A tough new crypto law takes effect in Estonia later this year, but the prospect of 90% of crypto firms leaving the country is not a cause for concern, the official responsible for administering the law told CoinDesk.
With a population smaller than Hawaii's, the tech-friendly nation is one of the smallest members of the EU - but with a towering presence on the crypto scene.
Already home to digital unicorns like Wise, Bolt and Skype, Estonia could claim to host 55% of the world's registered virtual asset providers last year, thanks to an advanced regulatory system and a system that offered e-residency to entrepreneurs who had never set foot in the country.
But that could change thanks to a new licensing system passed by lawmakers in December.
"We will benefit from the new law," Matis Mäeker, director of Estonia's Financial Intelligence Unit (FIU), told CoinDesk - but he also warned that less professional companies will have to shape up.
The legislation requires crypto firms such as wallet providers and exchanges to maintain high capital reserves, be properly managed and verify the identity of their customers. Although the law took effect in March, existing companies have until mid-June to renew their licenses, for which they must submit business plans and financial data.
As of May 3, no companies had yet submitted a new application, and some have even tried to return their licenses, Mäeker said. (A spokesman later clarified that there had been a number of change requests that were now being reviewed.) Mäeker believes the documentation requirements are a problem for some.
"Every IT system that's out there should have an explanation: how it works, how it was built," he said. "To me, that's self-explanatory."
But perhaps not for some of the amateur operations run by "hippie-like" developers, he added - who, he cautioned, need to professionalize and expand their skills to keep up.
"We're telling market participants that it's not just a 'dog and pony' business," he said, adding that companies that perform functions such as deposits and payments need to manage risk the same way banks do. "They also need to have different experience and expertise as they protect customers' assets.
His message to businesses looking to register is simple: "Start early and be prepared, because we're going to ask many, many questions," he said. "For us, this is not a ticking-off exercise. It hasn't been for a long time."
Some crypto companies think it's not just thoroughness, but a conspiracy against their industry.
"The industry feels like there was a lot of arbitrary treatment" when interacting with Estonian regulators, Jerome Dickinson, chief legal counsel at OSOM Finance, said in an interview with CoinDesk.
"Regulators often find ways to delay or prolong licensing processes, or worse, threaten to declare their managers or shareholders unfit and inappropriate - not on the merits, but simply because they are involved with crypto," he added.
The "extremely high" fees for registration applications are perceived by many in the industry as "hostile to the space and a double standard" compared to fees for conventional banks, Dickinson added.
He also takes aim at the requirement for firms to appoint their own compliance officer - something that appears to be motivated by a desire to put an end to a system in which multiple firms share corporate services and even physical addresses, which is proving difficult to comply with in practice.
OSOM, which FinTech Belgium's website says offers a "secure" crypto trading algorithm "proven to generate 30-50% annual returns," has Estonian founders, suggesting real ties to the country - but Dickinson reckons many other companies will simply jump ship.
Of those that already have licenses, "the feedback we're getting in the industry is that only 50 will survive - maybe more, maybe less," he said. "Most of the rest will die out or leave Estonia.
That's a significant drop from the 381 licenses issued at the end of December. Consolidation could bring benefits as the regulator can better focus and supervise, but it could also lead to the sector concentrating on the biggest players, such as large established banks, Dickinson warned.
Mäeker takes this kind of criticism in stride. He disputes the claim that regulators automatically view a career in the crypto industry as suspicious - but added that prospective executives should not have a record of money laundering or concealing data from the government.
He said he does not have a "target number" of companies he wants to stay in the country, but acknowledges that the current number will drop; it has already fallen slightly, to 369 in early May.
In any case, a drop in numbers is not necessarily a bad thing, he says. "We want to have more control over the companies, which basically means we want them to be more present in Estonia," Mäeker said, noting crypto companies bring jobs to the country rather than simply outsourcing them behind a brass plate in Tallinn.
A January FIU study said many of the licensed crypto firms have no staff and pay no taxes in Estonia, and have few money laundering controls and alerts, even if their turnover is hundreds of millions of euros.
Mäeker doesn't share the belief of many crypto investors that they will all make it - but says the requirements for payment companies to have at least 250,000 euros ($265,000) in capital reserves provide a safety net in case the companies do default.
"Sooner or later there will be a crisis," he said, referring to rising market prices - and when there is, there will be a call for more regulation to protect investors, he said.
One can understand why he is taking this seriously. The country recently found itself at the center of an international money laundering scandal when it emerged that the Tallinn branch of Danske Bank had handled some 200 billion euros in dirty money. The war in Ukraine and the accompanying sanctions only increase the risk of illegal Russian money flowing into the country.
A positive assessment by the Council of Europe's money laundering unit, Moneyval, could perhaps help draw a line under the Danske affair. At the time of our conversation, Mäeker was in the midst of a two-week visit by Moneyval inspectors, who are primarily interested in cryptocurrencies.
Positive
Other startups are more optimistic about the scheme than Dickinson - they see it as a way to strengthen Estonia's position and credibility.
It's a "really positive" legal framework that's "clear, specific and sustainable" - and something that could allow companies to operate with ease across Europe once a new EU-level law, the Markets in Crypto Assets (MiCA) regulation, takes effect, Bernardo Magnani, CEO of Estonian crypto-banking startup Striga, told CoinDesk.
"The companies that stay will be reputable," Magnani said, adding that the new requirements are a reasonable way to weed out bad apples in the industry.
"If you were to tell me to do business with a company that didn't have proper management with experience and wasn't willing to invest capital, that would set off alarm bells," he said.
Not surprisingly, Mäeker seems to think that strict regulation could ultimately be an advantage for the sector.
"The crypto market is going to establish itself in the global community, and I think they're going to want to have a proper regulator that knows what it's doing," Mäeker said. "The stricter the regulator is, the better you can sell your services because you can say we're so closely monitored that there's no risk to the end users."
"It's a good place to start a business," he said. "But be careful: money launderers have no business here in Estonia."
UPDATE (May 6, 2022, 14:51 UTC): Mäeker's comments on the applications already received are clarified.