The need for legitimate framework for competiting cryptocurrencies

Case study: Quashing of RBI Ban by Supreme Court

The complexity and interdependence of the economies of various geographical and

political entities have one generic binder - money. This article evaluates the legal
framework of cryptocurrency in India. The new currency instrument is abstract
currencies. They are currencies in the sense that they can be exchanged peer-to-peer.
They are representations of numbers, i.e. abstract objects. An abstract currency
system is a self-enforcing system of property rights over an abstract instrument which
gives its owners the freedom to use and the right to exclude others from using the
instrument. Cryptocurrency or virtual currency is a cryptographically protected,
decentralized digital currency used as a means of exchange. Due to the development
of new technologies and innovations, the rate of use of virtual currency is rapidly
increasing throughout the globe, replacing not only cash payments and payments by
bank transfer, but also electronic cash payments. Among the best-known
representatives of cryptocurrencies are Bitcoin, Litecoin and Ethereum. Legal
scholars have not yet reached a consensus regarding the nature and legal status of
virtual currency. Virtual currency possesses the nature of obligations rights as well as
property rights, since it may be both a means of payment and a commodity. Today
there is already an international cryptocurrency community that does not have a
single coordinating center. Only progressive jurisdiction and state regulation of
cryptocurrency activity will allow the creation of the conditions that will ensure the
implementation of legitimate and safe cryptocurrency relations. Based on these
considerations, this paper aims to highlight how the digital currency Bitcoin can meet
the challenges of the economic environment, taking into account both the
opportunities and the threats to which it is subject, and the records emphasized by the
history of economic thought and adapted to the current reality.

Keywords: bitcoin; blockchain; cryptocurrency; e-money; mining; token;

virtual
currency

Cryptographic currencies appeared due to technological progress and the evolution of

money as a completely liquid medium of exchange. Indeed, originally money
fullled the function of the exchange of goods. It was then assigned to gold as the
universal equivalent. The next stage was the transition to paper money, until, today,
we have the emergence of electronic money (e-money).Money is rst and foremost
a social convention, which emerges to build trust between strangers in their economic
transactions, both inter-temporal and in spot markets. A convention of monetary
exchange facilitates valuable inter-temporal exchanges that would not occur
otherwise.
According to this view, individuals who may neither know nor trust each other
choose to settle their transactions by oering symbolic objects-bank deposits or
banknotes, for instance, in exchange for labor, goods and services because they nd
this trading arrangement superior to the available alternatives.[Gabriele Camera et al.,
Money and Trust Among Strangers, 110(37) Proceedings of the National Academy
of Sciences 14889 (2013).]

A monetary system can thus be viewed as a social convention that emerges to

build the trust needed to support valuable economic interactions between strangers.
In a way, condence in the institution of money can shore up the lack of trust in
other members of society. Laboratory research provides some empirical support
for this view.[Gabriele Camera & Marco Casari, The Coordination Value of Monetary
Exchange:Experimental Evidence,6(1) American Economic Journal: Microeconomics
290 (2014)]
Historically, public coincidence in a currency largely referred to the quality of the
coins that formed the basis of the currency. States had an obvious advantage over
private issuers in guaranteeing this quality, not only because they could set and
enforce quality standards more easily than private issuers, but also because states
can internalize the long-run benets of a stable currency, thus strengthening the
incentive to avoid debasements.[Charles A.E. Goodhart, The Two Concepts of
Money: Implications for the Analysis of Optimal Currency
Areas, 14(3) European Journal of Political Economy 407 (1998)]
Digital money or e-money has been around for a long time. The main forms of
e-money are commercial bank reserves with the central bank and the money created
by commercial banks when they make loans.
The past ten years have seen the creation of a new class of digital instruments that
are not issued by a sovereign institution or commercial bank, are not denominated in
a sovereign unit and do not have physical counterparts. Since these instruments may
be used as a currency, they are variously labeled “electronic cash,” “digital currency,”
“virtual currency,” or “cryptocurrency.

What is the Bitcoin?

The digital currency called Bitcoin falls into the pattern of the private currency
described by FA von Hayek, except the cyberspace in which it circulates. The
Bitcoin was issued in the beginning of 2009 by an anonymous entity, working
under the name “Satoshi Nakamoto” after the same entity in 2008 introduced the
concept in a study.
Bitcoin uses a database, relying on 20,000 nodes of a network of peer-to-peer
with the purpose of the inventory of transactions. Cryptography is used, so that
the currency is very often called a crypto-currency. The goal of using
cryptography is to provide the core of the security functions - Bitcoins can be
spent only by the one who owns them and this thing can be done only once (Hall,
2013). The relationship between Bitcoin and a traditional currency is still not
regulated; therefore, the responsibility for the way Bitcoins are circulating on the
market lies to the economic agents who use Bitcoin.
The digital currency can be obtained by:
 The operation called “mining” - the personal computer is programmed to “dig”
for Bitcoins. After the computer solves several problems, the owner will
compete with other users to generate the number that the Bitcoin network is
looking for. If the computer of the concerned person finds the number, then it
will receive 25 at 10-minute period is generated every 25 Bitcoin. It should be
noted the terminology used, which refers to the mining practiced in the heyday
of the gold coin for its extraction. Also important to mentioning that the
“mining” is quite expensive and involves the use of high performance
computers, which use a lot of energy.
 Exchanging Bitcoins with real money, on the assumption that the rate of
exchange is set based on the free meeting of demand and supply (Plassaras,
2013, p. 386). It should be noted that although Bitcoin does not have intrinsic
value, over time, the exchange rate reached highs. Thus, in January 2013, one Bitcoin
was changed to $ 20; on 10 April, the exchange rate reached 266
dollars and after three days it dropped to $ 54 (Husler et al., 2012, p. 305).
 Exchanging goods Bitcoin newly generated (Hall, 2013). Currently/services for
Bitcoin (Plassaras, 2013, p. 386).

Analysing the Judgement of Supreme Court

The Impugned circular was beset by two writ petitions. The first writ petition was
filed by Various Cryptocurrency exchanges (Rajdeep Singh & Ors v. Union of India)
on April 17, 2018. The second petition was filed by IAMAI (Internet and Mobile
Association of India) an organisation operating as a self-regulatory body for OTT
Content Providers.

Key Issues and Takeaways from the Judgment

What is the nature of Cryptocurrencies/ Virtual currencies (VCs) and RBI’s role in
regulating Cryptocurrencies?

The Apex court settled the long-standing debate over the nature of Cryptocurrencies.
While analysing the definitions and treatment of VCs by several jurisdictions and
regulators across the globe, the court held that though the cryptocurrency cannot be
treated a legal tender but they have the capacity of being treated as currency, and if an
intangible asset under certain circumstances has the capacity of being used as
currency, then the scheme of Powers allotted to the RBI under the RBI Act, 1934
allows the RBI to deal with it.
Whether Cryptocurrencies form the part of the credit system of the country

It was held by the court that RBI under Section 3 is the sole body for the
Management of the currency which includes the power to issue bank notes U/s 22(1)
of the RBI Act, 1934 and also plays an important role in the development of
Monetary policy for the country and therefore anything that poses a threat or has an
impact to the financial system of the country can be regulated or prohibited by RBI,
regardless of the activity falling within the credit or payment system. The expression
“Management of the currency” appearing in Section 3(1) also includes something
which is capable of faking or playing the role of the currency.

Whether RBI had the power to prohibit Cryptocurrencies as res extra commercium
and whether the circular was indeed a prohibition on the trading of Crypto or not

The court did not opine that the power of RBI to regulate as given under Section
45JA of the RBI Act does not include the power to regulate and the power to regulate
confers a wide meaning and it shall also include the power to prohibit. The court held
that although the power to prohibit something as res extra commercium (something
which cannot form a part of the commercial activities) is a legislative function and
cannot be executed via an executive fiat, the special role of RBI in the country’s
economic sphere cannot be ignored and it is well settled that RBI has the power to
both frame policy and issue directions for enforcement, and such directions become
supplemental to the Act.

Furthermore, the court rejected the view that the effect of the circular was a complete
prohibition on use or trading of VCs, the circular only affects the entities controlled
by the RBI and directs them to not provide any services facilitating the trade of VCs,
this power is given to the RBI under Section 36(1) of the Banking Regulations Act,
1949 which states that RBI can caution or prohibit the banking companies against
entering into certain types or classes of transactions. Accordingly the court held that
the prohibition only affected those who wish to utilise banking services to trade or
convert the Cryptocurrencies and the online platforms who provided such services in
lieu of service charges or commission from such services, in fact the peer to peer
transactions are still going on.
Can RBI regulate Cryptocurrency exchanges and banks involved in cryptocurrency
exchanges as “Payments system” under section 18 of the Payments and Settlement
Systems Act, 2007?

The Court opined that since under section 18 of the Act, RBI is empowered to make
policies for system providers, system participants, any other person or any other
person or any such agency, and the circular is directed at banks who are “System
Participants” as defined under Section 2(1)(p), RBI has the power to frame policies
and issue directions to banks who are system participants. 

Did RBI reach satisfaction while issuing the impugned circular? Was there
application of mind by RBI?

The court held that it cannot be held that RBI omitted to take relevant consideration
and there is non application of mind while issuing the circular as:

•Since 2013, RBI had been issuing circulars and conducting research on the
emerging advantages and disadvantages of Virtual currencies. The issued
public circulars pointed out the relevant risks and about the highly volatile
nature of cryptocurrencies to any person or entity involved in trade of such
VCs. This sequence of actions taken by the RBI from 2013 to 2018 shows that
they have been working around this issue for almost five years and cannot be
held guilty for non-application of mind.

•Court held that RBI was not required to write a thesis or write a judgement
while gaining satisfaction towards issuance of the circular as there has been a
series of steps taken by them over the past 5 years.

Whether RBI needed to pass a direction only in relation to anonymous VCs and no
other kinds of VCs?

The court identified that VCs can be closed or unidirectional or bidirectional

depending on the schemes with which the entities come up and the question whether
pseudo anonymous VCs should have been left out of the scope of regulation is for the
experts to decide and not this court, hence whether RBI should have adopted different
measures for different types of VCs is irrelevant.

Whether the Impugned circular issued by the RBI will have the same significance as
an executive decision or a legislation?

The court opined that RBI is a special statutory body which holds a vital role in the
economy of the country and it has been assigned certain irreplaceable and
unassignable powers which exclude even the central government “It is a creature,
created with a mandate to get liberated even from its creator” and hence RBI is a
special creature unlike other statutory bodies and in terms of policy decisions made
by the RBI, it cannot be held that such policy decisions, presently the Impugned
circular shall not require any pre judicial deference and putting the policy decision on
a lower scale as to legislative and executive decisions undermines and threatens the
scheme of the RBI Act itself.

Does the issuance of the impugned circular pass the proportionality test and Article
19(1)(g) challenge?

In order to evaluate the prohibition under Article 19(1)(g) the court defined two
categories of trade of cryptocurrencies i.) the purchase and sale of VCs between
individuals or entities and ii.) the business of online exchanges which provide
services facilitating buying and selling, the storing or of VCs in wallets and
conversion of of VCs into real currency, and the buying of VCs can be categorised
as a hobby or a business. The persons engaged in the categories of (hobbyists,
traders of VCs and VC exchanges) do not fall in the ambit of Article 19(1)(g) and
the persons in these categories are not impacted by the circular. However, the
entities falling under the category of running an online exchange/ business shall come
under the ambit of Article 19(1)(g) and they suffered a huge blow from the impugned
circular. Considering these factors, the courts held that since the number of
investors in the Indian crypto market was around 20 lakhs and average daily
trade volume was at least Rs. 150 crores at the time of filing the petition, it cannot
be held that the actions taken by RBI seeing it as a threat can be held to be violative
of Article 19(1)(g).
In order to check the test of proportionality, the court assessed whether there were
lesser intrusive measures available and whether RBI had looked into such measures.
It was observed by the court that RBI has not reported that the trading of
Cryptocurrencies has adversely impacted the way RBI regulated entities function and
that the report submitted by the Inter-ministerial Committee in February 2019 had
submitted that a complete prohibition of Cryptocurrencies shall be a bit extreme.

It was accordingly held by the court that RBI had imposed the circular disconnecting
the lifeline of Cryptocurrency exchanges and trade despite i.) Not finding anything
wrong with how these exchanges operate and ii.) the fact that VCs are not banned.
Since RBI failed to show that there was any damage faced by its regulated entities, it
holds the stand that VCs have not been banned and more importantly since there have
been two draft bills for regulation of Cryptocurrencies which do not recommend any
such prohibition measures, the court held the impugned measure (circular) to be
disproportionate.

Possible Impact of the Judgement on the Cryptocurrency Ecosystem in India

The Judgement has come as a much-needed short term relief to the Crypto-exchanges
inside the country as they will continue their operations. The banks and other
financial institutions (regulated by RBI) could participate in the trade of
Cryptocurrencies and Crypto-assets. However, the judgement has not deliberated on
the benefits of the circulation of Cryptocurrency in the economy, neither does the
judgement say that RBI does not have the power to regulate these Cryptocurrencies.

The potential market of cryptocurrency in India is undisputedly exponential with

immense potential. According to the 2017 study[xx] by PHD Chamber of Commerce
and Industry, the combined trading volumes of all crypto-exchanges could be in Rs.
200-250 crore per month and roughly Rs. 1200-1500 crores worth of Bitcoins are
traded in India. As reported in the judgement itself, India is estimated to contribute
between 2 and 10% of the global asset industry, and the total number of investors in
the Indian Crypto Market was approx. 20 Lakhs and the average daily trade volume
was at least Rs. 150 crores in 2018.

The banks and other financial institutions will be cautious to engage in the trade of
Cryptocurrency as the approach and attitude of RBI and government towards
Cryptocurrencies has not been favourable, and there is no guarantee as to whether
such similar restrictions as imposed through the quashed circular will not be imposed.
India is severely lagging in adopting and promoting the Blockchain technologies and
Cryptocurrencies, and the long-term impact of the judgement on the Cryptocurrency
market shall depend upon what paths the lawmakers and regulators choose.