Are Central Banks afraid of Crypto ? An analysis of RBI vs Crypto Ruling of 4 March 2020

The lessons from regulatory meddling, and judicial push back - An analysis of RBI VS CRYPTO Ruling of 4 March 2020

Supreme Court lifting the RBI ban on Crypto firm banking is a bellwether for opening up a strong crypto market on india

In what is being hailed as a landmark verdict, The Supreme Court of india lifted on 4 March 2020 an RBI ban imposed on all banks and non banking finance companies regulated by RBI vide its circular dated 6 April 2018, from having any dealings with crypto affiliated companies or individuals (including receipt or transfer of money in accounts relating to the purchase or sale of crypto currencies).

IAMAI, the internet and mobile association of india, an industry body representing some crypto exchanges and traders had filed a petition contesting the impugned circular.

The landmark 180 page judgment by the SC held that the blanket restriction imposed by RBI was disproportionate in relation to the risks, and that it curtailed constitutionally protected rights by articles 14 and 19 (1) of crypto entities that were stripped of all options to have banking relationships in india.

During the long protracted fight between the RBI and petitioners including IAMAI, many indian crypto exchanges had to shut shop and some like Zebpay had relocated abroad, barring some like CoinDCX which relied exclusively on a peer to peer trading technology and therefore stayed in business. Wazirx also got acquired by Binance during this dry and circumspect crypto phase.

The court did a thorough review of the history of crypto, and worldwide developments since the publishing of bitcoin white paper in 2008, including the ICO bubble and the many rampant scams, the evolving guidelines by FATF , as well as the many circulars by RBI since 2013 and also its specific responses to the court and petitioners, as documented in the well considered judgment. The highest court has also had the benefit of witnessing efforts by several central banks to issue their own digital currencies, and also positive endorsements for the technology by many Indian regulators of prestige and power such as Securities and Exchange Board of india, SEBI. This is in stark contrast to the initial outright skepticism of the government and its inimical view towards crypto. The judgment highlights the lack of comprehension of the central bank when it remarked “it is a conundrum, how the RBI is positive about blockchain, while not being positive about cryptocurrencies”. This landmark event therefore harbingers a positive crypto sentiment as far as regulatory environment for crypto goes, specially as it comes while the government weighs introducing a legislation to completely ban the trading of cryptocurrencies, which is unlikely to happen now that the judiciary took a strong stand against curtailing individual constitutional rights of the public and regulatory bodies overstepping their powers.

The key arguments that clinched the SC judgment in favour of the petitioners were :

1. Of proportionality

2. Crypto not being legal tender, and therefore not having the potential to directly impact the monetary policy setting ability of RBI

3. RBI not having an ambit to regulate something that is not legal tender or a currency, but may be more in lines of a commodity

4. Many other central banks and regulatory bodies including SEBI in india hailing cryptocurrency as a technology that can herald much needed innovation in capital markets and the relatively insubstantial size of the crypto economy at the moment

On the crux of proportionality, the Supreme Court relied on the below

“While regulation of a trade or business through reasonable restrictions imposed under a law made in the interests of the general public is saved by Article 19(6), Virtual Currencies or VCs do not qualify as money, as they do not fulfill the four characteristics of money namely medium of exchange, unit of account, store of value & constituting a final discharge of debt and since RBI has accepted this position, they have no power to regulate it”.

“The Circular is manifestly arbitrary, based on non- reasonable classification & it imposes disproportionate restrictions. A decision to prohibit an article is a matter of legislative policy & must arise out of an Act of legislature, not by a notification issued by an executive authority of the Constitution. A total prohibition, especially through a subordinate legislation such as a directive from RBI, of an activity not declared by law to be unlawful, is violative of Article 19(1)(g).”

This has some interesting consequences for the worldwide crypto economy, india being one of the largest markets for individuals who dabble in speculative trading such as in stocks and cryptocurrencies, namely :

1. Revival of individual buying and selling of cryptocurrencies, and particularly holding of bitcoin by Indians as long term investment like Gold

2. Emergence of international crypto exchanges in India - Binance already present in India through its acquisition in 2019

3. Arrival of international DeFi firms in India (Decentralised finance such as crypto deposit, lending and collateral firms, online peer to peer lending,

4. India can lead the Capital Markets innovation if supported by SEBI: Indian capital markets being one of the most sophisticated both in debt and equity, offer a unique canvas for Blockchain led innovation in stock exchanges for the listing process, and also in capital raising for the 300 Million plus SMEs

5. India can become the fulcrum of innovation in Decentralised Finance, just like Kenya did for Mobile Payments innovation with MPesa.

Thanks to this judgment, RBI has also invited scrutiny on its appropriate role as a regulator.

RBI is seen as meddling in matters where it has no jurisdiction, or where jurisdiction has been successfully contested by the highest court, and at the same time jettisoning it’s responsibility as regulator where it has explicit jurisdiction, like in matters of public sector bank scam such as at Punjab National Bank, or in dealing with iron gloves when it comes to malfeasance at private sector banks such as ICICI Bank and now Yes Bank.

Ex Finance Minister late Arun Jaitley had stated that “Crypto is NOT legal tender”. This was misconstrued shockingly by many knowledgeable persons like those dealing with crypto regulation at law firms like Nishit Desai Associates, media, and the public at large to mean that crypto is ILLEGAL. By that statement, RBI forfeited it’s right to regulate crypto. See SC argument in 180p judgment below

VCs do not qualify as money, as they do not fulfill the four characteristics of money namely 1. medium of exchange, 2. unit of account, 3. store of value & 4. constituting a final discharge of debt and since RBI has accepted this position, they have no power to regulate it

SC judgment also perhaps unintentionally lays out the argument for RBI accountability in the recent YESBANK failure.

Every banking company is obliged under Section 27(1) of the Banking Regulation Act, 1949 to submit to RBI, monthly returns in the prescribed form, showing its assets and liabilities. RBI is conferred with powers under Section 29A even to call for information about the affairs of any associate enterprise of a banking company. Under sub-section (2) of Section 29A, RBI can even cause an inspection of any associate enterprise of a banking company. A power to conduct special audit of a banking company’s accounts is also conferred upon RBI under Section 30(1B). White Paper on Indian Constitutional Reforms Mar 1933, assumed that a Reserve Bank, free from political influence, would have to be set up and should already be successfully operating before the first Federal Ministry was installed.

It is a marked victory for the freedom to do business in india, as the Government unsuccessfully sought to arm-twist crypto companies through RBI, ironically in contrast to BJP’s averred plank of “ease of doing business” in india. It is a conundrum as to whom the Government or the RBI sought to please, as it repulsed millions of dollars of infrastructure investment by new generation companies like Coinbase, Binance, and existing juggernauts like Intercontinental Exchange and Fidelity that are now investing in UK, Europe, Singapore and Hong Kong in what is estimated to be a trillion dollar economy in future. This will also be a wake up call to Indian legislators, who have been separately mulling a parallel legislation to introduce a complete ban on crypto.

It is amply clear from the judgment that RBI overstretched it’s regulatory oversight role on cryptocurrencies, and deservedly got pushed back. This harbingers well for Indian capital markets and crypto industry in india in the long term, though india is reeling in a shock currently as are the global stock markets due to the Corona virus pandemic that is setting off a cascading melt down and a synchronic global recession.

For context, RBI under the aegis of Dr Raghu Ram Rajan was proactive on studying the impact of crypto on monetary policy, and I was personally invited in the summer of 2014 to deliver a seminar on bitcoin and the impact and implications of cryptocurrencies for the multi disciplinary members of the high powered task force at RBI Head Quarters in Mumbai, followed by a cryptocurrencies workshop we conducted for RBI employees. Dr Rajan had made a rather precocious statement publicly during his tenure that “no doubt, cryptocurrencies are the future”.

Soon, a pall of helplessness enveloped his successor Governor Urjit Patel, who could not prevent the disastrous governmental decision of Demonetisation which was first resisted by RBI in the beginning, later tolerated, and subsequently disowned through Urjit Patel’s resignation. The successor Shaktikanta Das , a non economist has zero regulatory experience, whose only scant qualification for the job seems to be his obsequious, unquestioning kowtowing to the powers who want crypto banned, for reasons beyond the comprehension of this author, and best known to the disastrous eccentricities of the ruling Government who has nothing positive to offer to the economy. It is best they leave the industry and economy alone.

The author Arifa Khan is a crypto pioneer and founder of a capital markets tech platform Himalaya Capital Exchange, based in London. She tweets as @misskhan.

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