EDITORIAL ANALYSIS: A turning point in crypto regulation, led by Europe

 Source: The Hindu

• Prelims: Indian Economy, Cryptocurrency, Blockchain
• Mains GS Paper III: Fiscal policy, Monetary policy, Impact of crypto on fiat currencies.

ARTICLE HIGHLIGHTS

• The Finance Minister answered a question recently in Parliament about the Indian government’s stance on cryptocurrencies. Some even suggested that there was a fresh plan to ban crypto in India.
• The Finance Minister’s answer reveals that while India’s central bank wants a ban on cryptocurrencies, any legislation for the “regulation or for banning crypto” can be effective only after significant international collaboration.
• This June, amid all the attention over inflation and the related capital market turmoil, the European Parliament and Council, the legislative arms of the European Union, came to a provisional agreement on long-awaited regulations on crypto, namely, the Regulation of Markets in Crypto-Assets, or MiCA.

INSIGHTS ON THE ISSUE

Context

Cryptocurrency:

• Cryptocurrency, sometimes called crypto-currency or crypto, is any form of currency that exists digitally or virtually and uses cryptography to secure transactions.
• Cryptocurrencies don’t have a central issuing or regulating authority, instead use a decentralized system to record transactions and issue new units.
• It is supported by a decentralized peer-to-peer network called the blockchain.

Benefits Associated with Cryptocurrency:

• Fast and Cheap Transactions: Cryptocurrencies are way cheaper to use to execute international transactions because the transactions don’t have to be handled by a series of intermediaries before they reach their destinations.
• Investment Destination:

1. There is a limited supply of cryptocurrency – partially like gold.
2. Moreover, the last few years have seen the price of cryptocurrencies rising faster than other financial instruments.
3. Due to this, cryptocurrencies can become a preferred investment destination.

• Anti-Inflationary Currency: Due to the high demand for cryptocurrency its prices have largely remained on a growing trajectory. In this scenario, people tend to hold more cryptocurrency than spending it. This will cause a deflationary effect on the currency.

Drawbacks associated with Cryptocurrency:

• Extremely Volatile: Cryptocurrencies are highly volatile assets and have acquired popularity for their unregulated nature and the risk of volatility has established concerns over the potential impact on a country’s macroeconomic stability, especially those with weak socio-economic fundamentals.
• Unregulated Nature: International Monetary Fund (IMF) had also urged El Salvador to limit the scope of unregulated assets as there are large risks associated with the use of Bitcoin on financial stability, financial integrity, and consumer protection, as well as the associated fiscal contingent liabilities.
• Paying Taxes in Cryptocurrencies: For countries like CRA, risks associated with paying taxes in cryptocurrencies would be exposed when taxes are paid using crypto assets but expenditures remain in local currency.
• Not a Definite Mechanism: Unlike equities or currencies, cryptos are not subject to a definite mechanism and are speculative assets, therefore, central banks would not have any reference point to devise their interest rates in accordance with their domestic requirements.
• Counterproductive Utility: Blockchains may help trace the transactions but not the parties involved. Hence, it could potentially be used for money laundering, terrorist financing, or other illegal activities.

How do governments view cryptocurrencies?

• Discourage the widespread use of cryptocurrencies: Many Countries have taken several steps to discourage the widespread use of cryptocurrencies.
• China and Russia banned and India taxed: While countries such as China and Russia have opted to impose outright bans on cryptocurrencies, India has tried to tax and regulate them heavily.
• RBI in favour of ban: In India, while the government has not imposed an outright ban on cryptocurrencies, the Reserve Bank of India Has been quite vocal about the need to ban them completely.
• Challenges the monopoly of central banks: Central banks are wary of private cryptocurrencies since they challenge the monopoly that central banks currently enjoy over the money supply of an economy.
• Control over economy: If Cryptocurrencies became widely acceptable,it would affect the control that central banks possess over the economy’s money supply.
• Affecting the ability of the government to fund spending: It would also affect the ability of governments to fund their spending by creating fresh money as citizens could then opt to switch to alternative currencies.

Why is crypto regarded as a seamless asset?

• Crypto is an Internet-native asset not limited by geographical boundaries.
• To transfer crypto, one does not need a pipeline or shipping container.
• A steady Internet connection and some elemental knowledge of crypto services are what are needed that will allow anyone in the world to transfer crypto assets
• Crypto assets are not issued or controlled by any enterprise.
• There are a little over 19 million bitcoins in circulation at present, out of the total capped supply (hence, the scarcity) of 21 million bitcoins.
  • Any of the estimated 75 million crypto wallet holders could be owning these bitcoins, or their fractions (called satoshis or sats).

The Regulation of Markets in Crypto-Assets(MiCA) by European Parliament:

It proposes to regulate crypto asset services and crypto asset issuers.

• Consumer protection, transparency, and governance standards: By regulating these entities, Europe intends to provide consumer protection, transparency, and governance standards, regardless of the decentralized nature of the technology.
• Liability of Crypto asset service providers: Crypto asset service providers will be liable in case they lose investors’ assets, and will be subject to European market-abuse regulations, including those on market manipulation and insider trading.
• Specific regulations for stablecoins: Under the proposed rules, issuers of stablecoins — asset-referenced tokens is the term it uses — are subject to a greater degree of compliance and declaration.
• Reserves to cover all claims of the coin: Under MiCA, stablecoin issuers must maintain reserves to cover all claims of the coins, and should implement a process for immediate redemption if and when holders seek one.

 Way Forward

• Regulation is the Solution:

1. Regulation is needed to prevent serious problems, to ensure that cryptocurrencies are not misused, and to protect unsuspecting investors from excessive market volatility and possible scams.
2. The regulation needs to be clear, transparent, coherent and animated by a vision of what it seeks to achieve.

• Clarity on Crypto-currency definition: A legal and regulatory framework must first define crypto-currencies as securities or other financial instruments under the relevant national laws and identify the regulatory authority in charge.
• Strong KYC Norms: Instead of a complete prohibition on cryptocurrencies, the government shall rather regulate the trading of cryptocurrencies by including stringent KYC norms, reporting and taxability.
• Ensuring Transparency: Record keeping, inspections, independent audits, investor grievance redressal and dispute resolution may also be considered to address concerns around transparency, information availability and consumer protection.
• Lead by Europe: Europe has shown the way forward to regulate crypto in a manner that enables responsible businesses and protects users. It would not be too long for other nations to follow suit.
• Right to privacy and data protection: The General Data Protection Regulation(GDPR) introduced a framework for seeking user consent and introduced several progressive rules such as the right to forget.
  • The Supreme Court of India has also held that the right to privacy is a fundamental right and an integral part of the right to life and liberty.
• Limited supply: The fact that precious metals are limited in supply definitely helped boost their value.But limited supply alone cannot make cryptocurrencies like Bitcoin a valuable asset like gold and silver.

QUESTION FOR PRACTICE

1. Discuss how emerging technologies and globalization contribute to money laundering. Elaborate measures to tackle the problem of money laundering both at national and international levels.(UPSC 2021)

(200 WORDS, 10 MARKS)