companies in their own country go halfway around the world to set up a new business? wrote Murata in a Nikkei op-ed in October. “Simply because it just was not feasible to do so in Japan.”
With a corporate tax rate set around 30% on unrealized gains from cryptocurrency holdings, it is a real struggle to get a new blockchain-based business off the ground, Murata tells Forbes. “Suppose you issue 100 tokens each worth $1 million. Even if you don’t realize gains, you will need to pay $30 million next year. Practically no startup founders can issue a token,” Murata explains.
Major U.S. crypto exchanges like Kraken and Coinbase have recently shut their subsidiaries in Japan, citing “market conditions”. Overall, there are 37 crypto exchanges registered in the country, according to the FSA.
Additionally, the agency can take months to review proposals to list new tokens, which results in Japan’s trading market growing much slower at lower levels of liquidity than those of other countries, says Murata.
“Japan loses entrepreneurs that could build $100 million businesses because of those barriers,” he laments.
The existing framework makes it difficult for local entrepreneurs, agrees Roi Hirata, head of a new Japanese subsidiary of the Avalanche blockchain’s main developer company, New York-based Ava Labs. Avalanche’s brand recognition in Japan is exploding, Hirata says, which has prompted Ava Labs to start building a presence in the island nation. As a first step, his team has partnered with Japanese media giant GREE on a new blockchain game.
“I see a huge opportunity for both intellectual property providers and traditional businesses in Japan to adopt a blockchain like Avalanche, providing both decentralization and compliant service,” Hirata noted in an email to Forbes.
For now, its deep-pocketed tech giants that are leading the blockchain push in Japan. This year’s Forbes Blockchain 50, an annual list highlighting the best enterprise applications of the distributed-database technology, features three Japanese companies, Fujitsu, LINE and NTT.
Social media giant LINE helps create NFTs for 26 big customers including SoftBank, South Korea’s Naver search engine and Visa. According to the company, more than two million wallets have registered on its DOSI NFT platform since September. NTT Docomo, the country’s dominant mobile-phone service provider, has pledged to invest up to $4 billion in web3 infrastructure.
Electronics powerhouse Fujitsu teamed up with financial-services giants including Mitsubishi UFJ Mizuho and Sumitomo Mitsui to build the “Ryugukoku,” or the “Japanese Metaverse Economic Zone.” The initiative, announced in February, seeks to build a shared metaverse infrastructure for large enterprises.
Meanwhile, the FSA is planning to lift its ban on the domestic distribution of stablecoins later this year. The exact date and the coins that will be allowed have not been determined, but decisions are scheduled for June.
“This does not mean that all foreign issued stablecoins will be allowed without any restriction,” the agency told Forbes via written comments. “We will allow stablecoins to be handled after individual examination, if there are no problems from the viewpoint of user protection, etc. Examples include: foreign issuers in their countries being subject to the equivalent regulations as in Japan, and underlying assets being preserved appropriately.”
Late last year, the ruling party’s tax committee approved a proposal to exempt crypto startups that issue their own tokens from paying corporate taxes on unrealized gains. New proposals introduced in the white paper include tax exclusions for companies holding tokens issued by other companies that aren’t going to be traded short term and to limit taxable events only to instances when the assets are exchanged for traditional currencies.
“I think it is not only really exciting, but it’s actually paving the way to demonstrate to the rest of the world here is how you create forward-thinking flexible regulation that can navigate this tricky balance of preserving a wide space for innovation while also protecting consumers,” says Warren.
The overarching message is “Japan is back, Again.”\
By Nina Bambysheva, Forbes staff