Why does the RBI find virtual currencies problematic?
The story so far: On Wednesday, March 4, a three-judge Bench of the Supreme Court of India struck down a 2018 circular of the Reserve Bank of India (RBI), which sought to prevent banks and institutions from dealing in “virtual currencies” — also referred to as cryptocurrencies, an example being Bitcoin — and providing services to those engaged in trading in such currencies. The Court order comes seven months after an inter-ministerial committee recommended that cryptocurrencies be banned, proposing instead that an official digital currency be launched in the country.
Why did the case land in court?
It has its origins in the writ petitions filed by the industry body, the Internet and Mobile Association of India, and several crypto exchanges, their shareholders, and traders. They challenged the RBI circular on many counts. Through that circular, the RBI had forbidden banks from extending a range of services to facilitate individuals and entities in dealing with cryptocurrencies. The list of such services included “maintaining accounts, registering, trading, settling, clearing, giving loans against virtual tokens, accepting them as collateral, opening accounts of exchanges dealing with them and transfer/receipt of money in accounts relating to purchase/sale of VCs [or virtual currencies].”
The petitioners gave instances of virtual currency exchanges shutting down as a result of this circular. There was also a mention of how money lying in the account of one of the exchanges got frozen. The petitioners questioned the RBI’s power in prohibiting trading in virtual currencies; they wondered how the RBI could propose an outright ban when all other stakeholders such as the Department of Economic Affairs, the Securities and Exchange Board of India, Central Board of Direct Taxes, among others, had batted for a regulatory regime; they also challenged the circular on the grounds of lack of proportionality (the idea that regulatory action shouldn’t be disproportionate to the goals such action seeks to achieve).
Why does the central banker find virtual currencies problematic?
This can be understood by how the RBI defined virtual currencies in 2013, which the Court said was perhaps the first time it took note of “technology risks in changing business environment”. The RBI defined such currency, the Court order notes, “as a type of unregulated digital money, issued and controlled by its developers and used and accepted by the members of a specific virtual community”. The absence of a centralised authority running it, seen as a plus by those who back cryptocurrencies, is viewed as a drawback by official monetary systems. There are other factors too. The value of such currencies has been driven purely by speculative impulses, and they have had a volatile journey all along. The anonymity that the system ensures has also been misused in the past, with cryptocurrencies said to enable funding of terrorist operations. There is also fear that it could undermine the monetary system and render policies ineffective. And all these fears are shared by the global financial system.
Why did the Court rule in favour of the petitioners?
Justices Rohinton Nariman, Aniruddha Bose and V. Ramasubramanian set aside the RBI circular of 2018, saying, “It is not possible for us to hold that the impugned measure is proportionate.” Their reasoning was based on the fact that the RBI had not found that the activities of virtual currency exchanges had adversely affected the entities it regulated. This, even as virtual currencies have not been banned in the country. “But the trading in VCs and the functioning of VC exchanges are sent to comatose by the impugned circular by disconnecting their lifeline namely, the interface with the regular banking sector,” the order said.
But while doing so, they have indicated quite strongly that the central bank has the requisite power to regulate or prohibit virtual currencies. They have noted that: “Anything that may pose a threat to or have an impact on the financial system of the country, can be regulated or prohibited by RBI, despite the said activity not forming part of the credit system or payment system.”
Will relief for the cryptocurrency ecosystem be shortlived?
Quite likely. The inter-Ministerial committee had recommended an outright ban on crypto currencies. A draft law was also put in place. This verdict may not have changed the direction in which our policymakers want to go with respect to cryptocurrencies. The Economic Times has reported that the RBI is planning to file a review petition in the Supreme Court.