Ahn Chan-sik, who leads the Tech and Comms practice at law firm Hwang, Mok, Park, briefs investors and reporters on the regulatory landscape for cryptos on Monday. Photo Andrew Salmon

In terms of trading volumes, the Korea crypto currency market is in the world’s top five, but its free-wheeling days may be numbered: As Seoul mulls various models and formats for legislation, the risk of volume suppression, and even a takeover by chaebol – the giant conglomerates that dominate the Korean economy – is rising.

Ahn Chan-sik, who leads the Technology and Communications practice at Hwang, Mok, Park, a leading Seoul law firm, noted in a briefing to investors and reporters on Monday that despite last year’s shock announcement by the Ministry of Justice of a ban on crypto trading, the market is – for now – operating largely as it did.

“We were very surprised,” by the government announcement last September, Ahn said. However, with no extant legal grounds to suppress the new market’s activities, other ministries pushing back and with parliament preparing legislation of its own, trading continues. Currently, crypto currencies in Korea operate in a state of “deliberate ambiguity,” Ahn said: They do not fulfill the legal requirements of a security, a currency, a financial instrument or even an asset.

This situation provide fertile ground for lawyers. Ahn’s practice at HMP helps those planning initial currency offerings (ICOs) to navigate through the regulatory web so their crypto does not fall subject to securities law – or other related laws. “ICOs are very careful to get out of the way of securities laws, under any jurisdiction,” he said. “You have to take a case-by-case approach – it requires a very sophisticated analysis.”

On the converse, Ahn is also advising government entities involved in drafting legislation.

Seoul’s focus remains on the exchanges. “ICOs take on many forms, they are very hard to regulate,” Ahn said. ‘But exchanges have to have a website, they are entities, so they are easy for the regulator, they are the first target,” he said. Currently, the only regulations crypto exchanges have to satisfy in Korea are those under Mail Order Distribution regulations, meaning, essentially, that “they are unregulated businesses,” Ahn said.

Ministerial turf squabbling has fueled confusion. Justice considers crypto trading gambling; Finance takes a different view. “The Ministry of Finance has to promote blockchain, and cryptos are the blood of blockchain,” Ahn said. For this reason, he expects the government to, eventually, permit ICOs – albeit “with limited conditions.”

Of particular sensitivity is a fear of capital flight. “The Korean [regulatory] mindset is very strong on forex regulation, it is very concerned about funds going out of Korea,” said Ahn. “But blockchain is a disruptive technology, it is opposed to the principle of regulation…the beauty is anonymity; you can see the flow of transactions, but you can’t see who is doing it.”

A likely channel for the imposition of regulation – and capital gains tax – is banks, Ahn speculated. Punters who cash out need bank accounts when they convert to fungible currencies.

“Regulators can take advantage of the Anti-Money Laundering Act and use banks [to control cryptos], as an interim measure,” he said. “That is the point where regulators know the source of funds, and can tax those.” The likelihood of anti-laundering regulation being applied to crypto is “100 percent,” Ahn said.

Legislative benchmarks are varied. The leading territories for pro-crypto legislation, Ahn noted, are Switzerland, Gibraltar and Estonia. The most repressive is China, which has banned all ICOs and trading. The USA, Hong Kong and Singapore fall in the middle of the spectrum. However, it will be Japan – from which Korea inherited both its industrialization blueprint and its legal system – that is likely to provide the model, Ahn suggested.

Spiraling prices

Last year, even though securities companies did not invest, Korea seized global headlines as the crypto market with the world’s highest trading volume and spiraling prices – “The Kimchi Premium.” Remarkably, this tsunami of volume and storm of volatility was largely driven by young Koreans in their 20s and 30s.

As a byproduct of Korea’s economic maturity, and due to offshoring by chaebol, the giant, family-run conglomerates that form the economy’s top layer, young Koreans face significant barriers accessing white-collar jobs and attendant financial security. The prospects enjoyed by their parents’ generation, which benefitted from fast growth, have evaporated.

These factors are among the reasons many young Koreans dub their country “Hell Joseon.” Joseon is a traditional Korean kingdom.

However, the nascent crypto market offers low entry barriers to startups with the appropriate technologies, and to punters with minimal funds who can’t afford traditional investments, such as real estate and equities.

Personal technology is another factor. “Koreans are used to mobile, and blockchain is very adaptable to mobile,” Ahn said. Moreover, in super-communal Korea there is fear of being left behind – particularly as stories multiply of players getting rich quick, while risking little.

But in a nation where startups face a clunky financial system that does not reward risk takers and punishes failure, one downside to the crypto frenzy may be that it is sucking money away from startup capital sources. “The amount of money invested in ICOs exceeds the amount invested in venture capital,” said Ahn. “Some say it exceeds the amount invested in KOSDAQ” – Korea’s second largest, and tech-heavy, stock market.

However, young Koreans are not the only players: It may well be Chinese money that is inflating the “Kimchi Premium,” suggested an American investor.

“A ton of buy pressure had to come from China,” he told Asia Times on condition of anonymity. “As China stopped trades, Chinese were coming to Korea, buying up cryptos and pushing up the volume and the premium.”

Chinese-Koreans form the largest ethnic minority in Korea, and the largest expatriate population.

Pros of predictability

The Moon Jae-in administration, which ran partly on an anti-big business platform, has proven sensitive to noise from the young demographic, which let out a collective yelp when Seoul announced last year that it would ban crypto trading. The government talked that back; thus far, the only significant regulation passed has been a ban on foreigners trading.

Ahn expects regulatory sense to prevail: Bureaucrats in the ministries, responsible for regulation, are not the only players. Parliament looks likely to sponsor a crypto act, and with politicians needing to be responsive to public sentiment – local elections are looming in June – lawmakers from at least three parties are preparing bills. “The National Assembly is moving in the direction of crypto-friendly regulation,” Ahn said. “They want to stop fraud and Ponzi-type schemes, but that is a reasonable approach.”

And regulation is not entirely negative.

A more stable market would encourage a related eco-system – consulting units, crypto ratings agencies, etc – to appear. Moreover, once legislation, which will bring elements of transparency and predictability into play, is in place, the country’s dominant economic players would likely enter, upping the premium. Ahn admitted to meeting with at least one top five chaebol.

Now chaebol are forbidden to own banks, but run securities firms and tech companies. Brokerages are currently not in cryptos, but are “taking a wait-and-see attitude,” Ahn said. When it becomes clear what shape the regulatory landscape will take, chaebol will likely wade in. “Chaebol will probably set up tech subsidiaries to enter the market,” Ahn said. “The exchanges could be dominated by the big boys, the chaebol…that could create a new wave of centrism.”

Regulatory risk is another factor, for Korea maintains a notoriously heavy hand on finance. The Morgan Stanley Capital Index classifies Korea as a “developing” market due to the won’s lack of tradability. Short selling is permitted in equities, but only grudgingly. Seoul’s derivatives market formerly had the highest trading volume on earth, but when regulators suppressed volatility, the market lost much of its cachet.

“Government here has made explicit what its primary concerns are, and it is not a freewheeling market,” said Hank Morris, a long-term financial analyst in Seoul. “The overall concept is always stability in the financial markets.”

Increased regulation might lure traditional, big players into the market – but might push risk-tolerant, small players out.

For example, with officials mulling the application of bank-level security systems onto crypto exchanges, small players would be forced to exit due to pricing. “This would be good for users, but blockchain is about startup capital,” Ahn said. “”If you impose high-level security it would act as an entry barrier to startup exchanges with good technology and no capital.”

Citing stability, the government has suppressed sub-sectors of the local market before.

“The futures market has mostly moved sideways in recent years and that creates limited opportunities,” said the American investor, who was previously engaged in derivatives. “Crypto now is very up and down, the technology is very interesting, and Koreans have money – you can see hundreds of thousands of dollars moving in a single trade.” But conflicting government announcements have been “scary,” he said. Korean crypto trade volume downshifted from the world’s number one to three or four in reaction.

A worst-case scenario could shove the entire sector beyond Seoul’s regulatory reach. “If there are fewer regulations overseas, all players will go overseas – the so-called ‘Korea Passing,’” Ahn said. As Korean law can be applied extra-territorially, this possibility could even lead to Korean investors being barred from overseas ICOs, he said.

And even under present circumstances, legal battles between investors and service providers are on the horizon: Early ICOs came with terms and conditions, and if those ICOs fail to perform, down the line, they will be subject to suits. “I would guess that in 3-5 years, there will be a lot of legal disputes,” Ahn said.