To regulate or to ban, is the question before the crypto-confused government.
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- The story: Cryptocurrencies suddenly shot in the mainstream a few years ago globally, and have become a rage in India also, now. The problem is: none of that is regulated by Indian government or regulators.
- A global issue: Regulation of crypto assets such as bitcoin and ethereum is a debated issue globally. Countries are in various stages of banning, un-banning, re-banning and regulating crypto assets. India needs to firm up its mind on the matter.
- Financial inclusion: A normally discussed benefit of crypto assets is that they make finance more inclusive and decentralized. India already has the world’s largest financial inclusion programme in the form of "Jan Dhan". Since 2014, 430 million bank accounts were created for the under-banked. A majority, 55%, of them are women. There are 45,000 chit funds (and many more unregistered ones). These chit funds are the world’s largest decentralized finance applications. So crypto clearly can’t match that scale. Hence financial inclusion possibly cannot be the main reason to embrace crypto assets in India. At the same time, the sad experience of Bitcoin as legal tender in El Salvador, in 2021, is another warning.
- Some positives: India can try and leverage the Bitcoin and crytocurrency craze to benefit itself. This is possible if the government thinks it would want to not ban this asset class outright, not otherwise.
- Establish India as an integral part of the new financial system - Large global financial institutions and investors are adding crypto assets to their portfolios. Domestic crypto markets in India and the global opportunities are synergistic. Finance firms, banks, fintech and crypto startups can tap into the huge growth of the industry. Software technology parks (STPs) and special economic zones (SEZs) enabled the IT services boom. Creative ‘crypto export zone’ schemes can incubate clusters of excellence and create world-class financial services firms and unicorns.
- Capitalize on new technology and services opportunities - Banking, financial services and insurance customers form the biggest chunk of India’s IT services. Blockchain application development, its scalability, security and analytics are their next growth opportunities. To cater to this demand, there is a need for a large talent pool with expertise in the crypto tech stacks.
- Gain on financial innovation - There is a lot of of technology innovation and business models evolving around blockchains. There are some interesting applications, but new killer apps will also emerge. The impact of new technologies is overestimated in the short term, but underestimated in the long term.
- Regulatory systems: India’s financial sector regulation has always been conservative. This same conservatism helped Indian financial institutions weather the Global Financial Crisis of 2008 better than many western firms. It also helped stay alive during the Asian Financial Crisis of 1991. There are three key regulatory concerns about crypto assets.
- Investor protection - This has been a top priority for Indian regulators. Crypto assets are seen as high-risk, speculative assets. Investor education, guidelines against misselling and other safeguards are needed. Crypto assets are now better understood as digital assets, instead of as digital currencies. Regulating them like commodities and clarifying their tax treatment is a win-win. The government’s tax revenues go up. It can also increase the number of tax filers (only 64 million in FY20) and the number of taxpayers (14 million).
- Bypassing laws - Some crypto assets may allow individuals to bypass securities issuance laws. That’s a potential risk to capital markets. Crypto assets may be used to avoid capital controls. That’s a potential risk to macroeconomic stability. If crypto holders have to declare their holdings above a particular level in their tax forms, such concerns can be mitigated.
- Illegal transfers - Anonymous transfers of crypto assets may weaken anti-money laundering laws or combating the financing of terrorism rules. Then the role of know-your-customer (KYC) norms is the key. A blockchain may bring more transparency for financial transfers as all its transactions can be examined. India is a part of the G20 Financial Action Task Force (FATF), and the crypto industry players should adhere to FATF’s recommendations.
- Summary: A smart regulatory approach considers both the potential upside and downside. It fosters financial innovation, safeguards investors and unshackles the Indian crypto ecosystem. Many crore Indians have now invested in crypto markets, and before killing it all, the government may choose to rethink once.
- EXAM QUESTIONS: (1) Explain how cryptocurrencies differ from regular fiat currencies. (2) Why are governments never in an embracing mood towards cryptocurrencies? Explain. (3) What are the various ways crypto assets can be misused for illegal purposes? Explain.
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