How a Lack of Proper Regulation Hurts the Crypto Industry
Since the last several years, the cryptocurrency market has been on a rise. Rise in this context does not refer to just the increase in prices of cryptocurrencies but rather that it has gained a lot of popularity and is now backed by some of the largest institutions across the globe, most notably Tesla, PayPal, Square, and a few other financial institutions such as Visa and MasterCard.
Bitcoin was the first cryptocurrency created, back in 2009, just after the 2008 financial crisis. Today, there are hundreds of thousands of other cryptocurrencies that exist and the industry has grown in leaps and bounds since first introduced to the public. Today, more crypto wallets are used than ever before, and terms such as DeFi (decentralized finance), NFTs (non-fungible tokens), and blockchain have come up in frequent conversations, being termed as the next big thing in financial technology.
However, the main issue surrounding cryptocurrencies is the lack of regulation and legislation. Even though the industry as a whole has expanded massively, no country has regulated the industry to the extent that could allow it to thrive and allow seasoned investors to be assured that their investments would be safe. Most of the developed countries in the west such as the United States, United Kingdom, Canada, as well as countries in the far east such as Singapore, Japan, and South Korea are in favor of cryptocurrencies and allow their citizens to buy, sell and mine cryptocurrencies. Most of these countries treat cryptocurrencies as assets that need to be declared while filing taxes and are subject to capital gains tax when sold at a profit.
On the other end of the spectrum, there are countries such as India that are yet to provide any concrete stance on cryptocurrencies. Back in 2018, the Reserve Bank of India (RBI) banned the purchase, store of, and sale of cryptocurrencies in India. This was however reversed by the Supreme Court and since last year, cryptocurrencies are legal to buy and sell in India. However, the main issue is that there is no definite stance from the government, which keeps most of the seasoned professionals from investing. This lack of regulation and heavy speculation that cryptocurrencies might yet get banned in India keeps plenty of institutional investors to stay away from it, hurting the industry as a whole.
What we see in more developed countries is also slightly similar since there is just a base level of regulation that is present. There is no actual regulatory framework that is prevalent that dictates specific laws regarding the use of cryptocurrencies and hence, there is no assurance or guarantee from the government that these are completely safe investments. What a lack of regulation and legislation does is that it keeps seasoned professionals from heavily investing in cryptocurrencies since they do not want to risk their net worth by investing in an asset class that is not backed by anything.
This is probably the biggest obstacle that the cryptocurrency industry faces: the lack of regulation from a public standpoint. For the cryptocurrency industry to truly flourish, both individuals and institutions must engage with it and utilize it for its various uses and treat it like an asset. However, as indicated above, since the industry is currently unregulated, plenty of seasoned individuals such as Warren Buffet, Rakesh Jhunjhunwala, and James Dimon have labelled Bitcoin as a ‘scam’ and a ‘hoax’, having repeatedly indicated that individual investors should stay away from investing in cryptocurrencies if they wish to protect their wealth. For a lot of individuals, hearing such statements is a major reason to stay away from investing in cryptocurrencies. There need to be some steps taken by the government to regulate the industry in order to address such issues.
The absence of regulation means that there is no standard procedure or process on which businesses in this industry need to operate on. They can operate on their own discretion and anyone who invests in these businesses needs to realize that they could lose their complete investment at any given time. Apart from this, there have been several cases of fraud due to a lack of regulation. Retail investors are the most vulnerable in these situations since they can be easily lured into investing in a company that deals in cryptocurrencies, not knowing that they are at a very high level of risk and could face serious financial hurdles if their investment is completely wiped out.
For example, back in November 2019, Bitcoin sank to a low of just under $9,000 when China announced a crackdown on cryptocurrency businesses. Recently, two brothers who ran a cryptocurrency exchange in South Africa fled with $3.6 billion of their clients’ money, claiming that their accounts had been hacked. In 2020, total losses in the crypto sector through fraud and crime equaled $1.9 billion. Such announcements add to further speculation and keep investors extremely vulnerable. Another issue that arises is that cryptocurrencies have unique characteristics that differentiate them from traditional asset classes and hence regulation is not as simple as it might seem. However, not even taking the first step to get somewhere is deeply concerning.
Even though the crypto industry as a whole is growing and expanding, due to a lack of regulation, it has still not integrated into the mainstream market where other asset classes such as equity, debt, commodities, and real estate still rule the space. Cryptocurrency entities that offer crypto related services must get a state-issued license. For instance, currently in New York, digital asset enterprises need to get a BitLicense. However, if the sector as a whole is unregulated and unlegislated, growth will be limited and it will continue to operate in a niche space.
All in all, in conclusion, the crypto industry as a whole suffers from a lack of regulatory framework overseeing it. This, in turn, leaves retail investors who have invested or intend to invest in cryptocurrencies on a knife edge and keeps institutional investors to stay away from it. The big picture is that a lack of regulation limits the growth of this industry and asset class that has the potential to disrupt the way business is conducted and revolutionize the world. For this to change, cryptocurrencies need to be regulated and treated as an asset class in the same way as equity, debt, and commodities are treated and regulated.
Written by Arhan Parikh (arhan.parikh@xumitcapital.com)
