Is cryptocurrency the same as virtual cash or not?
According to Coinmarketrate.com, there are currently more than ten thousand virtual currencies such as Bitcoin. Some of them are suitable as a means of payment, others are suitable for trading. In addition, new virtual and cryptocurrency investment opportunities are emerging in products such as NFT (non-interchangeable tokens), or DeFi (decentralized finance). Almost all of these products are based on blockchain technology. On the Internet, the exchange of virtual assets across state borders is possible in a matter of seconds.
Many people who are beginning to be interested in the crypto sector are wondering whether cryptocurrencies are anonymous?
At first glance, the world of cryptocurrencies seems limitless. Virtual gold is mined, for example, on servers in Asia, and then traded on virtual exchanges in the Caribbean Islands. If you believe the supporters of the crypto industry, then in the future it will happen anonymously. This means that, unlike cash, there is no state supervision, and there is no need for a central bank.
However, practice is moving further and further away from this supposed freedom. Because a global market is developing out of a niche market, in which institutional companies are increasingly finding themselves. In addition to the payment function or pure speculation on the exorbitant price growth, investors also use crypto and NFT as long-term investment products. Thus, regulatory or supervisory standards are also becoming a criterion here, and are becoming increasingly important.
Consumer Protection when Using Crypto Assets
Thanks to the indescribable speed of innovation, the virtual market is basically ahead of its time in the field of regulation. Responsible national authorities and legislators often follow the rules only after a long delay. However, some recent events have led to the fact that protective mechanisms and transparency criteria are gaining momentum. For example, in April of this year, a well-known American stock company announced that investors can invest up to 20 percent of their companies’ retirement savings in Bitcoin. This caused criticism from the responsible supervisory authority, which classifies the product and such a high coefficient as a risk for long-term, value-preserving investments. Especially against the background of the fact that most Americans receive their retirement savings from private retirement savings plans based on the capital market. One of the reasons for the authorities’ concern is that record high prices for cryptocurrencies are not accompanied by real demand.
In Europe, the relevant supervisory authorities also do not believe that cryptocurrencies meet these requirements. ECB President Christine Lagarde refers to the crypto market as the “Wild West” and notes that cryptocurrencies are too volatile to represent the main functions of money. Lagarde draws parallels with the mortgage crisis in the United States (2008), which led well-known banks to bankruptcy. As a result, private investors suffered huge losses. At the end of the first quarter of 2022, to the ECB’s delight, crypto assets experienced a collapse, and lost several hundred billion dollars in value.
And therefore, at the beginning of the second half of 2022, the EU proposed a framework program that will regulate crypto assets for the first time, including reporting requirements to combat money laundering.
Europe sees itself as a pioneer
The EU has agreed on a unified regulation of the crypto space. Stricter rules now apply to service providers. However, there is no expected fatal blow for Bitcoin.
For many years, EU politicians have been arguing about the regulation of the cryptocurrency sector. During the preliminary approval of the directive, known as MiCA (Markets in Crypto Assets), the Parliament, the Council and the Commission came to a consensus. The industry has been following the developments critically.
In March, the debate on banning cryptocurrencies based on the Proof-of-Work method caused discontent. De facto, this would mean the end of Bitcoin in Europe. Proof-of-Work consensus mechanisms consume a lot of energy and are therefore considered harmful to the environment. However, the politicians abandoned the ban plans.
A press release from the European Council states that the focus is on consumer protection. The new rules are expected to come into force at the end of 2023. The new regulations include the following points:
- Stricter control over stable coins
Issuers of stablecoins must be able to prove that they have deposited sufficient reserves for the issued coins. Stable coins should be backed one-to-one by another asset, such as the dollar. Therefore, they are always worth one dollar. In the future, the suppliers of stable coins will be under the supervision of the European Banking Authority (EBA). However, this applies only to issuers with European headquarters.
How problematic stablecoins can be was shown three months ago: in mid-May, the TerraUSD stablecoin lost its peg to the dollar. This was one of the reasons for the collapse in the cryptocurrency market.
In the future, crypto asset service providers (i.e. brokers and exchanges) will need a license to be eligible to do business in the EU. Accordingly, within three months, national authorities, such as the Federal Financial Supervision Authority (BaFin), must first issue a license. Then they have to transfer the information about the providers to the European Securities and Markets Authority (ESMA).
- Crypto Companies Must Disclose the Ecological Balance
In the future, cryptocurrency providers will also be required to disclose the ecological balance of the assets they issue. ESMA will have to figure out what methodology crypto companies should use to assess the environmental footprint of assets, and how exactly they should inform investors about this.
In addition, within two years, the European Commission should formulate a report on the impact of cryptocurrencies on the environment and minimum standards for the sustainability of these assets. They should also be unambiguously applied to cryptocurrencies based on the Proof-of-Work mechanism.
The problem is that not every cryptocurrency is issued through the company. In the case of Bitcoin, there is simply no specific contact for the largest cryptocurrency.
- No rules for NFT
Non-interchangeable tokens quickly took their place in the world of investments. However, they are exempt from MiCA regulation, at least for the time being. As the law says, the European Commission must evaluate the asset class and prepare a proposal for NFT regulation within 18 months.
- Anti-money laundering
Cryptocurrencies such as Bitcoin are considered by the ECB to be a popular means of payment for criminals. With the help of the MiCA directive, the EU also wants to fight money laundering, and for this purpose has supplemented the regulations on the transfer of funds, and has begun the formation of a new supervisory authority.
It is designed to significantly complicate the conduct of anonymous crypto transactions. Providers will be required to collect information from the sender and recipient, and report transactions from so-called non-hosting wallets, in the amount of 1,000 euros or more. With the help of such a non-hosting wallet, crypto holders store their cryptocurrencies independently, and not on crypto exchanges such as Binance or Kraken.
Initially, it was planned that each transaction should be reflected in the report, regardless of its cost. The MiCa directive now stipulates that the European Banking Authority should create a public registry of crypto providers that do not comply with these rules.
Cryptocurrencies as a source of tax revenue for states
In the US, government agencies see not only risks, but also opportunities for virtual currencies as a source of income, for example, to finance infrastructure packages. The government expects eleven billion US dollars in tax revenue from digital transactions. The IRS reminds tens of thousands of Americans about tax liability for income from crypto transactions. Current versions of the tax form in North America explicitly ask for such transactions. Brokers and exchanges there are subject to extensive reporting requirements to the tax service.
Summing up
Cryptocurrencies are developing in the direction of a mass product. Anonymity in cyberspace is already a vision. Regulators and politicians will pay even more attention to consumer protection issues. Stricter taxation and regulatory costs will also reduce the once exceptional returns from these forms of investment.
Crypto-finance still has a long way to go to replace cash, which has gained recognition, primarily due to the trust of the general population. Currently, in the face of rising inflation, crypto assets are also losing value, and for many they are not a reliable inflation hedge. But, this is in the short term. And as for the long-term, we’ll wait and see.