Turbulent Year for Cryptocurrencies Could Spur Progress Towards Regulatory Norms for Digital Assets in 2023

Even as India has taken steps towards the launch of digital currency with components based on blockchain technology, the scenario with respect to cryptocurrency continues to be debated with the RBI pointing to the risks from private cryptocurrencies and no move yet for their regulation.

The dramatic collapse of the trading platform FTX added to worries but there are people who feel that disruptions in crypto market do not take away the inherent value of the blockchain and that such products give end users control over their transactions. Blockchain technology enables the existence of cryptocurrency.

Reserve Bank of India has been forthright about its views on cryptocurrency and its Governor Shaktikanta Das said last month that cryptocurrencies should be "prohibited" and that if they are allowed to grow "next financial crisis" will come from private cryptocurrencies.

He said they have absolutely no underlying and it is a speculative activity.

"I still hold the view that it should be prohibited. Countries have been taking different views, but our view is that it should be prohibited. If you try to regulate it and allow it to grow, please mark my words, the next financial crisis will come from private cryptocurrencies," Das said.

He mentioned three key points of concern regarding cryptocurrencies.

"I would like to mention three points. One, the origin of the cryptocurrencies, the private cryptocurrencies is to bypass the system, to break the system. They do not believe in the central bank currency; they do not believe in the regulated financial world. They want to bypass and beat the system. Second, they have absolutely no underlying. Not only that, I am yet to hear any credible argument about what public good or what public purpose, it serves. There is still no clarity about it. Third, it is a 100 per cent speculative activity," Das said during a BFSI insight summit held by a business publication.

Das also said cryptocurrencies have certain inherent risks for macroeconomic and financial stability.

"We have been pointing it out and its developments over the last one year, including the latest episode that was built around the FTX. We do not need to say anything more about our stand. Time has proved that cryptocurrencies are worth what they are today," he added.

Das quoted some estimates that the total value of cryptocurrencies was about $180 billion (roughly Rs. 14,87,000 crore) and has now come down to about $140 billion (roughly Rs. 11,56,600 crore), which essentially means about $40 billion (roughly Rs. 3,30,574 crore) worth of value got wiped out.

Crypto assets are currently unregulated in India.

The government does not register crypto exchanges and has suggested that crypto assets, by definition, are borderless and require "international collaboration".

The government believes any legislation for regulation or for banning can be effective only with significant international collaboration on evaluating the risks and benefits and evolution of common taxonomy and standards.

Cryptocurrency involves risks and volatility but the market has attracted traders and investors looking to make quick profits.

FTX was a high-profile crypto exchange and collapsed in November due to reported misappropriation of customer funds. Earlier in the year, crypto hedge fund Three Arrows Capital (3AC) fell into liquidation with the developments hurting the crypto industry.

The collapse of FTX left one million creditors around the world with funds locked on the exchange or lost in the revolving doors of fund transfers between FTX and its trading arm Alameda Research.

Crypto sector experts feel that increasing adoption of digital payments and growing adoption of blockchain technology converges with the underlying concept of cryptocurrency

Neel Kukreti, trader and founder of Crypto Jargon, said cryptocurrency has come a long way, but it still has a long way to go in terms of widespread adoption and use.

Finance Minister Nirmala Sitharaman in the Union Budget 2022 announced that "any income from transfer of any virtual digital asset shall be taxed at the rate of 30 per cent." The government intended to bring a bill on cryptocurrency but it was deferred as it wanted to have wider consultations.

The Reserve Bank of India has also begun to adopt blockchain technology, as demonstrated by its recent Central Bank Digital Currency (CBDC) pilot.

Kukreti said digital rupee is a good concept in isolation but it does nothing to promote the adoption of traditional cryptocurrency assets.

He said most digital currencies were still in their infancy and were subject to heavy speculation.

"Even Bitcoin, the oldest and most well-known cryptocurrency, was highly volatile. It is likely that only those cryptocurrencies recognised as commodities will eventually survive," he said.

Nadeem Khan, a trader who has been investing for eight-nine years in cryptocurrencies, said India launching its own digital rupee is a great step towards large-scale adoption of crypto in the country and added that there a very long road ahead.

He said blockchain as a technology will have a greater impact than what is seen right now. "After all it is a ledger. In the coming future, we could see many more applications. There are a lot of new innovative applications that are being developed on the blockchain that could provide utilities across many industries. People are also starting to realise that blockchain could be much more than just a digital currency."

He said 2022 showed how volatile crypto market can be and it is important to do one's own research.

"One of the most common saying in the crypto space is Do Your Own Research (DYOR)," he said, adding that there is also a lot of online free content that could give basic idea about crypto.

Disagreeing with the views of RBI Governor on the risks posed by private cryptocurrencies, he said they can "pose threat to the current financial system when it is allowed to be used in parallel as legal tender of a country".

Kukreti said before making any investment decisions, it is important to consider one's own goals for cryptocurrency.

He said if a person is long-term investor, it may be safer to stick to a particular cryptocurrency and for those keen on technological aspects of blockchain, the choice could be different.

"If you are simply looking to speculate and make quick profits, the current market may not be conducive to that. Wait for the bull market to return," he said .

Crypto seemed insulated from the financial system before the pandemic. Experts believe for that individual or institutional investors holding both crypto and traditional financial assets or liabilities, any large losses on crypto may drive them to rebalance their portfolios.

This, in turn, will probably cause financial-market volatility or even default on traditional liabilities.

The growing crypto adoption by retail and institutional investors in Asia, many of whom have positions in both the equity and crypto markets, is also one of the factors for this interconnectedness, expert said.

Even seasoned investors in crypto sphere appear to have adopted a wait-and-watch approach due to the series of collapses that happened in 2022 and the cautious stand taken by the Reserve Bank of India.

Marc Despallieres, Chief Strategy and Trading Officer at Vantage, said it is practically impossible to predict the direction crypto prices will take in 2023.

"However, there are a couple of factors that will definitely have an impact on valuations. The first is interest rates. Rising rates could continue to keep prices down. The other factor is the expected fallout from the FTX bankruptcy. There could likely be a greater degree of government scrutiny and regulation. While this could be a good thing in the long term, it may adversely affect prices in 2023," he said.

Despallieres said active investors in the sector are still worried "because there is a lot of uncertainty in the decentralized market".

He said lingering distrust may come to an end with the expected onset of regulations in India's G-20 leadership.

"The most crucial goal for surviving during economic slowdowns is maintaining an asset's worth. Without a doubt, the value of cryptocurrencies may be threatened by their volatility. But these movements also illustrate people's optimism and faith in the decentralised market. Cryptocurrencies are still young assets in terms of people's perception, but their potential can significantly impact the entire financial industry," he said.

Crypto investors will be hoping that the coming year sees some progress in the direction of its regulation.

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