The Need to Regulate Cryptocurrencies is Loud and Clear

Context: A regulatory system must be in place before we can address the question of taxing crypto trades.

Background:

• In March 2020, the Supreme Court set aside a circular of the Reserve Bank of India (RBI that banned regulated entities from providing any services related to purchase and sale of virtual currencies.
• Although the SC reaffirmed the regulatory jurisdiction of the RBI, it held that any restriction must be exercised proportional to responsibility and backed by empirical evidence.

Benefits of the cryptocurrencies: Can help in financial inclusion and aid international remittances and reduce transaction costs in payment services, as recognized by the Financial Action Task Force (FATF) in 2014.

Associated concerns:

• According to FATF report to the G20 - features like anonymity and layering can be used to make it a vehicle for money laundering and terror financing.
• Asymmetries of information and negotiation power: could create the need to protect consumers and investors from abuse.
• The Basel Committee on Banking Supervision: Growth of the crypto-assets could raise concerns of financial stability.
• Risk of market manipulation: As most crypto-assets are not backed by tangible assets or other securities.
• Absence of regulatory protections: such as deposit insurance or a liquidity facility from the central bank, could result in risks such as hacking and usual market, credit and counterparty risks.
• Unstable nature of cryptocurrencies: could suffer firesales, which could have systemic implications, as with some other financial products.
  • If the service provider is a regulated bank, crypto-asset holdings could make the resolution more complex, which in turn could have wider financial-stability implications.

Way forward:

• Prevent regulatory arbitrage: Through cooperation between sectoral and jurisdictional regulators.
• Providing regulatory environment: RBI’s regulatory sandbox could experiment with the development of crypto products in a controlled environment.
  • It will help enhance confidence among market stakeholders, build regulatory and supervisory capacity, and provide empirical evidence on possible risks.
  • The innovation hub to be set up by RBI could also encourage the use of blockchain crypto-products for financial inclusion.
• Taxing the crypto-currencies: under the Goods and Services Tax (GST).
• Ensure regulatory governance: By conducting a regulatory impact assessment of rules engaging all the stakeholders, enhancing the quality of regulation and garnering credibility.

Conclusion: Central Bank’s regulation should promote innovation, fill the breach and remove uncertainty while also mitigating the risks presented by cryptocurrency.