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Bitcoin & Regulation

· Bitcoin,Currency,Cryptocurrency,Regulation,Crime

Bitcoin & Regulation

In recent years, the maturation of blockchain technology and the rapid development of digital currencies have increased the market size of decentralized digital currencies. They now have a profound impact, proposing a huge challenge to the global financial system: the balance between digital security and protection of privacy, as well as the efficient supervision of the digital currency.

The Development Trend of Digital Currency

According to the latest data from CoinMarketCap.com, as of March 31, 2020, there are 319 digital currency exchanges in the world and 5,290 digital currencies issued - the total market is valued around 181.4 billion US dollars. The top three cryptocurrencies in terms of market capitalization are Bitcoin, Ethereum, and XRP, with Bitcoin's market value exceeding 114.8 billion US dollars.

As the market scale of digital currencies gradually expands, its influence continues to grow as well. In fact, digital currency now encompasses many fields of daily life, including shopping and traveling. Digital currency has become increasingly popular and well received among users and institutions, and many commercial institutions have successively launched digital currency issuance plans. Europe, Canada, China, Sweden, and the United Kingdom are actively promoting the introduction of the Central Bank Digital Currencies (CBDC).

Challenges Faced by Digital Currency

Although digital currency has offered more opportunities for economic development, there are still three major issues with the technology.

  • Network security defense is difficult to enforce. Digital currency is based on blockchain technology, which is theoretically very secure. However, almost all operations are based on the Internet. Consequently, the inherent security problems that the Internet poses, such as hackers or virus intrusions, will be reflected in the encrypted digital currency market. For example, the most famous exchange theft in history occurred in March 2014, when Japan’s largest bitcoin trading platform, Mt. Gox was hacked and lost about $365 million worth of bitcoin.

  • The digital currency has pseudonymous characteristics, which facilitates illegal activities such as money laundering and fraud. Unlike fiat currencies, digital currency transactions do not need to go through financial institutions, however fiat currency in the form of cash is less traceable than cryptocurrency. Three major companies, Chainalysis, Elliptic and Cipher Trace provide blockchain analysis for financial institutions and law enforcement to de-anonymize transactions and identify illicit behavior.

    Even so, financial institutions may be unable to verify the user’s information. Criminals can use such supervision loopholes to launder money or commit fraud. Recall for instance the early development of Bitcoin when illegal transactions ran rampant in the dark web.

  • The price fluctuates sharply, and investors' rights are difficult to protect. Because mainstream digital currencies are primarily based on open-source algorithms, there is no clear issuing and operating body. No one individual or institution can control the issuing transactions, which can lead to severe price fluctuations and cause consumers to speculate. Under such situations, cross-border investment is inevitable and investment risk increases.

  • Global Digital Currency Regulation

    International financial institutions have always kept a close eye on digital currencies. The Bank for International Settlements (BIS) has issued guidance and suggestions on the payment function of digital currency and whether digital currency has certain monetary attributes. In November 2015, the BIS released the "DigitalCurrencies" report, detailing the impact of digital currency as a retail payment method. In June 2017, the International Monetary Fund (IMF) released a report on the development of the financial technology industry.

    The report, titled "Fintech and Financial Services: Initial Considerations," provided suggestions on how to effectively supervise distributed ledger technology (DLT) and digital currencies. In June 2019, the Financial Action Task Force (FATF) released guidance on a risk-based approach to virtual assets and virtual asset service providers. FATF is the global body for standard-setting regarding Anti-Money Laundering (AML) and Counter-Financing of Terror (CFT), and this guidance has been key in determining regulations such as the ‘travel rule’ in the US and AMLD5 in Europe.

    Hard to discuss this without considering the FATF guidance on virtual assets issued last June which has led to AMLD5 in Europe and is the basis for the 'travel rule' in the US. Here is the link: https://www.fatf-gafi.org/publications/fatfrecommendations/documents/guidance-rba-virtual-assets.html

    In addition to international financial organizations, national regulatory authorities have also paid attention to and actively improved digital currency regulations. Due to countries’ differing financial environments, countries have approached the supervision of digital currencies in various ways.

    Some countries, such as the United States, Canada, Japan, and Germany have supported actively deployed regulatory measures in the digital currency industry. Other countries, such as India, currently prohibit digital currency-related business. China is an interesting case as it has technically banned cryptocurrency, but also hosts some of the largest global crypto exchanges. It has also launched its own digital currency this year, although this is not believed to be based on distributed ledger technology.

    Global Digital Currency License: The Road to Legalization

    As technology improves, money laundering and fraud are becoming increasingly difficult to monitor. The same argument is often made against money laundering and fraud. Technology plays a key role in combating these and transaction monitoring tools are better suited to the crypto economy than any other form of accounting system as the ledger is immutable and verified by independent users.

    Emerging payment tools and business models blur the regulatory boundaries, and therefore, it is impossible for regulators to allow digital currencies to be excluded.

    Written by Harrison Pan

    Edited by Paul Marrinan, Gihyen Eom, Glen Oh, Michael Ding & Calvin Ma

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