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INDUSTRY OF THE NEWInside Australia’s Digital Currencies Market

2 INDUSTRY OF THE NEW

Digital Currency Exchanges (DCEs) operate at the heart of a rapidly developing industry. They are built on emerging technologies, evolving in multiple directions, with the potential to disrupt the financial system as we know it.

Individual digital currencies – including Bitcoin, Ethereum, Ripple, Litecoin and dozens of others – have shown high short-term volatility, compared to the world’s major fiat currencies (as well as most securities and other asset classes). However, many have followed a persistent upward trend over the longer term, while prevailing over several threats and setbacks in their formative years.

The industry has developed much faster than any national or global regulations. But as Australian regulations begin to catch up, a new level of adoption and maturity is now evident. In Australia, 2018 appears to mark the beginning of a new era for digital currencies.

“We’ve got an environment today where returns on traditional assets are pretty weak, and so people are looking for other opportunities,” says Nicholas Giurietto, CEO and Managing Director of ADCA, “but that’s within an underlying trend, where more and more people are beginning to understand the value of what the technology does, and so now want to get involved.”

Australia’s digital currencies market has been growing at an exponential rate over the past 12 months. Joint research from Accenture and the Australian Digital Commerce Association (ADCA) reveals the true scale of the market for the first time, while exploring the challenges, opportunities and expectations of those at the heart of the industry.

“The challenge for our industry is the pace of change and the incredible speed at which new technology is either added or expanded upon – keeping up is hard, even for a start-up.”Jonathon Miller, Managing Director, BitTrade

INDUSTRY OF THE NEW 3

It was evident in 2017 how nimble and resilient DCEs need to be to grow and thrive in this emerging marketplace. In February 2017, the average value of a cryptocurrency trade was AU$230; by the end of the year it was circa AU$1,800. The month of December 2017 alone accounted for 59 percent by value (and 48 percent by number of transactions) of all trading activity recorded by participating DCEs for the whole of 2017.

“No one expected the growth to ramp up as quickly as it did,” says Adrian Przelozny, CEO, Independent Reserve. “It was a challenge for the whole industry, not just in Australia but worldwide. We saw a lot of exchanges have outages, or stop accepting new registrations.”

AN ESTIMATED $5.9BN CHANGED HANDS VIA AUSTRALIA’S DCES IN 20171

DCEs help individuals and institutions buy and sell digital currencies, much like the trading platforms, clearing houses and bourses that exist for tradable securities, commodities and contracts.

December 2017 saw 59% of the total trading value – and 48% of the total transactions – for the whole calendar year.

1,200,000

1,100,000

1,000,000

900,000

800,000

700,000

600,000

500,000

400,000

300,000

200,000

100,000

0

1,300,000 Value tradedNumber of transactions

DEC 17

MO

NTH

LY N

UM

BER

OF

TRA

NSA

CTI

ON

S

MAR 17

$28,

891,8

47

MAY 17

$91,9

36,2

19

JUN 17

$144

,60

8,11

3

JUL 17

$91,0

30,3

09

AUG 17

$159

,685

,590

SEP 17

$192

,336

,40

2

OCT 17

$174

,110,

256

NOV 17

$670

,113,

132

FEB 17

$12,

680,

420

APR 17

$20,

598,

776

JAN 17

$14,

727,7

24

$2,3

31,4

55,2

00

Total trade values and transactions per month in 2017


In Australia at least, it has also been down to industry leaders and associations lobbying—and collaborating with—government to start bringing the digital currencies market under similar regulatory governance as other parts of the financial sector.

The first major step in this direction came into effect in early April 2018, when it became mandatory for DCEs to be registered with the Australian Transaction Reports and Analysis Centre (AUSTRAC). This means that all Australian DCEs have to comply with a range of anti-money laundering (AML) and counter-terrorism financing (CTF) prevention processes, in line with other financial service providers.

For the larger players in the industry, there won’t be much to change, as most are already exceeding the new regulatory requirements. This has been down to coordinated self-regulation over recent years, largely driven via ADCA, which requires member organisations to adhere to an audited code of conduct.

“I think the vast majority of the industry has already been doing the right thing for a long time,” says Przelozny, “but we lobbied AUSTRAC to regulate the industry, and they were a little bit surprised that we wanted to get regulated – most industries don’t. However, we felt that it was very important for the industry to take it to the next level. Now we have AUSTRAC oversight, our practices are not just guaranteed by our word; we can point to the regulator, the audits, and that gives more confidence to our customers and our partners.”

REGULATING DIGITAL CURRENCIESThe past 12 months have shifted the trajectory of digital currencies towards mainstream financial markets. This has not only been due to rapid growth.

What percentage of your customers trade against an Australian bank account?

What percentage of your customers have an Australian address?

For what percentage did you request customer ID verification documents?

For what percentage did you conduct an external check with an ID screening service?

What percentage declined to provide ID verification documents?

98%

98%

87%

71%

12%

Percentage requesting customer ID verification documents


These sentiments are echoed across most of the industry. “Before (the AUSTRAC regulations), if you were running a bitcoin business you were, in some people’s eyes, essentially operating an unregulated bank,” says Rupert Hackett, CEO of Bitcoin.com.au. “Now we can start to offer services that have some regulatory standardisation and that will be very positive and create a lot more trust in the ecosystem.”

Regulation is therefore a process of protecting, standardising and legitimising the digital currency industry. Behind the scenes, the way DCEs, ADCA and AUSTRAC have collaborated over the development of the regulations has been impressive.

“A lot of regulated sectors focus on the impacts of compliance costs and the regulatory burden,” says Richard Bunting, Director, Policy and Guidance, Strategic Intelligence and Policy at AUSTRAC. “This sector has taken a different approach: they’ve encouraged the regulation of the sector in order to give it legitimacy. They see regulation as a means to promote consumer confidence. We’re finding that the digital currency sector that we’re dealing with is very open. They see it as a two-way street. It’s about their legitimacy and protecting their reputations. And ADCAs done the right thing as an industry body and introduced a certification process to reinforce and maintain professional standards.”

The process of creating the regulations involved just as much learning for AUSTRAC as it did for the DCEs. AUSTRAC was given intimate access to how the technologies and business models operate within the digital currencies space.

This included demonstrations across the agency about the day-to-day operations of a digital currency exchange, the types of processes in place, the risk framework and the underlying technologies. “The idea is that we work together to try and understand each other’s needs and expectations,” says Bunting. “We gave them the context of AML/CTF regulations, explained the obligations and what needs to be done to manage and mitigate money laundering and terrorism financing risk. We worked through the processes – even through the legislation, to show how we arrived at particular points within the framework. We’ve been working with the sector to try and improve and understand risk, and how we can manage that risk much better jointly. Collaboration is integral to the whole process.”

“We’ve actually encouraged regulators that we speak to in other jurisdictions to adopt a similar approach (to ours in Australia) because we have learned a lot from the industry, and progress has been made as a result of working together and building trust.”Richard Bunting, Director, Policy and Guidance, Strategic Intelligence and Policy, AUSTRAC

“The approach of some banks has been very cautious to date, limiting banking services to exchanges,” says Aub Chapman, an independent consultant, ex-career banking executive and Co-Chair of the Association of Certified Anti-Money Laundering Specialists (ACAMS) Australasian Chapter. He says the attitude of the banks is likely driven by their experience with the remittance sector, which presents higher risks for either money laundering or terrorist financing purposes – as money is moved across borders outside of the mainstream banking system. “I expect the relationships with banks will change now that the exchanges have to follow much the same AML/CTF checks as banks do,” he says.

For start-ups in the industry, not knowing whether or not you can depend on banking services adds an extra level of challenge to businesses that already have a fair share of uncertainty. “The banking sector here has been very resistant to open engagement with cryptocurrency companies and we’ve had to work very hard on our banking relationships,” says Jonathon Miller, Managing Director of Bit Trade.

CHANGING THE RELATIONSHIP WITH BANKSRegulation is expected to change the relationship between DCEs and Australia’s major banks.

BITCOIN(BTC )

$1,863,877,084 RIPPLE(XRP)

$565,685,138

BITCOINCASH (BCH)

$374,448,919

ETHEREUM(ETH)

$711,895,408

LITECOIN(LTC)

$330,178,441

ETHEREUMCLASSIC (ETC)

$67,500,428


Trading volume by currencyBitcoin dominates, but over $500 million was traded in both Ethereum and Ripple in 2017


“(The new regulations) should completely transform the way the banks relate to the exchanges,” says Giurietto, “Whether it will or not, is another question. AML/CTF has been a threshold question for the banks, but now, from a compliance point of view, the exchanges operate in an AML/CTF regime that is essentially the same as the regime that the banks have. The idea is that if it’s good enough for the banks themselves to operate to these standards for their own transactions, then they should have no problem working with an industry that has much the same standards.”

Banks may also see opportunities in the cryptocurrency arena, and as the market grows, there are certainly greater incentives and more opportunities to scale up what is possible with digital currencies.

“Each bank has its own risk appetite and a risk rewards equation that they have to evaluate,” says Przelozny, “The industry is growing quite large and so the potential rewards are certainly increasing for banks. At the same time, with regulation, the risk side of the equation is starting to look more attractive.” Przelozny is hopeful that this change will make the negative issues the industry has experienced with banks a thing of the past. “We’re seeing signs of this right now; we’re seeing banks becoming more and more open to us,” he says.

Increasing the level of cooperation and integration with mainstream financial services is expected to be beneficial to all parties. “Our goal is to work together with the banking sector to establish stable commercial relationships between DCEs and banks. This will be of benefit to both groups but has the added advantage of increasing transparency and governance standards across the industry as a whole,” says Giurietto.

“At the moment we’re seeing unprecedented demand from institutions around entering into digital currency and I expect that trend to continue in 2018.”Rupert Hackett, CEO, Bitcoin.com.au

However, AUSTRAC regulations only cover AML and CTF measures. “I do think there will be further important regulation in a few areas – chiefly around consumer protection,” says Giurietto. “The ADCA Code of Conduct, on a self-regulatory basis, includes a whole range of consumer protections. But, in terms of national regulation, there is only the general law around deceptive and misleading conduct to protect people. Regulation needs to cover the whole market, not just one element of it.”

Although Australia has a strong track record, other countries have seen examples of DCEs being mismanaged in various ways, to the detriment of consumers. As a result, local DCEs are looking forward to the next layer of regulatory protection. “What we are trying to do at the moment is write security standards regulations for digital currency exchanges,” says Hackett. “Along with formal consumer protection, rules around handling customer funds, and how capital is managed, this is really important to protect our ecosystem.”

Educating consumers is also a key priority, particularly as less-sophisticated, everyday investors are increasingly entering the market. During 2017, the total number of unique customers registered with DCEs participating in our research jumped from 80,067 to 312,633.

PROTECTING AND EDUCATING CONSUMERSBringing the digital currencies market more in line with mainstream financial services is also crucially important for consumer confidence.

Retail andinstitutionalcustomers

43%

AVERAGECUSTOMER

GENDER

Female17%

Male83%

65+2%

50 to 649%

AVERAGECUSTOMER

AGE

18 to 2940%

40 to 4918%

30 to 3931%

DCECUSTOMER

TYPESRetail

customersonly57%


Who is trading cryptocurrencies?Male consumers aged 18 to 39 dominate the market, but exchanges are increasingly attracting institutional clients such as investment banks and hedge funds


“With the influx of less-technical consumers, we need to do more to help people understand how to manage and protect what they buy,” says Miller. “For example, anyone using cryptocurrency has to deal with the issue of storing their virtual money somewhere – educating customers about how to do that safely is very important.”

The need for more consumer protection is likely to lead to regulation from the Australian Securities and Investments Commission (ASIC), while the Australian Taxation Office is also going to need to cover the industry from a tax compliance perspective.

“I think AUSTRAC regulation is a good first step, but I think the next step would be regulation from ASIC. But it’s a government decision,” says Paul Derham, Partner, at Holley Nethercote, a legal firm with a strong specialisation in digital currencies and financial technologies. “They should legislate that cryptocurrencies are financial products (like the Gillard Government did with Australian Carbon Credit Units), and so bring them under the existing financial services licencing framework. This would trigger the need for many exchanges to also obtain Australian Markets Licenses (like the ASX), so the government may need to come up with some sort of Australian markets licence-equivalent regime for crypto exchanges, with transition-style capital requirements to ease exchanges gently into the world of capital regulation.”

“While trading and investing activity is growing fast, I think it’s going to be slower than a lot of people think for mainstream value payments. There will be a ‘toe in the water’ from a lot of industries, in terms of accepting digital currencies. But I think it will be patchy in the short- to medium-term for digital currencies as a payment mechanism.” Aub Chapman, Consultant and Co-Chair of the Association of Certified Anti-Money Laundering Specialists (ACAMS) Australasian Chapter


Licenced exchanges in Australia have high capital requirements, stringent audit requirements and market integrity rules. The equivalent regime for DCEs would need to evolve with the industry, to nurture, rather than stifle, the growth of the sector. Whether or not the local industry is supported appropriately, consumers will still want to trade digital currencies. “There’s a definite need for recognition of digital currency as a financial instrument, but I think that a lot of subtlety should be incorporated in trying to define it,” says Hackett. “I think it’s important that Australia recognises this because there is a risk that (if regulation is inappropriate) companies will incorporate in other countries and simply offer service to Australians from abroad. That is the opportunity cost if regulation goes too far or is incorrect.”

Many Australians already use overseas exchanges to buy and sell cryptocurrencies, and many of these may not offer any protections at all.“2 A proper consumer protection regime via exchanges domiciled in Australia would act as an incentive to trade on an Australian-based exchange,” says Giurietto. “That requires alignment between the regulators, which we’re not so good at yet. But it needs to happen because there are people who don’t understand the choices that they’re making, and are perhaps tempted offshore by pricing or tax issues. Without consciously being aware of it, they could be trading away a whole lot of protection and safeguards.”

Of course, an analogous situation exists with cash transactions. Once a person withdraws money from an ATM there is no data collected on exactly where those notes are spent or sent. Unlike cash, forensic accounting does allow digital currencies to be tracked by looking at the records on the blockchain, but this can be obscured (e.g. by using ‘tumbler’ services).

This is a key issue, not just from an AML/CTF perspective, but also in relation to the long- term future of cash too. As a society, do we want people – including the innocent – to be denied the ability to make some transactions private?

This is one of the many fascinating questions that the industry and government need to tackle. “Given the nature of the sector, you can’t keep track (of) each fallen rock,” says Bunting, “but the sector in Australia is off to a good start and we’re trying to achieve the same shared objective. Having that trust is really what it’s all about. (The DCEs we’ve worked with) can be trusted to come and talk to us, or report matters, and they can engage us in an open manner and know that we’ll have a positive conversation. It’s the only way we can make progress, given the way the sector operates and the way digital currencies operate.”

TRACKING TRANSACTIONS AND EXCHANGES“There’s another huge policy issue when it comes to regulation, and that is what to do about coin-to-coin exchanges and coin-to-coin transfers between exchanges,” says Derham. “After individuals have cryptocurrency coins in their account, there is no data collected systematically about where the coins then move to. I think this is a gap in terms of AML tracking, globally. Also, coin-to-coin exchanges don’t need to register with AUSTRAC. It’s a huge money-laundering/terrorism financing risk.”


FURTHER REGULATION TO PROTECT CONSUMERS In addition to the new AML/CTF regulations, regulators should increase consumer protection from fraud and system failures (e.g. service provider default or cyber security breach).

CONCLUSIONSAs digital currencies evolve in Australia and globally, regulators, consumers and businesses need to adapt. The challenge is that everything is new, so it is not always clear how we should do this. It is this sense of new frontiers that makes this sector exciting to work in. While it is not clear what will be needed further down the road, our research has revealed some next steps that we can be more confident about:

MORE CONSUMER EDUCATION Given the scale and growth rate of digital currency trading in Australia, the industry and government should work together to help consumers understand how to use and invest in cryptocurrencies responsibly. This could potentially involve a special Australian Financial Services Licence for DCEs.

STRONGER RELATIONSHIPS WITH BANKSSignificant funds are passing between DCEs and Australian banks, with limited visibility. Improving transparency requires stronger relationships between mainstream financial services and the digital currency industry. Working together, DCEs and banks can ensure that stronger oversight and governance procedures are put in place.

LOCAL TRADING SHOULD BE SUPERIOR Some consumers trade digital currencies via exchanges based outside Australia, where there are often higher risks. The industry and government should ensure that the local market remains strong, secure and efficient enough to out-compete offshore exchanges.


“As our research clearly shows, cryptocurrencies are making waves here in Australia. The technology behind them can change many aspects of our current financial system, and we believe that central banks and financial institutions can play a key role in shaping this landscape by establishing a strong foundation for the use of cryptocurrencies, ensuring economic growth and consumer protection and supporting the adoption of progressive approaches to currency control and use.” Arjan Bloemer, Managing Director, Financial Services Technology Advisory Lead, Accenture Australia


In addition, we would like to thank our in-depth interviewees for their time and insights:

• Richard Bunting, Director, Policy andGuidance, Strategic Intelligence andPolicy, Australian Transaction Reportsand Analysis Centre (AUSTRAC)

• Arjan Bloemer, Managing Director,Financial Services TechnologyAdvisory Lead, Accenture Australia

• Aub Chapman, Consultant andCo-Chair of the Association of CertifiedAnti-Money Laundering Specialists(ACAMS) Australasian Chapter

• Paul Derham, Partner, FinTech, FinancialAdvisory, Derivatives, FX, Licensing,Holley Nethercote

• Nicholas Giurietto, CEO and ManagingDirector, Australian Digital CommerceAssociation

• Rupert Hackett, CEO, Bitcoin.com.au

• Jonathon Miller, Managing Director,Bit Trade

• Adrian Przelozny, CEO, IndependentReserve

ACKNOWLEDGEMENTSWe would like to thank all the DCEs that contributed their time and data to this research.


DATE FIELDED21 January 2018 to 9 February 2018 (data requested as at 31 December 2017).

PARTICIPANTSSeven Australian DCEs, representing approximately two-thirds of the Australian market.

METHODOLOGYThe survey questionnaire requested commercially sensitive data. Longitude, the research partner for the project, acted as an independent data custodian under non-disclosure agreements with the exchanges. Participants completed the survey and uploaded responses directly

to Longitude. Data from individual DCEs was consolidated (summed or averaged) to protect the confidentiality of participants and to gauge the scale of the Australian market. Neither Accenture nor ADCA have received the individual submissions or any data from individual DCEs.

LIMITATIONSIt is important to note that this research does not capture digital currency volumes traded by Australians on exchanges domiciled outside Australia. All currency data is in Australian Dollars (AU$).

ABOUT THE RESEARCH The data points in this report represent the aggregated data from seven Australian DCEs. The data was collected in response to a quantitative questionnaire jointly issued by Accenture and ADCA. The seven participating DCEs are all members of ADCA.


Copyright © 2018 Accenture All rights reserved.

Accenture, its logo, and High Performance Delivered are trademarks of Accenture.

REFERENCES1 This number is extrapolated from our survey of approximately two-thirds of the local industry, which reported $3.9bn in transactions in 2017.

2 All data in this report is based on Australian domiciled DCEs only (i.e. it excludes any Australian trading activity via exchanges based offshore).

ACCENTURE CONTACTSJohn HarrisManaging Director, Financial Services Technology Consulting, Accenture Australia [email protected]

Nando Di SantoManaging Director, Technology Consulting, Capital Markets, Accenture [email protected]

ABOUT ACCENTUREAccenture is a leading global professional services company, providing a broad range of services and solutions in strategy, consulting, digital, technology and operations. Combining unmatched experience and specialised skills across more than 40 industries and all business functions – underpinned by the world’s largest delivery network – Accenture works at the intersection of business and technology to help clients improve their performance and create sustainable value for their stakeholders. With approximately 442,000 people serving clients in more than 120 countries, Accenture drives innovation to improve the way the world works and lives. Visit us at www.accenture.com.

The views and opinions expressed in this document are meant to stimulate thought and discussion. As each business has unique requirements and objectives, these ideas should not be viewed as professional advice with respect to your business.

ABOUT ADCAThe Australian Digital Commerce Association is the industry body representing the interests of Australian businesses investing in or investigating blockchain technology. ADCA is a not-for-profit company and works with Australian governments and regulators to encourage the responsible adoption of blockchain technology in Australia.

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INDUSTRY OF THE NEW - Accenture...Bitcoin, Ethereum, Ripple, Litecoin and dozens of others – have...

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