South Korea Enacts First Crypto Investor Protection Law to Curb Unfair Trading Practices

In a significant move to bolster investor security in the cryptocurrency sector, South Korea has enacted its first-ever law dedicated to protecting crypto investors. The Virtual Asset User Protection Act, effective from Thursday, aims to rectify the regulatory gaps exposed by past incidents such as the Terra-Luna crash and the FTX collapse.

This new law specifically addresses unfair trading practices that have plagued the industry. It comes on the heels of proactive measures taken by South Korean crypto exchanges to prevent massive delistings in anticipation of stricter regulations.

The Act broadly defines digital assets as electronic tokens with economic value that can be traded or transferred electronically, covering a wide range of cryptocurrencies while excluding non-fungible tokens (NFTs) and central bank digital currencies (CBDCs).

To safeguard user funds, the law mandates that crypto exchange operators must deposit users' assets in financial institutions like banks. These institutions are required to offer interest rates between 1% and 1.5% on these deposits. Additionally, exchanges must store a portion of users' virtual assets in cold wallets to defend against hacking and system failures. They are also obligated to obtain insurance or set aside reserves to cover potential losses.

To enhance market integrity and protect investors, the law requires crypto exchanges to monitor and report abnormal transactions, including unusual price movements or trading volumes, to financial authorities. This step is crucial for maintaining a transparent and fair trading environment.

Earlier this month, the Digital Asset Exchange Alliance (DAXA), comprising South Korean crypto exchanges, introduced guidelines to standardize the criteria for supporting and terminating digital asset trading. These guidelines aim to reduce the risk of asset removals by conducting a six-month review of 1,333 existing digital assets to ensure compliance.

South Korea has steadily tightened its crypto regulations over the years. In March 2021, revised regulations required over 60 crypto marketplaces to register with the Financial Intelligence Unit (FIU), South Korea’s anti-money laundering and counter-terrorism financial regulatory agency. This mandate included partnerships with banks to ensure real-name accounts for transparency.

Further back, in March 2020, South Korea amended the Act on the Reporting and Use of Specific Financial Transaction Information. This amendment targeted virtual asset service providers (VASPs), requiring them to register authorized bank accounts, obtain Information Security Management System certificates, and implement rigorous Anti-Money Laundering (AML) and Know-Your-Customer (KYC) procedures.

The stringent regulations have led to significant market shifts. For instance, OKX, a major Asian crypto exchange, opted to exit the South Korean market due to the challenges posed by the new regulatory landscape.

South Korea's inaugural law to protect crypto investors marks a pivotal step in the country's regulatory journey, aiming to foster a safer and more transparent crypto trading environment. By addressing past shortcomings and instituting comprehensive protective measures, South Korea is setting a new standard for crypto regulation in the region.