Why Cryptocurrency is Hard to Regulate?

Crypto are becoming an inclusive value transfer mechanism

With over 300 million global active users, cryptocurrencies are becoming an inclusive value transfer mechanism, inviting stakeholders from all walks of life. Lucrative perks such as efficient transactional capabilities and unregulated cross-border movement of assets appeal to the undesirable faction of global money movers. However, assessing the intentions and objectives of these pseudonymous players is almost impossible for national probe agencies.

This unregulated movement of capital not only affects the government’s conventional revenue models but also presents an anonymous threat to national security. To negotiate these challenges, the government has put forward a 30% taxation on crypto profits to discourage unceasing crypto investments. Experts are equating these tariffs with a shadow ban on cryptocurrencies. At a time, when fresh players are entering the blockchain with state-of-the-art innovation, a stern attempt at regulation can incite disarray within the mainstream crypto ecosystem.

In the article ahead, we are going to examine the complications involved in regulating a surging class of assets and discuss the viable solutions to steer blockchain potential in the right direction.

Why do Governments Want to Regulate Cryptocurrency?

Moving from ‘The Banning of Cryptocurrency and Regulation of Official Digital Currency Bill, 2019’ to ‘Cryptocurrency and Regulation of Official Digital Currency Bill, 2021’, the government has come a long way in acknowledging the significance of cryptocurrencies in the near future. But the hesitation in clarifying its stance on cryptocurrencies can still be witnessed in every government official statement.

In a recent remark on cryptocurrencies, Mrs. Nirmala Sitharaman, Finance Minister of India, said, “Centre is keen to encourage blockchain distributed ledger technology in the country. However, the government has already warned. I think all of us will have to share our thoughts and move with a bit of caution on this.”

This steep word balancing bespeaks the caution the government has been taking while treading towards anything related to cryptocurrency. As cryptocurrencies are infamous for being a preferred mode of payment in illegal underground activities, the government’s concerns are more than valid.

Reasons that make Cryptocurrency Difficult to Regulate

Cryptocurrencies are pseudonymous by nature and it is not possible to trace down anyone behind the mask of a decentralized blockchain wallet. Anyone in the world can monitor crypto transactions but there is no mechanism to trace back the trails of its origin making it a perfect tool for unauthorized transactions.

These reasons make it critical for the government to regulate the crypto movement. However, crypto regulations come with a separate set of challenges. In this segment, we will discuss the challenges and understand the reasons that make crypto hard to regulate.

Absence of Any Central Authority/ Decentralized

The preeminent ambition of cryptocurrency lies in decentralizing finance by replacing the traditionally centralized institutions. Encouraging the development of a trustless transfer mechanism has a long list of benefits but these benefits come at the cost of an unregulated mode of functioning. Having no central authority makes cryptocurrencies inherently susceptible to market manipulation and generates the lack of an established procedure.

The absence of a central authority compels the investors to trust the unknown with no certainty on any end of the transaction. With no central authority, maintaining the records censoring illegal transactions is not possible. And this is what makes crypto regulation a walk on the tightrope for the government.

No Global Consensus of Dispute Resolution

Cryptocurrencies know no state boundaries and can be transacted from anywhere in the world that has access to the internet. However, this makes it a platform where anyone from anywhere in the world can transact without the need to be bound by the law of any country.

Different countries have varied definitions of crimes and different laws to deal with them. This makes it difficult for national investigation agencies to get their hands on criminals even after having inter-state cooperation agreements and a global consensus. This global consensus is non-existent in cryptocurrencies making it extremely hard for governments to cooperate in sensitive affairs. This lack of consensus and a dispute resolution mechanism does not devise governments to incline toward a mass crypto adoption.

The Role of the Dark Web

Before Bitcoin touched the skies of market capitalization and reached the masses in 2017, it already become a prevalent mode of payment for secretive dealing forums on the dark web. Popular dark web websites and illegal marketplaces were blatantly accepting Bitcoin and other cryptocurrencies for their services. Dark Web websites such as Silk Road accepted Bitcoins for selling guns and illegal drugs and were later taken down by the US probing agencies.

Blockchain technology provides the ideal anonymity required for conducting any illegal transaction as it leaves no trails behind. Governments across the world see the anonymous nature of cryptocurrencies as a direct threat to their national security and an indirect licensing to these illegal activities.

Intangible Nature of Asset

All the traditional modes of investments are backed by tangible products or have adequate intrinsic value to support their market prices. On the other hand, cryptocurrencies are not backed by any tangible asset class or products. This creates confusion about the intrinsic value of cryptocurrencies and the technology behind their value proposition.

With all the financial frameworks dedicated to traditional finance, no models exist for assets with no tangible backing. This creates a severe governance challenge and the development of new regulatory frameworks for blockchain asset class may take its time.

Money Laundering and Terror Funding

Complete decentralization of an asset class discards the threat of judicial actions on any financial offense. Practices such as money laundering and international terror funding have emerged to become the bone of contention for Indian internal security. With the increased facilitation for anonymity, it will become easier for everyone to evade taxes and push the black money back into the markets without leaving any financial traces behind.

These challenges push the government to control the mass adoption of cryptocurrency as it can result in a spike in such fraudulent activities. A clear regulation on the usage, storage, and taxation of cryptocurrency is required to counter these challenges, however, the decentralized modes of transactions are restricting the development of any such structure.  

Decentralized Exchanges

Decentralized exchanges are peer-to-peer marketplaces that allow the transfer of cryptocurrencies without the need of having any intermediatory central authority.  The decentralized crypto exchanges do not need to know the identity of the users, transacting on their platform. The ultimate lack of KYC on the decentralized exchanges creates ideal conditions for an unregulated and unrestricted movement of money with no threads attached to the end user.

On the contrary, centralized exchanges are bound to complete the KYC for all of their customers before they could become eligible to trade over the exchange. The centralized crypto KYCs allows the exchange to monitor the trade and become answerable to the respective authority. They can be regulated with the right approach and a strong will to accommodate cryptocurrencies in the present finance ecosystem.

Lack of Information on Cryptocurrencies

Even though cryptocurrencies have been able to create a space for themselves, it is the lack of quality information that is driving uncertainties in the market. The lack of information in an inherently uncertain market can cause hypertension during price fluctuations. The increased market tensions can incite sudden buying or selling rallies, heightening the market fluctuations, and causing severe damage to genuine investors.

The lack of clarity on the basic functioning of blockchain and how cryptocurrencies gain their value can lead to ill-informed investments and create utter chaos on a bad day for cryptos. Securing investors’ interests in a market that is yet to gain insights into its functioning is not easy and became another hurdle in regulating cryptocurrencies.

Is it Impossible to Regulate Crypto?

Cryptocurrencies are based on blockchain technology which is going to be the undisputable future for all of us. With its decentralized mode of functioning, blockchain has already become the foundation for new-age tech. However, the government has its valid reasons to be willing to regulate the present crypto trade.

As complete decentralization makes it difficult for the regulatory authorities to detect precise asset movement, limiting decentralization is the only viable solution. Promoting the centralized crypto exchanges with a fixed regulatory mechanism and relegating the decentralized crypto exchanges using the right measures will shift the majority of trade to a transparent ecosystem. With the right efforts and right intent, efficient crypto regulation is possible, however, the government is taking its time before making its regulatory move.

The Way Ahead

The future of blockchain technology lies way beyond the mere case of cryptocurrencies. But crypto is going to lead the innovation that we need to evolve our traditional financial ecosystems. Cryptocurrencies offer reduced transactional costs, better transaction speeds, higher security standards, and complete user privacy. However, all the features and benefits combined cannot outweigh the government’s concerns regarding national security.

The present positive stand of the government on blockchain innovation but strict regulation for cryptocurrencies indicates the balance that government wants to strike in regulating an inevitable technology. It is the right mindset and innovation, that can make cryptocurrency regulation possible. We are expecting the government to take all crypto stakeholders into consideration before moving forward with any strong decision.