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Cryptocurrency- Explained, legal position and its impact on the economy

Cryptocurrency:

sounds complex? Let us break it to understand what this word means. 'Crypto' refers to 'hidden' or 'secret' and 'currency' refers to the medium of exchange that is used to buy or sell goods. This term, in recent years, has created chaos around the globe, since it is altering the economy of the countries, thus impacting its functioning. To understand what is driving this single term to change the world economies, we need to start understanding from the scratch, from where it all began- evolution and existence of currency and its importance.

A glimpse of the past
Let us travel back in time to understand the present and future of currencies. It all started with 'Barter System', all the way back in 6000 BC. In ancient times, introduced by Mesopotamia tribes, this barter system was adopted by Phoenicians. Phoenicia was an ancient region which corresponds to today's modern Lebanon, with adjoining parts of modern Syria and Israel. Barter system, as we all know, is the exchange of commodities for buying or selling other commodities.

A simple example can be, if one grows rice and wants to buy pulses, he could exchange his bags of rice with someone who needs rice and is ready to trade it with a bag of pulses. But, soon the people realised that barter system had its pitfalls like a compulsion of double coincidence of wants, lack of common measure, the problem of divisibility, problem of storage, perishable nature of goods, etc. These problems made human civilization come up with something better- 'money'.

The first form of money was metallic coins. Such coins were made out of precious metals like gold. Around 700 B.C., the Lydians became the first Western culture to make coins. Other countries and civilizations started following them, by minting their coins with specific values. Using coins with set values made it easier to compare values and trade them for goods and services.

Eventually, societies stopped using precious metals to make money. They felt the need to use materials whose intrinsic value would be equal to or less than the currency value of the money. So, they came up with something known as representative money. The newly printed paper bills and coins made of non-precious metals represented certain values. Governments checked the printing of paper bills and minting of coins by putting a cap on the value of money that could be produced. Such a cap was determined by the gold reserve that the particular country had. This means, the value of money in circulation, was backed by the value of the gold that the country had as its reserve.

The need to partially do away with this system was felt by many counties across the world Today, most modern currency is not backed by gold. Today, the money in circulation is known as fiat money. Money has a certain value today because it was given that value by government fiat or decree.

We can therefore conclude that there were certain needs and reasons that made the civilization come with a better alternative for each form of money.

Back to the Present
This is all that we learnt in our Economics textbook. But, now it's time to go beyond that. In the changing times, where technology is growing along with the increasing needs and wants of humans, it could have been easily predicted that the civilisation will come up with an alternative to the current form of money, an alternative driven by technology and coupled with the needs and wants of the civilization. This is exactly what the American cryptographer David Chaum did.

In 1983, he conceived the idea of an anonymous cryptographic electronic money called ecash. The first cryptocurrency, bitcoin, was presumably developed by the pseudonymous developer, Satoshi Nakamoto in 2009. What is Cryptocurrency? How does it work?

Cryptocurrency Explained!
Cryptocurrency is used as money to make online payments.
Cryptocurrency is a form of digital currency that is secured by cryptography, thus making it difficult for anyone to counterfeit the currency. It uses blockchain technology that makes difficult to hack.

Difficult to understand? Let us see what the terms in italics mean.

Digital currency is a currency that is only available in digital or electronic form, thus making it accessible only through computers, mobiles, laptops, etc. It is a superset. It is divided into 2 categories- regulated and unregulated. The former is the one that the central bank of government issues and regulates. It is also called Central Bank Digital Currency (CBDC). Though CBDC is still a conceptual form, England, Sweden, and Uruguay are a few of the nations are planning to launch a digital version of their native fiat currencies.

The unregulated part of digital currency is called Virtual Currency. Cryptocurrency is a virtual currency. Thus, a distinguishing feature of cryptocurrency is that they are usually not issued by any central authority, which makes them theoretically immune to government interference or manipulation.

Cryptography is a technology that creates written or generated codes. This code helps the information to stay secret and not get corrupted or intercepted by any unauthorized access during the process of transmitting the information from one source to another. While the information is getting transmitted, using cryptography technology, the transmitter can convert the information into an encrypted code, which is not in a readable format. Once the information reaches the authorized person, using the same technology, the person can decrypt the code and convert the information back into a readable format.

Blockchain is the technology that cryptocurrencies use to store transaction information. This information is stored in a decentralized manner in blocks, which means, all the information pertaining to one transaction will not be stored in one place. This makes the data secure and ensures that the data cannot be easily stolen or hacked. Moreover, each of these blocks is protected by 'hash'. Hash is a cryptography technique that generates a code and protects the information in the block.

This hash is unique for every block and thus gives the block a unique identification. Further, blockchain helps in keeping the users anonymous as the information on each transaction recorded in a blockchain is not directly linked to any names, physical addresses, or any other identifying information.

Due to technology, cryptocurrencies are difficult to be hacked unlike our bank accounts, where the personal information or transactional information of users can be stolen or hacked and their bank accounts can also be robbed!

There are over 1600 types of cryptocurrencies all over the world as of 19th August 2018. Most traded ones being- Bitcoin, Ethereum, Litecoin, Unobtanium, Black coin.
Cryptocurrency has impacted the people, nation and its economies around the globe.

What makes Cryptocurrency popular though it is not backed by the government
Most of the governments across the globe neither recognize cryptocurrencies as a legal tender nor do they validate transactions done through cryptocurrencies. Still, as the trend can be seen, people across nations heavily invest in cryptocurrencies. The picture below will give an estimated idea of the market capitalization of these cryptocurrencies.

The various reasons for turning towards using cryptocurrencies over legal tenders, though they are not recognised by the government:
  1. Decentralisation:
    Unlike the legal tenders of every country, cryptocurrencies are not regulated by any central authority. No central authority can impose rules on the owners of the coins.
     
  2. Internationally used:
    Unlike the problem of converting the national currency into the accepted currency of another country to trade with that country, cryptocurrencies do not require such conversion. They can be used for any international transactions.
     
  3. Highly secured:
    The transactions made via cryptocurrencies are highly secured, more secured than the transactions made through the bank accounts, as discussed earlier.
Like every coin has two sides, cryptocurrency has its drawbacks.

Why are the governments reluctant to legalise cryptocurrency?
Cryptocurrency transactions cannot be regulated or monitored by the government. This creates a large room for all unscrupulous activities like money laundering, terror funding, drugs dealing etc. Due to the high security of the transactions, the government cannot intercept the transactions made through cryptocurrencies, which makes them incapable to detect the identity of the persons or entities involved in unscrupulous activities. As mentioned earlier, the transaction information stored in the blockchain is not directly linked with any names, physical addresses, or any other identifying information, this keeps the users anonymous and complicates efforts by law enforcement agencies to identify individual transactions and link them to users.

The New York Times reported on 18th August 2019 that
Hamas, the militant Palestinian group, has been designated a terrorist organization by Western governments and some others and has been locked out of the traditional financial system. But this year its military wing has developed an increasingly sophisticated campaign to raise money using Bitcoin.

In the latest version of the website set up by the wing, known as the Qassam Brigades, every visitor is given a unique Bitcoin address where he or she can send the digital currency, a method that makes the donations nearly impossible for law enforcement to track.

The website also contains a well-produced video that explains how to acquire and send Bitcoin without tipping off the authorities.

Terrorists have used the Bitcoin variant of cryptocurrency for everything from drug purchases to money laundering.

According to a Bloomberg report dated January 18, 2020
Terrorism financing schemes using cryptocurrencies are growing in sophistication. In one instance, terrorists collected crypto donations worth tens of thousands of dollars in just one campaign last year, a much quicker way to raise funds than prior efforts. It also made it much harder for the government to track the movement of funds than prior, more simple campaigns.

These reports give a clear picture as to how cryptocurrencies are used to promote unlawful activities in countries. This builds up a good reason for the government to intervene and make laws regarding dealing with cryptocurrencies.

Cryptocurrency laws in India and its possible impact on India's Economy
India has always been hostile towards cryptocurrency and the idea of legalizing it. There have been various attempts by the Reserve Bank of India to stop or reduce activities dealing with cryptocurrencies in India via various notifications. These notifications warned companies, citizens and even traders who dealt with cryptocurrencies about its potential risks. But, RBI notification dated 6th April 2018 specifically mentioned that all RBI regulated entities are prohibited from dealing with Virtual Currencies and providing any kind of banking services to such companies, citizens or traders.

This was appreciated and followed up by the Government of India, by setting up a panel which would analyse the situation of India in relation to cryptocurrency and suggest the government on what can be done. The panel consisted of the Secretary (Economic Affairs) as the chairman, along with the Secretary, ministry of electronics and information technology, SEBI chairman and the deputy governor of the Reserve Bank of India.

The panel was called SC Garg Committee. This panel suggested a ban on cryptocurrency and also submitted a draft bill on the same. The growing Indian investment in cryptocurrencies, especially Bitcoins, was a major concern to the panel. Below is a graph that the panel submitted along with its report. The graph shows the value of investment made by Indian currency on Bitcoins.

The draft bill 'Banning of Cryptocurrency & Regulation of Official Digital Currency Bill, 2019' prohibits the use of cryptocurrency under chapter 5. Chapter 6 of the bill enlists the offences under the ambit of the bill and also lays down the respective punishments.

The RBI notification dated 6th April 2018 was challenged in the Supreme court by 2 different groups of petitioners. In the case IAMAI v. Reserve Bank of India[1], the Supreme Court struck down the RBI notification, it held that:
'The RBI notification dated 6th April 2018 disproportionately interfered with a crypto-asset exchange manager's fundamental right to carry on any occupation, trade or business or occupation under Article 19(1) (g) of the Constitution, by completely disconnecting them from the banking system.'

Cryptocurrency and Regulation of Official Digital Currency bill 2021 seek to prohibit all private cryptocurrencies in India, however, it allows for certain exceptions to promote the underlying technology of cryptocurrency and its uses. The bill appears to be based on the recommendation given by SC Garg Committee formed by the Centre. The Committee had recommended banning cryptocurrencies and allow an official digital currency. The Lok Sabha bulletin says the legislation may permit certain exceptions to promote the “underlying technology behind cryptocurrencies and its usage”.

As of now, we cannot decide if India will ban or allow cryptocurrency dealing in the country. Let us consider both the scenarios one by one and see what kind of impact they have on India's economy.

Scenario 1: What will happen if India decides to ban cryptocurrency?
India has the largest number of blockchain developers for cryptocurrencies after the United States. Calculations suggest that there are about 12,000 blockchain developers in India. The users of virtual currencies have already crossed the one million mark. Further, various start-up companies work on developing cryptocurrency technology, investing in cryptocurrencies, etc. The number of people involved with cryptocurrency, directly or indirectly, account to almost 5 million people. Thus, a ban on cryptocurrency in India will affect almost 5 million people. They will be rendered jobless. Along with this, India will also be losing a market share of $13 billion, according to Siddharth Sogani, CEO of crypto and blockchain-based analytic company CREBACO Global Inc. These are 2 huge negative impacts of banning cryptocurrencies in India.

Scenario 2: What will happen if India decides to legalise cryptocurrency?
There are several benefits of legalising cryptocurrency in India. They are:
  1. More inflow of investment in P2P companies: P2P companies are those companies that trade directly with each other without the intervention of any third party or the use of any other entity or business firm. P2P companies will be the most benefitted since online payment will become much easier, safer and reliable. This will further increase foreign investments into Indian start-ups.
     
  2. Low transactional cost: Making online payments or online money transfer especially international payments and transfer costs a lot of money. Such transactional costs can be cut down to a large extent if such transactions are made using cryptocurrencies.
     
  3. Growth of Entrepreneurs: Entrepreneurs will get a huge boost as, cryptocurrency and blockchain technology will help the SMEs get a firm grasp over their financial coverage by assisting in smooth transactions, digital wallets, online investments, payments and purchases, and many other financial liberties.
     
  4. More job creation: The legalization of cryptocurrency in India will increase the number of job availability. In the case of India, it might take a few years to create more jobs but it is affirmative that it will bring positive changes in the Indian job market. The cryptocurrency technology is expected to take over the digitization of money to a new level thus creating more business opportunities as well as crypto jobs.

Cryptocurrency in other countries
In this dynamic time, where technology is altering everything and such alterations are being accepted by countries across the globe, then why not accept this technology-driven cryptocurrency. Many countries have developed a friendly approach to cryptocurrency. Instead of just focusing on the pitfalls of cryptocurrencies and banning it, these countries are looking at the greener side and trying to find solutions to deal with its loopholes. Few of such countries are- US, Russia, Iran, Japan, Singapore, Switzerland, Germany, Italy, Australia, South Africa, Mexico, etc.

Russia plans to legalise digital financial asset stored in a blockchain, while Japan helped one of its cryptocurrency investment company to pay back the currencies to the owners who suffered losses due to technical glitches. Singapore announced that it would partner one of its blockchain development firms to facilitate inter-bank payments using blockchain technology. The Ministry of Economy and Finance of Italy decided to recognize cryptocurrencies as a means of exchange, that is separate from the legal tender that is authorized by the government, for purchases of goods and services.

Venezuela went one more step ahead and introduced its state-run cryptocurrency called Petro. Petro will be backed by the oil reserves of the state. It was launched in 2018 and the technology that Petro uses is similar to the technology that is used by an already existing open-source-cryptocurrency named Dash.

All these countries realized that being hostile to such technological changes cannot be a fruitful solution to the problem. These countries, while embracing the new technology that cryptocurrency has introduced, are also attempting to regulate it in order to prevent any unscrupulous activities. Such a move will ensure that the country has better security for online payment by adopting cryptography and blockchain technology and can also keep a check on illegal activities happening on that platform.

How Bitcoin has changed the global economy
The most commonly traded cryptocurrency is Bitcoin. It also has the highest market share among all the cryptocurrencies. Below is a picture that shows the countries which have accepted Bitcoin and the ones who are hostile towards it.
  1. Separate from Dollar
    For all international transactions, the indigenous currency had to be first converted into US Dollars. This was expensive for many traders whose indigenous currency was weaker than the Dollars. Cryptocurrency negates this requirement. The global economy is interconnected in an unprecedented manner. Bitcoins have done that what the nations across the globe could not do since such a long time- de-dollarise international trade in a manner which would have no recourse to the US Dollars. It thus affects the economy of the United States as well as the countries that hold reserves of US Dollars. This changes the dynamics of international trade, foreign relations, diplomacy, and the impact of economic sanctions.
     
  2. Eliminates the need for Middlemen
    International transaction transfer requires entities like clearing houses, banks and SWIFT. SWIFT stands for Society for Worldwide Interbank Financial Telecommunication. SWIFT provides the network for all financial institutions around the globe to transfer transaction information safely to each other. No international money transfer could happen outside the SWIFT network. But, with the emergence of cryptocurrencies like Bitcoin, Litecoin, etc. this middleman gets eliminated due to its ability to make peer to peer money transfers. This has caused huge disruption to the global payment system.
     
  3. Increasing overseas transaction
    Due to the benefits that cryptocurrency offers to its users, a significant increase in the oversees transaction has been recorded. This gives people belonging to the weaker economic countries a chance to connect with the global economy. The graph below confirms an average of 287,492 international transactions per day in three months.
     
  4. Easy capital creation
    With the ability to perform decentralized money transfers, start-up businesses no longer need to comply with the rules and regulations of the financial institutions to seek some financial help for kick-starting their business. They can bypass these authorities and put up an Initial Coin Offering (ICO). ICO works similarly to the industry's Initial Public Offering (IPO). Here, companies looking to raise funds can launch an ICO, where they put up their coins for sale and any interested entity buys their offering and receive a new cryptocurrency token issued by the company. This token may have some utility in using the product or service the company is offering, or it may just represent a stake in the company or project.
     
  5. Crowd funding
    Taking the earlier point bit further, cryptocurrencies like Bitcoin has created a new era in crowdfunding through the help of ICOs. Bitcoin has become the leading method for crowdfunding if blockchain-based. In ICOs, investors buy cryptocurrency like equity shares. Thus, if the company does well, the worth of the cryptocurrencies also increases. This is called as crypto equity crowdfunding. This new era of crowdfunding has helped inventors, entrepreneurs, and creators improve the world, including creating a sustainable economy.

    In the above graph, it can be noticed that the total crowdfunding through ICO went up from $1 billion in the 2nd quarter of 2017, to $2,8 billion in the 4th quarter of 2017. This is surely a huge jump that shows the success of ICOs. This negatively impacts the economies of the countries since its citizens no longer borrow money from the banks, thus reducing the credit-creation ability of the banks.
     
  6. Environmental effect
    Along with impacting the economies of the world, this technology also impacts the environment. It takes at least an overwhelming 77 TWh (Terawatt-hour) of energy each year to operate the computers and networks that power Bitcoin operations. With more people starting to use this technology, more amount of energy will be required. In such a situation, Environmental laws will have to be framed in order to bring energy consumption under control. The graph below shows the increase in energy consumed all together across the world to carry out Bitcoin-related transactions as on 10th March 2020.

Conclusion
This article attempted to make the readers understand the very origin of currency, its evolution and its current disputed form- Cryptocurrency. It then explained the meaning and working of cryptocurrency in a brief form. The article further analysed the reasons behind the popularity of cryptocurrency and the reasons because of which the government fears to legalise it.

The article then went on to explain the current situation of cryptocurrency in India and the possible scenarios that that might arise due to the government's decision on legalizing cryptocurrency. It then spoke about the various countries and their stand on the issue. Lastly, the article covered how cryptocurrencies are changing the world.

Cryptocurrency is today's modern revolutionary attempt to inbuilt technology with the most important commodity today- Money. Its effects on the global economy are two-sided- good as well as bad. But countries today our capable enough to use the positives of cryptocurrencies to make payments safer, while simultaneously regulating and monitoring its negatives.

In my opinion, the change in its form is dynamic. They have their advantages and disadvantages. But this does not mean that we do not try to find out a way in which these changes can be adopted while attempting to minimise its loopholes. Embracing change is a part of living and moving forward, and in this era of technology and its experiments, it is vital to have an open system can be changed and adapted according to the new developments taking place.

Other References:
  • https://www.researchgate.net/publication/324770908
  • https://medium.com/the-mission/how-cryptocurrency-is-disrupting-the-global-economy-89347581aa93
  • https://gadgtecs.com/2018/03/06/impact-cryptocurrency-economy/
  • https://www.indianeconomy.net/splclassroom/cryptocurrency-regulation-in-india/
  • https://www.consultantsreview.com/news/legalization-of-cryptocurrency-and-its-impact-on-indian-economy-nwid-1306.html
  • https://www.investopedia.com/terms/c/cryptocurrency.asp
  • https://www.investopedia.com/terms/v/virtual-currency.asp
  • https://www.investopedia.com/terms/b/blockchain.asp
  • https://searchsecurity.techtarget.com/definition/cryptography
  • https://dea.gov.in/sites/default/files/Approved%20and%20Signed%20Report%20and%20Bill%20of%20IMC%20on%20VCs%2028%20Feb%202019.pdf
  • https://wp.nyu.edu/dispatch/2018/05/30/cryptocurrency-is-changing-global-economic-models/
  • https://fas.org/sgp/crs/misc/R45427.pdf
  • https://www.firstpost.com/business/bitcoins-time-could-be-up-are-government-backed-cryptocurrencies-the-next-big-thing-4296385.html

End-Notes:
  1. IAMAI v. Reserve Bank of India Writ Petition (Civil) No.528 of 2018

    Award Winning Article Is Written By: Ms.Nandini Biswas
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