Regulating Cryptocurrencies

Cryptocurrencies, form a decentralized payment system. All the participants of the system are
connected by a network and hence the location of the participants has no role to play. Hence the
cryptocurrency network does not reside in any given regulation, and can therefore are agnostic to any
jurisdictional rules.
As there are no regulations the problem, that arises is that, this technology can be exploited by parties,
to perform illegal activities. As in the case of the Silk Road drug market, where Bitcoin was used for
the sale of illegal drugs. Hence, there is a need of some kind of regulation.
So, what could regulators do? Based on some research we constructed possible scenarios for
regulation of cryptocurrencies:
Do nothing
Regulators throughout the world have adopted a wait-and-watch approach. Authorities in Japan
have monitoring the illegal activities facilitated by Bitcoins, but have not regulated them for the
time being. However, not taking any action will backfire on later stages. There have been instances
of illegal activities with Bitcoins, which require immediate attention so as to discourage blatant
criminal activities. Fraud and exchanges becoming insolvent have been in news quite some time,
this also prompts some sort of action. The EBA or European Banking Authority, have issued
warnings to regulators against doing nothing. According to them reputation of regulators will be
diminished if the illegal or fraudulent activities to go unchecked. This might also prompt legal
action against them due to inactivity. The choice then is to take some form of regulation.
Prohibition or Selective Prohibition
Prohibition imply that governments could bar the citizens from using virtual currencies. Attempts
at some partial prohibition of specific elements of the technology have been made. Thailand’s
attempt to ban Bitcoin was a huge failure. Governments cannot completely block access to Web
sites nor totally prohibit virtual currencies. Russian regulators also tried to crack down BTC trading
but could never materialise it. On the other hand, only China was able to make some progress in
this direction. It classified cryptocurrency as a commodity rather than a currency. Hence curbing
its viability by restricting the ways in which financial institutions may use it.
Virtual Sovereigns
One way of regulating cryptocurrencies could be virtual currency providers can themselves serve
as regulators by enforcing the terms of usage which prevents cyber-fraud and ensures proper
behaviour. The problem with this is that, you can’t trust all virtual currency providers to act
judiciously throughout. The biggest example of the failure this method has been the case of Mt.
Gox a bitcoin exchange based in Tokyo, Japan. Mt. Gox had to file for bankruptcy after hackers
allegedly hacked into the system and stole bitcoins worth US$446 million.
Selective regulation
Regulatory responses most countries have mostly been related to taxation, and these regulations
have rather been low key in comparison to the steps taken by the Chinese government. In the US,
the Financial Crimes Enforcement Network, issued guidelines mandating the compliance of
decentralized currencies with the money laundering regulations.
The European Banking Authority have also issued a detailed list of potential risks for both
consumers and investors that include many of those cited already, including monetary loss due to
theft, fraud, price instability and the user’s inexperience, which increases the risk for the
consumers.
Specific Regulations
Specific regulation is an attempt to bring cryptocurrencies institutions into the umbrella of the
regulatory framework already in existence. Regulations which could be easily adopted in the
cryptocurrency economy, such as registering exchanges with the authorities should be
mandated. We suggest substantial and substantive regulations, particularly with regards to
anonymity and the requirement for identification.
1. A non-governmental global entity should be created to manage the currency’s protocol(s).
2. Limit anonymity by making KYC and customer due diligence mandatory for intermediaries
and exchanges.
3. Clear taxation rules for cryptocurrencies which are hassle free.
4. A cap on payments in virtual currencies, similar to existing caps on cash payments.
5. Regulations at international level against exchanging cryptocurrencies against the official
currency.
6. Transparent price formation.