It turns out that there is no legal or institutional mechanism to protect customer deposits in domestic cryptocurrency exchanges. All of the four major cryptocurrency exchanges have different cash reserves compared to customer deposits. If the amount of cash held is lower than the deposit, investors may suffer damages such as inability to withdraw. It is necessary to prepare legal measures, such as “reservation reserve for customer deposits” of securities companies.
The ratio of customer deposits to cash held by the four largest exchanges in Korea is different. Upbit, Bithumb, Coinone, and Korbit, which are called the 4 largest exchanges in Korea, have the ratio of retained cash to customer deposits exceeding 100%. Upbit and Bithumb (126%) had the highest rates with the same number, followed by Korbit (104%) and Coinone (100.4%).
The reasons why exchanges have different cash holding ratios are because there are no specified standards. Cryptocurrency exchanges do not have explicit standards such as obligations or guidelines for holding cash to protect investors. All are maintaining the ratio of the exchange’s cash to customer deposits at the exchange’s own discretion.
Exchanges keep customer deposits and company funds together and treat them as company cash reserves. Customer deposit is stored in the exchange for the purpose of purchasing cryptocurrency by customer, and is the amount that investors must return if requested. In the stock market, it’s like a deposit temporarily deposited by securities companies to buy investors.
Deposits of customers entrusted to securities companies are protected by Depositor Protection Act. In addition, it is managed separately under Securities and Exchange Act, and securities companies can recover even if they become insolvent. In addition, there is a system called customer deposit reserve. Reserves for the return of customer deposits are reserves that securities companies must hold so that customers can immediately fulfill their requests for return. Securities firms are obliged to deposit this reserve in Korea Securities Finance.
Unlike the stock market, in the case of cryptocurrency exchanges, there is no separate device to protect investors. There are no regulations or guidelines from financial authorities, and no self-regulation proposals have been prepared through associations. In the event of a large-scale withdrawal, exchanges with low cash reserves cannot handle the amount of requested withdrawal. This, in turn, returns to the damage of investors.
For some exchanges that use honeycomb accounts, customer asset availability issues arise. Honeycomb account stores the customer’s assets and the company’s assets in one account. In the case of a real name verification account, the bank account management entity is in the bank, but when using a Honeycomb account, the exchange becomes the subject.
In fact, domestic small and medium-sized exchanges that use honeycomb accounts have had problems with customer funds. The cryptocurrency exchange Coinzest used customer deposits arbitrarily for tax payments due to the lack of working capital in the exchange, and stopped deposits and withdrawals for several months when the cash ran out. Coinzest CEO Jeon Jong Hak and executives have been sued by investors for alleged misconduct and embezzlement. This is the case when customer asset use is incurred due to the depletion of cash held by the company.
In addition, incidents such as fraudulent acts and planned bankruptcy by the exchanges using investors’ assets and cryptocurrencies were constantly occurring. Investors continue the legal battle, but it is unclear whether the investment will be recovered.
As the bill was revised, the foundation for the law on the protection of investors was created. As the amendment to the “Special Act on Reporting and Utilization of Specific Financial Transaction Information” passed in National Assembly in March, cryptocurrency exchanges will be introduced into the system from March next year. Details of the enforcement decree should be determined, but as the exchanges enter the regulatory framework, they must carry a role and obligation similar to financial institutions.
According to the Special Act, virtual asset operators are required to keep customer deposits and exchange assets separately. Since the customer’s assets are kept separate from the beginning, they cannot be used as company assets. However, this is also a means for financial companies to strengthen customer identification obligations, not to protect investors. Still, measures to protect investors, such as reserves for the return of customer deposits, don’t exist. An exchange official said, “Until now, there is no law related to the exchange itself, so the exchange itself has judged and acted on the protection of investors. As responsibility and obligations have been strengthened, we need clear standards to protect investors like the financial sector.”
In the process of gathering opinions for the enforcement ordinance of this Special Act, it was reported that some exchanges proposed to include the content of the ratio of cash held to deposit in Special Act. It is judged that it can strengthen AML (anti-money laundering) and protect investors by setting the ratio. An industry official said, “I think that some exchanges have suggested that this be included in the enforcement decree because AML and investor protection can be strengthened by stipulating the percentage of cash holdings. The purpose is good, but since Special Act is a measure for preventing money laundering, it can be difficult to include the related content.”
In the end, a new law focusing on protecting investors is needed. Kim Jae Jin, director of Korea Blockchain Association, said, “With Special Act, the exchange has been incorporated into the system and the foundation for new laws has been laid. But there is still a long way to go. In the future, various legal systems for markets and investors must be created.”
번역: 김동우 기자
