[Ayush Raj is a second year law student at Maharashtra National Law University, Nagpur]
Ever since the invention of bitcoin in 2009, it has been criticised for illegal transactions, high price volatility, and terror funding. Cryptocurrencies work on the blockchain technology having a peer-to-peer network. The recent popularity of bitcoin and its surging prices has initiated a whole new debate regarding its acceptance, governance, and, legality. The market value of bitcoin has experienced tremendous growth of more than 300% in a year. Additionally, cryptocurrencies are not fiat currencies and governments lack the power to either issue or destroy it, and their contribution does not reflect in a country’s monetary policy.
The global position of cryptocurrencies
Countries like China, UK, Singapore, and, India have either launched a Central Bank Digital Currency (CBDC) or scanning potential possibilities in this regard. El Salvador is the first country to accept bitcoin as an official currency and can prove to be a case study for the entire world on the adoption of cryptocurrencies and their accommodation with traditional currencies. Additionally, the huge potential in this new-age currency has led to collaboration between the World Bank and the International Monetary Fund for launching a blockchain-based quasi cryptocurrency system.
India’s take on cryptocurrency: Analysis of Legal and legislative developments
The Reserve Bank of India (RBI) issued a circular banning all private crypto players in the Indian market after its analysis. Thereafter, in Internet And Mobile Association of India vs. Reserve Bank of India, the Supreme Court of India quashed the notification of the RBI and held that the central bank failed to show any statistics on how virtual currencies are harming the banking system. The circular was said to have failed the doctrine of proportionality as there was no rational nexus between the blanket ban on cryptocurrencies and its relation to the alleged threat to the banking system. The Court further declared the circular to be violative of Article 19 (1)(g) of the Constitution of India. This judgment lifted the ban on digital currencies and as a result, investments and transactions in bitcoin also saw a prodigious rise. However, the recent Bill on the regulation of cryptocurrencies that is to be tabled in the parliament seeks to clarify India’s clumsy stance on cryptocurrencies. The Cryptocurrency and Regulation of Official Digital Currency Bill, 2021, bans private cryptocurrencies and seeks to launch a CBDC backed by the Reserve Bank of India.
Decoding CBDCs of the proposed Bill: How will it neutralize the volatility of the cryptocurrencies?
Unlike private crypto, CBDC is regulated by the country’s monetary authority and is the official digital currency of that country. The Bill is argued to have a deleterious effect on bitcoin and other private cryptos as it would make transactions involving private crypto illegal. The bill proposes a blanket ban on mining, holding, selling, trade, issuance, and, disposal of private cryptocurrencies in any manner. While it is still uncertain as to how this bill will roll out, the proposal of CBDC is an appreciable move. CBDCs involve a blockchain-based token which makes them a digital form of fiat currency. This automatically side-lines the ill-effects of unbridled volatility which is associated with non-fiat currencies. It will provide much-needed stability to cryptocurrencies and will establish them as the digital counterpart of the Indian rupee.
Monitoring v. Regulation: Key takeaways from the proposed Bill
India’s major concerns regarding cryptocurrency are its alleged links to terror activities, tax-evading possibilities, and potential threat to the financial infrastructure. While the first two concerns have been reported in notable journals and reports, the last concern arises because of its independence from financial institutions and occult anonymity. This feature of anonymity can escalate illegal transactions as it requires a very negligent or demonstrably weak KYC (Know Your Customer) System. It will leave banks and other financial institutions with no option to trace such transactions.
The proposed bill looks serious about the aforementioned concerns. It proposes a wider definition of cryptocurrencies; hence, it can be implied that the term “cryptocurrency” may include digital tokens originated from unique cryptography, for example, NFT (Non-Fungible Tokens) which are unique in their use and unlike other cryptocurrencies they can’t be replaced or interchanged. The Bill seems interested in having a stern and effective regulatory framework rather than a blanket ban. It is because a complete ban on cryptocurrencies would engender illicit trading and increase the illegal nexus of transactions. Hence, the proposal of a regulatory framework for virtual currencies should be welcomed. The European Union Commission has also taken similar steps for the regulation of crypto-assets by proposing the Regulation on Markets in Crypto-Assets (MiCA). Moreover, the government is planning to form an expert panel to study crypto regulations anew. The committee’s purpose could be to examine and explore the role of cryptocurrencies as digital assets. It could also delve into the evaluation of the blanket ban on private crypto in India. It may lead to revisions in the crypto regulations which are subject to the recommendations made.
The regulatory conundrum for cryptocurrency
Cryptocurrency as currency:
To evaluate the qualification of cryptocurrency as a “currency”, it is pertinent to examine the regulations that are authorized for the evaluation of currencies in the country. Section 2(h) of the Foreign Exchange Management Act, 1999, defines currency. Cryptocurrencies are not recognized in this definition as they aren’t notified by the RBI. Furthermore, cryptocurrencies don’t come under the scope of a banknote, hence, they aren’t considered as valid legal tender under Section 26 of the RBI Act, 1934. Additionally, the digital nature of cryptocurrencies and lack of government authority makes them devoid of the status of legal tender under Section 6 of the Coinage Act, 2011. It is however contended that the RBI report of 2002 incorporates cryptocurrencies as a virtual currency as it reads e-money as: “an electronic store of monetary value on a technical device used for making payments to undertakings other than the issuer without necessarily involving bank accounts in the transaction but acting as a prepaid bearer instrument”; nevertheless, reading it with Section 2(1)(i) of the Payments and Settlements Act, 2007 would imply that validation of crypto transactions as legal electronic transactions requires the consent of the RBI, compliance with the money laundering norms and KYC mandates. The current status of cryptocurrency isn’t up to the mark on any of these mandatory requirements and cannot be admitted as currency.
Cryptocurrency as security:
The concept of regulating cryptocurrencies as “securities” evolves from the advent of cryptocurrency exchanges around the world. These exchange platforms deem crypto as investments, hence, it is paramount to explore the possibilities of its regulation through the Securities and Exchange Board of India (SEBI). To assess the inclusion of cryptocurrencies under “security” it is paramount to understand the concept of Initial Coin Offerings (ICOs). The ICOs present a mechanism wherein digital tokens are issued in exchange for fiat currency. These tokens can be traded on crypto exchanges. ICOs are considered as the digital equivalent of Initial Public Offerings (IPOs).
The uncertainty regarding the inclusion of cryptocurrencies as “securities” is not confined to the territorial limits of India. The U.S Securities and Exchanges Commission (SEC) is also baffled in this regard. The SEC is of the view that cryptocurrencies aren’t security assets but they must submit to the regulatory norms of the SEC. While the SEC is figuring out efficient regulatory provisions for crypto, crypto exchanges in India have demanded regulatory provisions from the SEBI. However, the current provisions do not recognize crypto as securities under Section 2(h) of the Securities Contracts (Regulation) Act, 1956.
Concluding remarks and recommendations
Notwithstanding the popularity and widespread transactions in cryptocurrencies, there is a dire need for improvement in terms of security, fair use policy, and regulatory norms. Acknowledging the burgeoning market and inherent technological possibilities, the Cryptocurrency Bill needs to strike a balance between its approach towards legality and utility.
The above discussion demonstrates that a policy conundrum exists. It is evident that cryptocurrency does not fit either as a currency or security as per the current laws. Placing cryptocurrency in any one of these domains may lead to conflict of laws across jurisdictions. Hence, a robust mechanism is needed to specifically deal with all these concerns. This can be ensured by creating a central regulatory authority and by furnishing legal validity to cryptocurrencies. It is because legal authority would assist in creating a safer business environment and would be better than the status quo which is more prone to cyber attacks and frauds. Legal recognition and centralization would ensure more acceptance hence, leading to more transactions. Efficient regulation and legal assurance would also provide stability and reduce unusual volatility in their pricing which, at present succumbs to a couple of tweets! The regulations pertaining to crypto regulations in India can draw analogies to Japan’s model wherein there exists a proper registration system for crypto exchanges, crypto transactions are made amenable to money laundering rules, and the business operators essentially require themselves to register under the local finance bureau. Effective implementation of these regulations in India would solve the entire conundrum and ensure a safe business environment.
Furthermore, decoding the anonymity of trade (i.e. tracing the source of transactions) will aid in identifying illegal transactions. Tracing the source will eventually help in curbing terror funding and money laundering activities. The status quo grants passive anonymity and the data gets collected in a digital ledger. The technological expense of decoding that ledger is not impossible rather it is not economically viable. The need is to have a more effective and viable technological option for tracing and tracking transactions. The concept of a regulatory sandbox can be utilized to channelize these virtual assets in the mainstream economy by a system of cheques and balances and proper monitoring and transparent taxation. Moreover, encouraging and incentivizing self-regulation mechanisms at primary levels of transaction for crypto exchanges can also be adopted. It can be achieved by having explicit rules and regulations, terms and conditions, that are made by the crypto exchanges and follow an oversight mechanism and audit by competent authorities. Crypto exchanges must also be mandated to follow an Aadhar-based KYC to ensure fair transactions. Needless to mention, cryptocurrencies can prove to be very fruitful for wealth generation as they are capable of high FDI inflow to boost industrial health. The Ministry of Electronics and Information Technology also emphasized on the benefits of cryptocurrency in the Draft National Strategy on Blockchain, 2021. Hence this legal dilemma must be resolved and the authorities must consolidate their stance to make India completely ready to adopt new-age digital currencies.