Cryptocurrency: The Role Of Law In The Digital Economy
AUTHOR: GREGG YINKA-GREGG
Student (LL.B), Faculty of Law, University of Lagos.
INTRODUCTION
Certainly, one emerging area that has gradually built up some interest in the attention of critical stakeholders in the finance sector has been the consequential effect of digital currencieson the global economy. With the advancement in technological innovations and the widely publicised policy of going cashless, it may therefore mean that the surge in the use of digital currency, will overtime come to stay. The implication of this poses a large question on the role of law in ensuring that there exists a proper regulation to mitigate whatever inadequacies that may arise.
The term ‘digital economy’ may be described as the worldwide network of economic activities, financial services and commercial transactions that are enabled through the use of information communication and technologies (ICT). It reflects the largely reported move from the third industrial revolution to the fourth industrial revolution. Ordinarily, ‘economy’ is said to refer to the state of a country in terms of its production and consumption of goods and services, including the supply of money. This therefore underlines the significance of the supply and control of money in any country to determine its economic status.
With respect to the term ‘cryptocurrency’, Ryan Farell describes cryptocurrency as a “virtual coinage system that functions much like a standard currency, enabling users to provide virtual payment for goods and services free of a central trusted authority”. Indeed, Cryptocurrency is an (encrypted) type of virtual currency, unassociated with any country’s legal tender but is considered as digital money accepted by specific persons for the payment of transactions online. Two major factors distinguish cryptocurrency from other digital/virtual currencies: the use of cryptography to secure its transactions and the use of a decentralised control in its distribution. It is these factors above that distinguishes Bitcoin, a cryptocurrency from other virtual currencies like- ‘flooz’ and ‘E-gold’, which are now defunct.
OPERATIONS OF DIGITAL CURRENCIES IN THE DIGITAL ECONOMY
Indeed, the widespread awareness of digital currency only came to the fore, as recent as 2009 upon the introduction of Bitcoin. Prior to this time, there has existed a variety of digital currencies that have swept the online community. They were however unable to attain the same level of success and continuity in operation like Bitcoin has. ‘Flooz’, ‘InternetCash’, ‘E-gold’, DigiCash’ and ‘Beenz’ are some of the very many examples that can be referenced in terms of how they set a precedent in the operations of digital/virtual currencies, in e-commerce transactions. With respect to ‘Flooz’, users who had acquired the flooz-credits were permitted to redeem them for merchandise at a variety of participating online stores. These credits were distributed through promotional bonuses given away by some internet businesses or through direct purchase from the flooz website. Most of these currencies which preceded Bitcoin have now become defunct (largely due to their inability to dominate in the exchange of online commercial transactions).
In September 2014, eBay a multinational and one of the world’s largest e-commerce corporations announced that it would be accepting payments in Bitcoin. This announcement followed the approval of PayPal to also recognise payments in Bitcoin. This therefore gives an instance of the calibre of the over 100 different global firms, including Amazon, Apple (App Store), Bloomberg, Dell and Microsoft that accept payments in Bitcoin. Surely, with this level of recognition by multinational companies, the relevance of cryptocurrency cannot be ignored.
As would soon be highlighted, it must at this point be mentioned that one persistent issue that has been associated with digital currencies is the fact that they are mostly used for illegal ventures. A prominent example can be seen through the use of ‘e-gold’, which before its defunct was heavily investigated by the U.S. FBI. It has overtime been observed that as a result of the faster means in carrying out transactions, coupled with the protection of parties’ physical identity, cryptocurrencies are more notorious in illegal transactions.
DECIPHERING CRYPTOCURRENCY
Cryptocurrency, as has earlier been described has attained a level of global awareness that requires attention. Its genesis can however be easily traced to the introduction of Bitcoin. Bitcoin, the world’s first decentralised digital currency was launched in 2009 by a mysterious person known only by the alias- Satoshi Nakamoto, whose true identity is still unknown. Since then, the value of a single bitcoin has fluctuated widely, reaching a high of around $1,000 in late 2001, before falling to less than half that level, and then rebounding in 2016. In 2016, bitcoin was widely projected to have a market capitalisation of about $8million.
The basic teachings from economics highlights one significant fact, and that is for an object to be capable of being described as (fiat) money, then it must meet up to a certain threshold. Thus, it must be widely accepted as legal tender, it must be trustworthy and it must have a relatively stable value. Bitcoin, (being the predominant cryptocurrency) is hardly any of these things, yet it has attained a status of universal consciousness. Although the underlying reason for the initial patronisation of Bitcoin is unknown, Bitcoin as well as other cryptocurrencies have peculiar advantages over fiat money and online bank transfers. The most distinct advantage is that it allows for user anonymity, which makes purchases using bitcoins discrete and difficult to trace. Users are rest assured knowing that their purchase through bitcoins are secured and never associated with their personal identity. Another advantage can be derived from the fact that bitcoin transactions are protected from third-party interruptions, particularly from the government. What this means is that financial institutions and government agencies would find it highly difficult to freeze bitcoin accounts, during instances of financial crimes prosecution. Also, owing to the reason that bitcoin transactions are free from third party interruptions, an additional advantage is that purchases are generally free from taxes. Furthermore, the existence of a ridiculously low transaction fee in bitcoin transactions makes it an added advantage when made in comparison to standard wire transfer and foreign purchases (which carry high bank charges and exchange costs).
Irrespective of the fact that it is the most recognised cryptocurrency, Bitcoin is not alone. Since the creation of Bitcoin, other numerous cryptocurrencies have been created, such as: Litecoin, Ripples and Ethereum. These cryptocurrencies are largely referred to as Altcoins, as they provide a slight blend of Bitcoin alternative. In fact, as at June 2017, the combined capital market capitalization of (all) cryptocurrencies is said to be larger than US$100 billion.
Normally, critics like the writer herein would suggest that the hype around Bitcoin be ignored. This is upon the premise that ‘Beenz’, ‘Flooz’, ‘DigiCash’ and the likes have set a precedent that digital currencies never last long enough. On the other hand, when one considers the longer span in which Bitcoins have lasted, coupled with its recognition by multinational companies and the innovation of Bitcoin ATMs, this raises tremendous concerns. Already, reports indicate that there are a total of 800 Bitcoin ATMs in the U.S., with negotiations taking place in other countries to spread these innovative machines. Bitcoin ATMs “enables both the purchase of Bitcoin as well as the redemption of Bitcoin for cash” and further reports have raised worries concerning the growing trend of using these ATMs for money ‘muling’.
LOOPHOLES OF CRYPTOCURRENCY
Cryptocurrency, within its short span of existence since 2009, has attained quite an enormous dominance. However, notoriety of its use is particularly associated with illicit activities which creates deep concerns and questions whether innocent users of this digital currency can ever be free from its inadequacies. The end-to-end encryption of transactions through Bitcoin, which allows for users’ identity to be protected, coupled with the absence of a centralised source of distribution, makes cryptocurrencies (such as Bitcoin, Litecoin and Ethereum) the hub of criminal and illicit transactions. Numerous examples of the inadequacies of cryptocurrency can be made. This therefore suggests that relevant authorities have so much to do, in order to put appropriate regulations that would protect affected areas.
To start with, the issue of fraud has been a dominant bottle-neck frustrating the operation of cryptocurrency (by genuine users). This has so far led to FINMA, the Swiss Financial Market Supervisory Authority to shut down the operations of three companies connected to fake cryptocurrency. These companies accepted funds amounting to at least 4 million Swiss Francs from several hundred users. In fact, in 2013, just after 4 years of existence, $5 million worth of Bitcoin was reported to have mysteriously vanished without any account. This led to the shutdown of Global Bond Limited, a Chinese Bitcoin trading platform.
The aforementioned are just some of the very many different examples the introduction of Bitcoin has caused to advance fraud. In 2014, a U.S. court in the case of SEC v Trendon Shavers pronounced that the defendant was guilty of security fraud after he solicited investments from innocent users of Bitcoins by promising them high returns and then diverted the funds received for personal use. The court regarded this action by the defendant as a Ponzi scheme and mandated the payment of more than $40 million in disgorgement. Sill, one of the most outrageous headlines relating to fraud in Bitcoin was when ‘Mt. Gox’, the then world’s largest Bitcoin exchange as at 2014 filed for bankruptcy after it announced that it had lost approximately $500 Million of their customer’s Bitcoin due to an alleged theft.
Cryptocurrency has also gained notoriety with its affiliation with online black markets, where items, such as hard drugs are sold. One of the prominent marketplace was ‘Silk Road’, an anonymous network. Once accessed, users could purchase anything- drugs, porn, fake driver’s licenses- so long as payment was made in Bitcoin. Little wonder it was termed “the internet’s Wild West and the eBay of vice; a haven for drug dealers, gun runners and document forgers”. Such networks protect users’ anonymity, which in turn makes users to escape the reach of law enforcement agencies.
Money laundering is also a prevalent downside associated with the use of Bitcoin. This is so apparent, that there is/was even a website named ‘bitlaunder.com’. The company operating using this website claims that they possess expertise in ‘laundering Bitcoin’ and “use the most sophisticated methods available to completely anonymise Bitcoins and obscure their history from forensic tracing”. Without doubt, the features of Bitcoin has afforded it the luxury to be used in money laundering. For one, bitcoin does not require customer identification and the exchange of this cryptocurrency is not strictly regulated by law to mandate the documentation of the transaction of its users. Added with the fact that Bitcoin is decentralised in nature, criminals can easily channel money through the use of Bitcoin, in order to clean the dirt off the source of their wealth.
At this point, it must be mentioned that owing to the anonymity of Bitcoin, it offers a lot of attraction to different personalities with criminal intent who would want to hide behind the protection this cryptocurrency offers. A prominent example may be made from the widely reported kidnap of Hong Kong tycoon, Wong Yuk-Kwan, (Chairman of Pearl Oriental Oil Limited). The oil magnate was held hostage on September 2015 to a ransom of 70 million HKD in the form of Bitcoins. Instances like this surely give great worry that in no time, kidnapers in countries like Nigeria may take the cue in order toadvance the method of their operation.
It is on the premise of the aforementioned that Jamie Dimon, the CEO of JP Morgan Chase has warned that Bitcon is a fraud that will ultimately blow up. The business tycoon criticised the longevity of the currency, warning those who cared to listen that Bitcoin is a limited market only fit for use by drug dealers and murderers. To him, the currency is not going to work for the long term, as it is one invented out of thin air.
FILLING THE LEGAL VACUUM
Upon a critique of the loopholes cited above, it is obvious that the law needs to take a stronghold and establish strict dominance, so as not allow the inadequacies of the use of Bitcoin and other cryptocurrencies reign supreme. To this, there has been numerous propositions by international legal jurists and scholars in finance and technology. However, it is the writer’s proposition that the basis of such regulation by proposed laws should focus primarily on preventing loopholes from penetrating the Nigerian economy so as to protect our already fragile economy from leakage.
The introduction of Bitcoin has seen very different approaches undertaken by the several nations of the world. While some countries have embraced the use of Bitcoin and other virtual currencies as a medium for the exchange in transactions, other nations have issued a strict ban on the use of these forms of digital currency and a few have not maintained an assertive stand as to the status of cryptocurrency in their country. To this, nations like Japan accept the use of Bitcoin, even going as far as recognising it as legal tender. Other countries like the USA, Canada and Australia recognise the use of Bitcoin within their terrains, subject to certain regulations. At the far opposite end, nations like Bangladesh reject the use of cryptocurrency and have extended this policy by passing a law in 2014 which states that anybody caught using virtual currency could be jailed under the country’s strict anti-money laundering laws. Similarly, countries such as Iceland, Bolivia, and Ecuador (which has plans to create its own digital currency) have banned cryptocurrency.
Interestingly, the definite stance of Nigeria is not certain. Earlier in 12 January 2017, the CBN issued a directive informing Nigerian banks that all transactions in Bitcoin and other virtual currencies have been banned in Nigeria. The CBN directive explicitly pointed out that: “Transactions in VCs are largely untraceable and anonymous, making them susceptible to abuse by criminals, especially in money laundering and financing of terrorism”. Later during the course of the year, the CBN played hosts to a number of events for advocates of cryptocurrency. This later spurred the CBN in August to announce that an agreement was reached which will try to adopt the use of Blockchain and Cryptocurrency. Thus, despite the directive earlier given by the CBN, the use of Bitcoin and cryptocurrency generally has not been banned and it seems the government would instead take a regulatory approach.
Perhaps, a cue can be taken from the financial regulatory framework set up by the New York State Department of Financial Services in the USA. Under this jurisdiction, stakeholders interested in operating Bitcoin companies are required to obtain a license. The issuance of this license is given upon the satisfaction by the rendering authority that a business entity possesses sufficient public trust. The introduction of the requirement of licensing has so far driven more than 10 different cryptocurrency companies out of operations in the State of New York. On the other hand, the Internal Revenue Service (IRS) in the US, in order to influence disclosure of transactions has subjected cryptocurrency to tax (capital tax gains). This move was necessitated because of the increasing value in Bitcoin and other cryptocurrency, which makes investors rush into them for profit-making purpose. This move has however been criticised by certain Tax enthusiasts on the premise that the anonymity of Bitcoin and Altcoin allow users to hide their funds and evade taxes without reporting to the IRS. More so, the decentralised nature of cryptocurrency further ensures that restrictions or bans on it are difficult to enforce.
Nevertheless, what can gauge this wild “joker card” possessed by the anonymity and decentralised nature of cryptocurrency is the presence of international coordination. A joint operation in the regulation of cryptocurrency by all nations of the world would ensure that transactions through the use of bitcoin can be tracked and money laundering and fraudulent activities would be more noticeable irrespective of the distance that may exist between the “giving and receiving” jurisdiction. It is therefore important that while countries, particularly the developing ones be wary of allowing cryptocurrencies penetrate into their economic system, they should ensure at the same time that they strictly regulate it. This is so as to benefit from its advantages and protect itself from its inadequacies. It was the recognition of striking a balance in this dilemma that informed the decision of Vietnam to turn back on its decision to ban cryptocurrency. This decision was informed when the country found that its ban was robbing it from investments. The country currently seeks on streamlining the industry so as to be able to tax, monitor and eliminate any negative impact.
It is on this premise that the reconsideration of Nigeria’s CBN- to ban the operations of Bitcoin and other cryptocurrencies, while at the same time engaging stakeholders to understand the peculiarity of this growing form of currency- is a lauded step taken.
Conclusively, taking a cue from the 2002 OECD Report on the ‘Future of Money’- on the positive side digital forms of money could help to create more efficient and more global economies and societies. On the negative side, tomorrow’s new forms of money could make it easier to engage in anti-competitive behaviour, exacerbate exclusion and inequality; foster economic volatility; facilitate criminal activity; and even undermine the effectiveness of macroeconomic policies.
Personally, it will be suggested that the faceted value of bitcoin and other cryptocurrencies are based on an illusion that poses to act to the detriment of the public when widespread use results. Its high tendency to be unregulated and immune from government control poses a far greater challenge. Nevertheless, with the growing likelihood that bitcoin would form a core medium of exchange in the global market, it places a mandate on the CBN and other stakeholders to research and find ways by which an appropriate framework can be built to protect the Nigerian economy.
Gregg Yinka-Gregg (Yinka-Gregg Gregory) is an Executive Editor in the Unilag Law Review. He possesses specific research interest in the areas of maritime and oil & gas law, with a general curiosity for emerging areas of law. He can be contacted via mail on greggyinkagregg@yahoo.com
1 Comment
This is such a brilliant article Gregg! Impressive analysis and well-researched. I enjoyed reading this.
However, don’t you think ignoring bitcoin is not going to completely faze out the digital currency rave and its collapse will not prevent a new digital currency from emerging? Seeing as the effect of its collapse could lead to dire economic consequences globally, should Governments not adopt a unified, regulatory approach? This is seeing as it’s effects are cross border and such an approach would not only confer legitimacy but also help it grow into ‘money’ in the strict economic sense of the word.