In April of 2023, CEO of Coinbase Brian Armstrong indicated that he might take the centralized exchange to a different country.
He cited unfavorable crypto regulation and regulatory uncertainty as the reason.
This phenomenon is called Regulatory Arbitrage.
Regulatory arbitrage refers to the practice of taking advantage of differences in regulations or laws in different jurisdictions in order to gain a competitive advantage or reduce costs. This can involve, for example, choosing to do business in a country with less strict regulations or moving operations to a jurisdiction with more favorable tax laws.
If you’ve ever heard of arbitrage in the financial markets, then you can grasp the way it’s done on some scale.
In trading, arbitrage is to buy and sell a financial instrument at the same time in an attempt to generate a profit from the difference. In the corporate world, it’s a bit different.
In a global financial landscape, institutes have latitude in the way that they do business or structure financial transactions, paving the way for savvy players to manipulate the playing field to their advantage. It’s not even illegal, and regulators are well aware that it happens. However, from a moral perspective, regulatory arbitrage pushes the envelope. And while policymakers may not be able to quash it entirely, they maintain that they’re trying to reduce the instances of regulatory arbitrage in the banking system and beyond.
Banks are a major player in regulatory arbitrage. Rather than face the heightened regulatory requirements that were added in response to the Great Financial Crisis, like Dodd-Frank in the U.S., they’ve played dodgeball with the rules.
However, if you think about it, banks have been crying foul for years over the lighter regulation and capital costs that their fintech rivals must follow. So one argument around regulatory arbitrage is that fintechs are doing it, providing the very financial services that banks have been known for without having the same compliance, legal and oversight costs as legacy financial institutions.
The cryptocurrency industry has also been accused of performing regulatory arbitrage. However, the genesis of the cryptocurrency and blockchain industry isn’t to sneak around the rules. The idea is innovation with a decentralized system that is so transparent and self-contained that it abides by its own trustless standards.
Depending on the type of company, regulatory arbitrage can take several different forms. Let’s explore some of the ways it’s done.
In reality, a truly global financial system in which there’s harmony across the regulatory landscape is not likely to happen. As a result, companies that want to play by their own rules will be able to find a way to do this through regulatory arbitrage. The finance industry has innovation on its side and therefore will likely be able to outsmart the regulation even as the rules are being rewritten. Companies aren’t going to stop looking for the lowest regulatory cost for transactions, and as long as they do, regulatory arbitrage is probably going to stick around.
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Gerelyn is a financial journalist who has been covering Wall Street for more than 20 years. After reporting for some of the top trade publications on investment banking, infrastructure and retirement, she was drawn to decentralization and shifted her coverage to the blockchain and cryptocurrency space in mid-2017. Since then, she has contributed to several major Bitcoin, Blockchain, and DeFi news sites, and has also written a children’s book.
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