Author: Nafisatu Wiafe Ansah, LLB University of Padova, 2015-2016

Legal Editor: Bader Kabbani, LLM International Commercial and Economic Law, SOAS, University of London, 2020-2021

In recent times, we have seen a rapid surge in currencies that differ from the traditional ones in circulation, cryptocurrency. Cryptocurrency, while spreading rapidly and finding multiple uses in the economies of several countries, does not find a clear and concise regulatory policy in many jurisdictions. This article seeks to look at the phenomenon of cryptocurrency, its characteristics and the European Union’s attempt to regularize it through the Markets in Crypto Asset regulation.

What is cryptocurrency?

A cryptocurrency (or crypto) is a digital or virtual currency, meaning a currency that exists only digitally or virtually and not in physical form, unlike traditional currency[1]. It is characterized by the use of cryptography to secure transactions, instead of the trust system that typifies traditional currencies.[2] Even though the history of cryptocurrency may be traced back to the late 1980s, it gained major traction right in the midst of the financial crisis in 2008, with the creation and subsequent launch of Bitcoin. Thus, when banks were facing one of the most tragic dismays of the financial system, digital currency was paving its way and being marketed as an alternative and more secure mode of financial exchange.

Cryptos, while maintaining some of the fundamental characteristics of traditional currency (such as the ability to be used as a form of payment making it an alternative form of payment; despite the aim to substitute the trust system with cryptograph, cryptos still rely on a certain level of consumer trust), it differs in an important way: Cryptos are decentralized. Indeed, while cash may be defined as “Fiat Money” meaning that it is a currency that lacks intrinsic value but garners its value through the authorization given by the issuing government, hence giving the money legal tender. Cash is, therefore, a highly centralized currency, meaning it is issued, and controlled by a central authority (governments and central banks).[3] Cryptos on the other hand are decentralized (at least in theory). Decentralization in cryptocurrency means that there is no central authority or a government with sole control or decision-making power. Meaning that there is a decentralized network of computers so that biases are minimized.

The decentralization that characterizes cryptos has both positive and negative implications. On one hand, it provides a system that is not founded on trust between operators in the market (where biases or errors in the central authority may have rippling effects on all subsequent trades), and it may reduce points of weaknesses that are present in systems where the over-reliance of centralized authorities may cause, it optimizes resource distribution.

Limitations of cryptocurrency

The decentralization present in the trade of/with cryptocurrency has its own limitation making digital currencies particularly susceptible to certain weaknesses that traditional currency does not experience or experiences on a smaller scale. Crypto is susceptible to being used as a medium for perpetrating criminal activities. In fact, due to its existence exclusively in digital mode, crypto is often at the mercy of the ill-intentioned, especially hackers and dark web operators, who often prefer using cryptos (and blockchain) as a medium of transaction. Another weakness of cryptos is represented by the complex language used in its transactions. Indeed, the language barrier (which is not present in cash transactions) created by the use of codes may pose an obstacle for potential users who are not sufficiently tech-savvy. Finally, cryptos are highly volatile (with Bitcoin and Ethereum being some of the most volatile on the market, despite occupying the biggest portion of the cryptocurrency market); due to the lack of a central authority to control the rates, the price can rise and fall substantially within the span of a few months, and sometimes even days. These, coupled with the anonymity of transactions, irreversibility or immutability of cryptos and the particularly fast pace at which changes occur in the cryptocurrency market make it imperative that these currencies are regulated and that measures (such as information requirements, transparency etc.) are put into place to protect market operators and sanitize the crypto market, especially because it seems that cryptos, and, generally, the use of blockchain-based currencies have come to stay.

The EU’s approach to the regularization of crypto assets

The European Union regulator, in light of the increase in the use of crypto in the European market and the risks it presents, has seen the need to provide regulation of these assets, in line with the regulation of investment in the financial market (MIFID, Markets in Financial Instruments Directive).

The EU’s attempt at providing a uniform guideline governing crypto assets is through the adoption of the Markets in Crypto-Assets (MiCA) Regulation. The purpose of the regulation, which is anticipated to enter into force in 2023 and take full effect in 2024, is to establish a uniform regulation throughout the Union for crypto-assets and related activities and services. This regulation proposes to create a categorization of crypto-assets and subject each sub-category to a different set of requirements proportional to the risks that they entail. In particular, the subcategories would be a) Electronic money tokens (EMTs) which are like traditional money, therefore they are electronic surrogates for coins and banknotes and can be used for payment; b) Asset-referenced tokens (ARTs) which are tokens that reference other assets including fiat currencies for stabilization and can also be used as modes of exchange; c) All other crypto-assets outside of EMTs and ARTs such as utility token (tokens that serve a specific utility in an ecosystem, such as Dash 2 Trade) and non-pegged tokens (tokens whose value is not linked to an external reference like a commodity or fiat money).

In short, this new legislation would provide regulation for crypto-based assets that are not already governed by existing legislation (such as security tokens, already provided for in MIFID 2) by placing certain obligations, such as the obligation to provide a prospectus detailing the characteristics of the specific asset, on service providers and issuers in a bid to protect market operators.

In conclusion, cryptocurrency, blockchain technology and crypto asset have come to stay, despite the previous dissenting opinions of some market operators, and year in and year out garners a lot of investors therefore it is of utmost importance that legislation that protect client, pushes for transparency and makes the market safer are promulgated and adequately applied.

 

BIBLIOGRAPHY

  • Mashatan, M. S. Sangari, M. Deghani, How Perceptions of Information Privacy and Security Impact Consumer Trust in Crypto-Payment: An Empirical Study, 2022.
  • Rejeb, K. Rejeb, J.G. Keogh, Centralized vs. decentralized ledgers in the money supply process: a SWOT analysis, 2021.
  • Gupta and R. Chaudary, An Empirical Study of Volatility in Cryptocurrency Market, 2022.
  • Ghosh, S. Gupta, A. Dua, N. Kumar, Security of Cryptocurrencies in blockchain technology: State-of-art, challenges and future prospects, 2020.
  • Dyson, WJ Buchanan, L Bell, The challenges of investigating cryptocurrencies and blockchain-related crime, 2019.
  • Beck, J. C. Schimke, M. Hörauf, Dr Patrick Scholl, EU Markets in Crypto-Assets (MiCA) Regulation Expected to Enter into Force in Early 2023, 2022.
  • SATOSHI NAKAMOTO, Bitcoin: A Peer-to-Peer Electronic Cash System,2008

CITOGRAPHY

[1] The traditional currency here is intended as Cash or Fiat Money, and not as commodity money such would be the currency that has intrinsic value because it is backed by commodities (like gold).

[2] SATOSHI NAKAMOTO, Bitcoin: A Peer-to-Peer Electronic Cash System,2008

[3] The 2008 financial crisis revealed inefficiencies in the financial system and caused many to question the ability of central banks to promptly and adequately respond to situations of crisis.

 

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