Clampdown On Cryptocurrency
The domestic cryptocurrency market has gone into a tizzy. All fingers point at the RBI and the finance ministry
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Ever since it was invented 10 years ago as a panacea for the excessive use of fiat currency, cryptocurrencies have been disrupting the global financial ecosystem. It has even created ripples in the digital world — and beyond. It has lured investors with the promise of making easy wealth. It has invited anarchists with the idea of a new way to exchange goods in the ever-evolving econorama. And it has given regulators and governments all over the world sleepless nights because it tends to undermine local legal currency if people turn to cryptocurrencies for day-to-day transaction.
In these 10 years, they (there are many varieties) have acquired a market worth over $269 billion, and new cryptocurrencies are not only being introduced every day but digital-mining farms — using massive computing and electric power — have sprung up across the world to create more and more such digital currencies. There are 1,566 cryptocurrencies trading in many of the world’s unregulated exchanges — with bitcoin itself, the popular one among them all, valued at about $160 billion.
And it is no surprise, over the last few years, many Indians have ventured into the world of cryptocurrency investing. A recent report notes that there are more than two lakh cryptocurrency investors in India, and the number is growing (unofficial estimates suggest a far fuller figure). Online exchanges have reportedly been fast adding digital currency enthusiasts because of the frenzied speculation and price-rise in these currencies.
Naturally, the Ministry of Finance and the Reserve Bank of India (RBI) have come down heavily on cryptocurrency dealers and investors. A RBI diktat released on 6 April warned banks about companies that deal in cryptocurrencies. “In view of the associated risks, it has been decided that, with immediate effect, entities regulated by the RBI shall not deal with or provide services to any individual or business entities dealing with or settling VCs (virtual currencies),” the release stated.
The RBI’s diktat to clamp down on cryptocurrency comes as a prelude to RBI’s intention to launch its own blockchain-based exchange. In fact, RBI plans to launch its own digital currency in the next six to 12 months, according to sources. This was hinted by the deputy governor of RBI, B.P. Kanungo during a media briefing recently, where he said, “Several central banks are debating the possibility of introducing a fiat digital currency. As opposed to private digital tokens, these are issued by a central bank. They constitute liability of the central bank, and they will be in circulation in addition to the paper currency that we have.”
Earlier this year, Finance Minister Arun Jaitley categorically stated that cryptocurrency will not be recognised as legal tender.
Little surprise then, that the RBI has clamped down on crypto-exchanges and dealers. B.P. Kanungo, deputy governor of the RBI said: “We have decided to ring-fence RBI-regulated entities from the risk of dealing with entities associated with virtual currencies. They are required to halt forthwith business relationships with entities dealing with virtual currencies and unwind existing relationships within three months”.
This drastically disrupted the domestic cryptocurrency market, with investors and traders selling off their crypto-assets and spreading panic among crypto-users. Is the RBI’s move over-done? Is cryptocurrency such a bad idea? And what does the RBI diktat actually imply? Is it the death knell to cryptocurrency in India? How much money is actually stuck in the Indian crypto-economy?
RBI Diktat: Ban Or Not?
Depending on whom you ask, the estimates of the amount of cryptocurrency locked in accounts of Indians ranges from one end of the spectrum valued at $10 million to another of $25 billion. The other problem in cryptocurrencies is that there are so many currencies that it is impossible to keep a regular tab on these currencies. So, it is no surprise that RBI has effectively come out with a diktat banning banks from dealing in cryptocurrency companies, which is one way of controlling a market, where it is getting difficult to control.
One recent report suggests that Indian domestic cryptocurrency market is worth $2 billion, and the report also mentions that most of this ‘investment’ has not come through normal banking channels, but through other channels. “The diktat of the RBI allows three months so that no money is stuck. After that, “slack” channels, “telegram” channels and websites such as LocalBitcoins.com will still be active to trade and convert to local currency,” says Abhinandan Jain, co-founder, Product and Marketing, FSpay, a crypto-payments platform.
So far, the government has not ‘banned’ cryptocurrency. However, the government has often cautioned people in the past in dealing with cryptocurrencies. In a notification, the finance ministry said: “There is a real and heightened risk of (an) investment bubble (in virtual currencies) of the type seen in ponzi schemes which can result in (a) sudden and prolonged crash exposing investors, especially retail consumers, losing their hard-earned money. Consumers need to be alert and extremely cautious as to avoid getting trapped in such ponzi schemes.”
Now. the RBI has also stepped in to stop local exchange of cryptocurrencies to fiat currency through normal banking channels. “By distancing FIs from digital-currency operators, the RBI is trying to arrest the easy flow of the rupee to cryptocurrency,” says says Praveen Kumar, founder of Belfrics Global, a cryptocurrency company Kumar says that this action will not help much. For in order to transact in digital currencies, an exchange is not a must. “After this action, a cryptocurrency transaction will completely move to a peer-to-peer market in India,” says Kumar.
“The effects of the RBI decision have yet to be seen. Traders are still waiting and watching from the sidelines, but this will change soon once banks begin to act on the RBI’s direction,” says Anirudh Rastogi, Managing Partner, TRA Law. “A large number of withdrawals could cause a run on the exchanges and a sharp drop in prices,” he adds.
How Deep Is The Morass?
The global cryptocurrency market is worth $250 billion. “While exact and reliable figures have yet to be made known, sources have indicated that transactions worth more than $3.5 billion have been conducted over a year-and-a-half. You may also recollect that it was widely reported that the income tax department recently sent tax notices to over 1 lakh people, those who did not include their cryptocurrency investment in their income tax returns. However, there are hyper-speculative theories on valuation,” says GV Anand Bhushan, Partner & Head – Chennai, Shardul Amarchand Mangaldas & Co.
But are crypto-enthusiasts likely to stare at a gaping hole in their wallets if they are not able to unwind their holdings? Experts such as Pramod Emjay, a blockchain consultant and cryptocurrency expert, avers that people will not still be able to unwind their holdings in the crypto markets. “The exchanges are still operational and the OTC markets unaffected. The only people who lost are those who panicked and sold when the announcement was made. The price plunged about 25 per cent but is now recovering,” he says.
With the RBI giving banks three months to stop dealing with companies that handle cryptocurrencies, the implication is that there is enough time for such cryptocurrency dealers to unwind holdings. “None of the money is stuck due to RBI’s recent circular. Trading is happening on exchanges and will continue for the next three months till these new rules come into effect and banks discontinue their services,” says Varun Deshpande, co-founder of Nuocoin, a cryptocurrency company.
Further, Deshpande says that trading isn’t banned in India, but its conversion to local currency is banned. “Only conversion from cryptocurrency to fiat money will not be possible due to ring-fencing policies. This means that those who have cryptocurrencies can trade on exchanges without any fiat money involved and pay using cryptocurrency to avail of global products and services,” Deshpande notes.
Needless to say, the repercussions of the ban in converting cryptocurrencies are being felt on Indian exchanges. Some in the cryptocurrency market say that a huge amount of money is stuck in the Indian cryptocurrency market. Mitthan Meena, Founder and CEO, Laxmicoin, says, “Cryptocurrency in India was just taking off and the RBI’s diktat that there can be no trading of cyrptocurrency in India has resulted in nearly $12.5 billion being stuck.”
“In India, our belief is that there are 3 million-4 million cryptocurrency owners and they are not limited to bitcoins. There are about five million people who are already registered on all cryptocurrency exchanges across India and about 1 lakh active traders daily, with 2 million-3 million who hold some cryptocurrency in their crypto-wallets. There is no absolute figure but it could be in thousands of crores,” says Vishal Gupta, Founder of Binex.Trade, a cryptocurrency exchange.
Complementing Gupta’s views, Sathvik Vishwanath, co-founder and CEO, Unocoin, says, “We are not sure how much money is invested in cryptocurrency, but we believe there are about five million users in India who are into cryptocurrencies. An average customer purchases cryptocurrency worth about Rs 30,000 on Unocoin. That essentially means at least a few billion dollars worth of cryptocurrencies could have difficulty in exiting due to the RBI’s new stance”.
Shivam Thakral, co-founder and CEO, BuyUcoin, concurs that. “It is difficult to quote the exact figure of the amount invested at the moment. However, it is interesting to see five million users with trading volumes of Rs 10,000 crore in January on cryptocurrency exchanges.”
The RBI’s move has also been criticised by experts such as Pavan Duggal, a Supreme Court advocate. “There is no scientific calculation of how much money has been invested in cryptocurrencies in India. However, it could easily run into thousands of crores,” he says. “Thousands of crores of Indian rupees have been stuck in cryptocurrencies. This is all thanks to a very uncertain and tentative approach adopted by the authorities. India needs to make up its mind on cryptocurrencies before coming out with measures which can affect not just a large number of bonafide customers but also impact growth of cryptocurrencies,” says Duggal.
No one knows how much money is invested in which country. And no one will ever know that. Essentially, that is the idea behind ‘crypto’currency; and the grey zone in India is the reason for no reliable figures. However, according to Sahil Shah, a cryptocurrency consultant and investor, withdrawing on known exchanges is still possible. “For others, there is the foreign route through which one can send bits to foreign exchanges and have the money remitted. So, there are temporary pains but no one’s money has really been stuck,” says Shah.
Global Regulation Outlook
India is not the first country to take such drastic measures against cryptocurrency. China is another major country to have banned it. But banning creates another unique problem. Cryptocurrency exchanges and miners tend to move and establish exchanges, etc., in countries where such trading is allowed.
Another problem that countries are facing is whether to actually ban cryptocurrencies especially when some countries (including India) are mooting the idea of launching their own legitimate cryptocurrency. For instance, China announced that it will introduce a digital currency backed by its central bank. Similarly, Ecuador, which banned bitcoin in 2014, is planning its own digital money. Russia, for instance, which had initially banned bitcoins in 2014, has officially published a draft federal law on digital financial assets. Taiwan has signalled that its central bank will be regulating the trading of cryptocurrencies under its anti-money-laundering laws.
“India now has the dubious distinction of being a reference nation for Pakistan, which has followed suit in banning crypto-exchanges from fiat cash. After cash-out has been restricted, most currency movements go peer to peer and over the counter, as for example in China. This is not a good thing for anyone,” says Aditya Dev Sood, founder of Startereum.
“It seems to have hit the regulatory roadblock in various markets, the latest being India. The ban, however, is different in different regions,” says Rahul Raj, Founder of Koinex, another cryptocurrency company. “In the US, for example, there is no coherent decision yet on cryptocurrency regulation while Canada does not give cryptocurrencies a ‘currency’ status, but is welcoming about the crypto market. So is the case with regions such as Switzerland, Australia and Russia, which are open to the growth of the crypto-industry. In most cases where countries have tried to curb the crypto-market, such crypto-exchanges have moved to neighbouring markets where the environment is more conducive”.
Advocate Duggal says that other countries dealing with cryptocurrencies being banned are trying to come up with appropriate mechanisms to protect customers from potentially huge price variations in the cryptocurrency market. “In that regard, stringent penalties have been proposed and are being implemented. On the other hand, there are countries which legalise cryptocurrency mining and want to rely increasingly upon the boom in cryptocurrencies as the vehicle and catalyst for further growth,” adds Duggal. Nevertheless, there are no established principles in this regard. “Countries need to quickly understand the legal, policy and regulatory risks and challenges concerning cryptocurrencies and move forward and address them in a balanced manner, yet simultaneously ensuring that the rights of consumers are appropriately protected,” says Duggal.
Cryptocurrencies In A Limbo
Effective legislation, KYC norms and shifting their base to more lenient and conducive regions have been cited as ways through which existing operators and investors can proceed with respect to cryptocurrency. “No doubt, most governments are still attempting to understand not only the nuances of blockchain and cryptocurrency, but also the implications,” says Shardul Amarchand Mangaldas & Co’s Bhushan.
“Effective legislation on digital currency trading, cyber security
and data privacy will ensure that the use and trading of cryptocurrency is not for illegal ends,” adds Bhushan.
Thus banks and companies across industries are considering how to fit digital currencies into their business models while bearing in mind the abundant caution that must be exercised. “The assessment of cryptocurrencies, their underlying technology (blockchain) and their regulation will have a huge impact on markets, asset classes and individual companies,” says Bhushan.
“The RBI could have chosen to make KYC and anti-money-laundering policies mandatory, which many of India’s large crypto-exchanges have themselves been implementing for a while. They could have mandated a grievance-redressal mechanism, and probably even guidelines for what these policies and procedures should look like,” says Nehaa Chaudhari, who heads public policy at TRA, a technology law and policy firm that advises on cryptocurrency and initial coin offerings (ICOs).
Denying formal banking channels will move crypto-transactions to the informal economy, where it will be impossible to monitor any use of CCs including for illegal activities, or enforcing regulations, adds Chaudhari.
Duggal is of the view that the way forward for the government is to take a very studious and balanced approach on cryptocurrencies while considering not just the legal, policy and regulatory mechanisms and issues and challenges concerning cryptocurrencies on one hand but also the associated risks. “Clearly, just because some portion of cryptocurrencies has been used for cyber crime, terrorist purposes and other illegal activities does not mean that India needs to outlaw cryptocurrencies completely,” points out Duggal.
“As a nation India needs to understand that we do not need to throw out the baby with the bath water. We need to understand how we can best use cryptocurrencies as a catalyst for the growth of the Indian economy,” says Duggal.
Duggal points align with the globally held view of virtual currency. India needs to quickly understand that the future belongs to virtual currencies and cryptocurrencies. “We need to come up with appropriate mechanisms to limit the potential risks and dangers of cryptocurrencies on the one hand and ensure maximum consumer protection of bonafide consumers on the other. This is no mean task and there will have to be a very fine balance that will have to be achieved by any government. However, what that specific balance is would depend on not just the priorities of the government but also on the social and economic model of the country. There should be a need to take a holistic view of cryptocurrencies before we proceed,” adds Duggal.
Regarding the way forward, Raj, founder of Koinex, says, “If you look at how crypto-exchanges operate with strict KYC compliance and accountability for all transactions on the platform, they create a legitimate business environment.
Similarly, the government could look at a larger regulatory framework for the entire sector. This would have been more progressive and beneficial, rather than this ring-fencing approach. At present, the crypto-industry is unified and hoping to deliberate with regulators for a realignment of strategy with a regulated and inclusive eco-system. This knee-jerk move by the RBI has disrupted the market and we fear that the panic will lure traders to under-the-table deals or direct cash transactions, which cannot be monitored or accounted for, and might encourage black market trade. As an alternative, most exchanges might choose to move their base out of India, while traders could use the time allotted by the RBI to trade wisely with their crypto-assets,” a view held by Mitthan of Laxmicoin, especially with regard to KYC.
According to Rastogi of TRA Law, while the RBI may be right in being concerned about illegal activities and money laundering, “these concerns are accentuated with cash (which is what the RBI now intends to be used for trade in cryptocurrencies) and are true of all other kinds of transactions”. Such concerns, adds Rastogi, are addressed by imposing KYC obligations, implementing AML procedures and reporting requirements for all other transactions and could have been addressed in the same way with respect to cryptocurrencies. Any restrictions broader than what are required to achieve the reasonable objectives of the law infringe upon the fundamental right to trade and to equal treatment under the law provided by the Constitution.
Another Legitimate Way Forward?
Amid all this mayhem, The Institute for Development and Research in Banking Technology (IDRBT), an arm of the RBI, is developing a model platform for blockchain technology, which is the most talked about and researched area in the banking and financial sector globally. People generally use a trusted third-party such as a bank for most transactions. But blockchain removes the need for a third-party by directly connecting customers and suppliers on the same platform.
As Praveen Kumar, Founder of Belfrics Global, another cryptocurrency company puts it: “The government accepts blockchain is a revolutionary technology and is the way forward. But blockchain as a technology can’t work without cryptocurrencies unless it is a privately-funded network; hence, killing cryptocurrency would equal killing the growth of public blockchain in India. The alternative would be to regulate cryptocurrencies and ICOs with a framework, and taxation guidelines to prevent laundering and misuse. This will help India to be one of the leading countries in the blockchain revolution as we have many talented start-ups in India working on it. If not, most of the start-ups will shift base abroad, leading to a massive brain-drain.”
Whatever the case may be, it is abundantly clear that despite the RBI’s diktat, cryptocurrency is here to stay, and will continue disrupting economies backed by fiat currency, and usher in a new age of digital, decentralised currencies running parallel to the conventional economy. It is up to India whether to accommodate this paradigm shift, or be left behind.