Towards a Cryptocurrency Regulatory Framework
The Reserve Bank of India (“RBI”) has recently issued a notification to all its regulated entities stating that they shall be henceforth barred from dealing in virtual currencies (“VCs”) such as bitcoin and shall not provide services that facilitate the same. These services, among others, include the maintenance of accounts of virtual currency exchanges, the registration, trading, clearing etc. of virtual currencies, and the transfer or receipt of money in relation to the trading of virtual currencies. It has provided a three-month deadline within which all such services must be ceased. This directive follows a host of public notices issued over the past couple of years cautioning users and holders of virtual currencies against the risks associated with their trade. The Ministry of Finance had previously issued a press release in 2017, stating that “[t]he investors and other participants therefore deal with these [virtual currencies] entirely at their risk and should best avoid participating therein.”
Until now, outside of cautionary statements, it remained unclear how the government intended to tackle cryptocurrencies and their trade through legal regulation. There had been some indication given through the Finance Minister’s comments during the 2018 Budget Speech, stating that “[t]he Government … will take all measures to eliminate use of these crypto-assets in financing illegitimate activities or as part of the payment system.” Thus, the focus seemed to have been on the prevention of use of VCs to facilitate money laundering and the funding of criminal activities. Apart from this, the significant risks associated with the use of VCs as an investment instrument lead the government to focus efforts on regulation.
While the actual trading and holding of VCs remains legal, by preventing investors from transferring money to or from crypto-exchanges (like Zebpay, Coinsecure, etc.) the RBI has prevented any future investments being made through traditional money while also placing current holdings at risk of being rendered useless. This notification has essentially outlawed crypto trading, which is currently a $2 billion market in India, affecting over 50L investors.
The recent directive, however, appears to have been a case of throwing the baby out with the bath water. In an attempt to curb illicit trade and money laundering, the RBI has also created an uncertain atmosphere for legitimate activities centred around blockchain technology. While the government has assured the public on multiple occasions that it considers the use of the blockchain in applications to be kosher, it remains to be seen if meaningful investment will flow into the sector when a crucial aspect of the technology remains inaccessible.
The RBI would have done well to examine the regulatory regimes adopted in countries such as Switzerland or Germany when implementing its own measures. Rather than placing banks at the site of regulation, its goals would be better served by concentrating regulatory efforts on cryptocurrency exchanges, and issuing directives through regulatory bodies like the SEBI in order to bring crypto-assets within the ambit of traditional securities laws.
In order to tackle concerns of money laundering, it would be advisable to implement Know-Your-Customer (“KYC”) and other Anti Money Laundering (“AML”) measures on cryptocurrency exchanges and other businesses which may wish to deal in crypto-assets. Through their implementation, while the “anonymous” characteristic of VC trading and exchange may be lost, their function as an investment tool would persist. Further, rather than rejecting cryptocurrencies as a means of payment, the Indian government could adopt the Swiss approach and classify them as a mode of currency, bringing them within the full ambit of the Prevention of Money Laundering Act, 2002 (“PMLA”). This would have the effect of ensuring that businesses remain under an obligation to track crypto-related transactions and carry out periodic surveys to ensure that they are in compliance with the PMLA.
The RBI’s decision, which has made crypto-trading restrictive and uneconomical to the layman, is only the first step if it wishes to fully achieve its stated goals. The government has avoided an effectively unenforceable and regressive decision by skirting around a total ban. The next step to creating a safe and effective environment for blockchain technology and its implementation would be to create a regulatory regime, with an oversight body. This would create transparency and predictability in the industry, where currently all players operate under a curtain of uncertainty as to whether their operations will remain legal in the future. Other regulatory measures, such as financing norms and disclosure requirements may be mandated in order to creating a consumer-friendly landscape. This would bring cryptocurrency exchanges and businesses within the ambit of traditional payment systems, and promote commerce and innovation in legitimate activities within the crypto-sector. Any formulation of regulatory measures should ideally be arrived at through stakeholder consultation, as has been done in other jurisdictions such as the USA.
Thus, by focusing on cryptocurrency exchanges as the site of regulation and by directing regulatory goals towards consumer and investor protection, the Government has the opportunity to create novel and progressive legislation in this area, potentially allowing India to become a hotbed of industry growth and development.
 IV Year, B.A. LL.B (Hons.), National Law School of India University.