Context: With cryptocurrencies such as Bitcoin gaining popularity among citizens, the Centre has been compelled to take a stance on the legal status of cryptocurrencies.
Background

• The Union Government is said to be considering a proposal to tax cryptocurrency transactions in the country.
• The move would bring cryptocurrency trading, which has till date happened outside the ambit of the law, into the formal economy.

Defying RBI ban

• RBI has been vehemently opposed to the idea of legalizing cryptocurrencies.
• It had banned financial institutions such as banks from facilitating transactions involving cryptocurrencies back in 2018.
• The RBI’s order was overturned by the Supreme Court in 2020, and this led to a tremendous surge in cryptocurrency transactions through exchanges.

Why did RBI propose a ban?

• Financial stability: The RBI has characterized private cryptocurrencies as a threat to financial stability.
• Threat to the sovereignty of Rupee: It perceives cryptocurrencies rise as a threat to the sovereignty of the rupee.
• Beyond regulatory scope: The widespread acceptance of cryptocurrencies could interfere with the ability of the RBI to conduct monetary policy effectively.
• Digital currency in the pipeline: It should be noted that RBI and other central banks are also looking to come up with digital versions of their own currencies.
• Competition of currencies: The rupee or central bank digital currencies may not be able to outcompete cryptocurrencies just because they are digital.

Legislative opinion on Cryptocurrencies

• Not in favour of ban: This week, a Parliamentary Standing Committee recommended that cryptocurrencies be regulated rather than banned.
• Making a legal framework: The Government is also expected to table a bill that clarifies its position on cryptocurrencies in Parliament next year.
• Taxing cryptocurrencies: There is a proposal to classify cryptocurrency exchanges as e-commerce platforms and tax them under the GST framework comes.

Why has the Government chosen to regulate rather than ban cryptocurrencies?

• Popularity amongst Public: The growing popularity of cryptocurrencies among citizens may have played a role in the Government opting for regulation over an outright ban.
• Lack of evident threat: There is no clear evidence of the misuse of cryptocurrencies and their risks.
• Boosting with policy: The Union govt may also not want to kill the nascent cryptocurrency industry which many believe can be a hub for financial innovation.
• Revenue generation: Fiscal revenues can be adversely impacted by the increased tax evasion opportunities that crypto-currencies can facilitate.
• Capitalizing the market: The govt wants to capitalise on the recent surge in the usage of cryptocurrencies to tax them and shore up its revenues.
• Financial innovation: Blockchain technology has multiple uses beyond just facilitating cryptocurrency transactions.

Issues with the ban

• Brain-Drain: Ban of cryptocurrencies is most likely to result in an exodus of both talent and business from India, similar to what happened after the RBI’s 2018 ban.
• Capital inflows will be restricted: If cryptos begin to get mined onshore, they will induce capital inflows.
• Killing financial innovation: A ban will deprive India, its entrepreneurs and citizens of a transformative technology that is being rapidly adopted across the world.

Other generic concerns

• Safety (cyber-attacks and fraud)
• Financial integrity (money laundering and evasion of capital controls)
• Energy usage (outsized energy needs to mine cryptos)

Road Ahead

• There is no doubt that the acceptance of cryptocurrencies by the Government is likely to be limited.
• Thus it can be inferred that cryptocurrency is better classified as an asset rather than as a currency, in order to gain acceptance and avoid a ban.
• While cryptocurrencies may be accepted as speculative assets, it is highly unlikely that they will be accepted as full-fledged currencies competing against the rupee.