Regulation of Cryptocurrencies

Smart Contracts Initial Coin Offers

Robo Advisors E-Aggregation UNIT 3

Module

3.4

Dr. S. Santhosh Kumar

Professor

School of Management Studies

Cochin University of Science and Technology

Kochi, Kerala, India

Email: drsan@cusat.ac.in

Scope of the unit

• Regulation of cryptocurrencies

• Fintech innovations such as;

• Smart contracts,

• Initial Coin Offers,

• Robo Advisors and

• E-Aggregation

Regulation by International Agencies

• The International Authorities as well as the central authorities of nations formed different approaches towards regulation of cryptocurrency or virtual assets.

• International authorities involved are;

• Financial Action Task Force (FATF),

• International Monetary Fund (IMF),

• World Bank and Financial Stability Board (FSB)

FATF vs Crypto

• The Financial Action Task Force (FATF) is the inter-governmental body established to set standards and promote effective implementation of legal, regulatory and operational measures for combating money laundering, terrorist financing and other related threats to the international financial system.

• It is setting out more detailed implementation requirements for effective regulation and supervision or monitoring of virtual asset services providers (VASP) to adequately mitigate the money laundering or financing of terrorism risks associated with virtual asset activities.

• It has published a document named Guidance for a risk-based approach to Virtual Currencies as a regulatory and supervisory advice to national authorities to control activities relating to cryptocurrencies.

IMF vs Crypto

• IMF considers cryptocurrency as algorithmically stabilized value coins which manages its value as well as money supply based on its own underlying algorithm.

• In its Staff Report on Measuring the Digital Economy IMF claims that Bitcoin like crypto assets do not qualify as money in the current monetary and financial statistics framework.

• The report on “Treatment of crypto assets in macro economic statistics” by IMF committee on Balance of payments statistics proposes to classify Bitcoin like Crypto assets (BLCAs) as non financial assets.

Basel Committee vs Crypto

• The Basel Committee on Banking Supervision (BCBS) has come up with the initiatives for developing high-level supervisory expectations for banks engaging in crypto-asset activities.

• It also initiates steps to monitor developments related to crypto-assets by quantifying banks’ direct and indirect exposures to such assets; and clarifying the prudential treatment of banks’ exposures to crypto-assets.

CPMI vs Crypto

• The Committee on Payments and Market Infrastructures (CPMI) is on the stand that the digital currencies and its underlying technology, blockchain, can make a high impact on the central banks as well as the financial system all over the world.

• CMPI also stated that cryptocurrencies are not denominated in a soverign currency and they do not represent a claim on an issuer.

FSB vs Crypto

• The Financial Stability Board (FSB) is of the opinion that the risk posed by the cryptocurrency did not affect the global financial stability.

• However, it gives a warning that if the cryptocurrencies emerge as a widely accepted payment worldwide, this could change the situation.

• FSB also published a “directory of regulators of crypto-assets” to provide information related to different regulators and other authorities dealing in cryptocurrencies.

RBI vs Crypto

• The Reserve Bank of India has instituted a banking ban on cryptocurrencies.

• Such a ban restricts banks and other financial institutions coming under the umbrella of RBI to transfer money to the accounts of crypto exchanges.

• Recommendations for banning crypto currencies were also there with authorities.

• The Report of the Committee to propose specific actions to be taken in relation to Virtual Currencies of the Dept. of Economic Affairs, Ministry of Finance has detailed deliberation on crypto.

Smart Contracts

• One of the most exciting applications of Blockchain is that it can make smart contracts.

• A smart contract is a digital agreement that executes automatically when certain conditions are met.

• In simple terms, it is like a vending machine. If you want a bottle of Water, you insert the correct money and the machine releases your drink. If you don’t put in enough money, the vending machine doesn’t work. This is the basic premise of a smart contract.

• It will only execute when all the coded agreements are met.

• More specifically, smart contracts are blockchain technology enabled programmable contracts that automatically execute when pre-defined conditions are met.

Smart Contracts…..

• The software-based protocols of the contract facilitate, verify, and enforce the performance of a contract. The aim of smart contracts is to provide security that is superior to the traditional contract law and reduce other transaction costs that are associated with contracting.

• Smart contracts help you exchange money, property, shares, or anything of value in a transparent, conflict-free way while avoiding the services of a middleman.

Example of Smart Contract

• Assume that you leased an apartment from me.

• You can do this through the blockchain by paying in cryptocurrency.

• When you pay initially, as agreed up on, you get a receipt which is held in our virtual contract.

• On making the initial payment, I give you the digital entry key which comes to you by a specified date.

• If the key doesn’t come on time, the blockchain releases a refund.

• If I send the key before the rental date, the function holds it releasing both the fee and key to you and me respectively when the date arrives.

• It means that the system works on the If-Then premise and is witnessed by hundreds of people, so you can expect a faultless delivery. If I give you the key, I’m sure to be paid. The document is automatically cancelled after the time.

History of Smart Contracts

• Smart contracts are in operation sine 1990s. • The development of blockchain technology actually led to the present

form of smart contracts. • Smart contracts inherit properties of underlying blockchains which

include an immutable record of data and the ability to mitigate single points of failure.

• The second generation cryptocurrency Ethereum revolutionized the use of smart contracts.

• Unlike traditional paper contracts that rely on middlemen and third-party intermediaries for execution, smart contracts automate contractual procedures, minimize interactions between parties, and reduce administration cost.

Legality of Smart Contracts

• In 1999, around 47 states in the United States adopted the Uniform Electronic Transactions Act (‘UETA’).

• The UETA placed regulations with regards to electronic contracts, records and signatures and stated that electronic contracts would be valid, and the use of an electronic signature was a valid method of providing consent for contracts.

• Later in 2017, various states in the US saw the need to make special regulations for the adoption of smart contracts on a large scale.

• Thus, some states have passed laws recognizing the signatures provided for smart contracts using the blockchain technology.

• Furthermore, some other states passed laws recognizing contracts executed on the blockchain, thereby giving specific recognition to smart contracts.

• Laws were also passed to allow smart contracts to be used as a form of evidence if a dispute arises.

Legality of Smart Contracts in India

• Regarding India, numerous amendments were made to the Indian Evidence Act, 1872 to include provisions for the admissibility of electronic records, signatures and agreements.

• The amended provisions of the Act states that electronic agreement would be considered as a valid agreement only if it is authenticated using an electronic signature. However it must be obtained in accordance with the provisions of the Information Technology Act.

• While the IT Act allows contracts or records to be validated or authenticated by using electronic signatures, it has placed conditions on how one can obtain a digital signature.

• Under section 35 of the IT Act, a digital signature can be obtained only from a government designated certifying authority. This would be the first point of concern for a smart contract because to validate a smart contract it is the blockchain technology that generates the digital signature to be used as an individual identifier.

Initial Coin Offers (ICOs)

• ICOs are used by startups to bypass the rigorous and regulated capital-raising process required by venture capitalists or banks.

• It is a popular fundraising method used primarily by startups wishing to offer products and services that are related to the cryptocurrency and blockchain space.

• When a startup, usually a startup related to crypto currency or blockchain, wants to raise money through ICO, it creates a whitepaper which outlines all about the project.

• The need for the project, how much money is needed, how many of the virtual tokens the founders will keep, what type of money will be accepted, and how long the ICO campaign will run for and so on.

Initial Coin Offers (ICOs)………

• During the ICO campaign, supporters of the project buy some of the project’s tokens with fiat or digital currency.

• These coins are referred to as tokens and are similar to shares of a company sold to investors in an IPO.

• If the money raised does not meet the minimum funds required by the firm, the money may be returned to the supporters and the ICO is deemed unsuccessful.

• If the funding requirements are met within the specified timeframe, the money raised is used to pursue the goals of the project.

Initial Coin Offers (ICOs)……..

• IPOs deal purely with investors, ICOs may deal with supporters that are keen to invest in new projects which are more risky in nature.

• ICOs are largely unregulated, in the sense that government organizations like the Securities and Exchange Commission (SEC) or SEBI do not oversee them.

• Later, if the start-ups financed through ICOs flourish and based on their valuation these coins get demand and convertibility as these coins acknowledge stake in the companies.

Robo Advisor

• We are very much familiar with investment consultants and financial advisors.

• Normally, we do consult those advisors in person for our different needs by visiting them in person.

• Robo Advisors make your consulting more efficient and less costly.

• Robo-advisors are financial advisers who provide financial advice or portfolio management online with minimal human intervention. They provide digital financial advice based on mathematical rules or algorithms.

• The basic idea behind the robo-advisor is that software is more accurate and less biased than traditional advisors

Robo Advisors……..

• In a broader sense, robo-advisors are self-guided online wealth management service that provides automated investment advice at low costs employing portfolio management algorithms.

• Robo-advisors are also known by the names,

• Automated investment advisor

• Automated investment management

• Digital advice platforms

How to seek Robo Advice?

• Register an account with Robo Advisors firm and transfer money.

• Also provide your input on risk and investment preferences.

• Then the robo advisor software suggests investments option to meet your needs.

• Select the option to invest in, the robo advisor makes the investments, and the robo advisor performs regular portfolio maintenance tasks these are the main steps to be involved to operate a robo advisor.

• Robo Advisors are less costly and speedy than traditional advisors.

• 24 into 7 accessibility and transparency are the other advantages.

• It can offer more investor choice, especially for low and middle income investors who do not have access to the wealth management firms.

E-aggregation

• E-Aggregation is another innovation which provides internet-based venues for retail customers to compare the prices and features of a range of financial and non-financial products such as standardised insurance, mortgages, and deposit account products.

• They can also be firms that provide services that allow users to aggregate and analyse their data on their payment patterns, across separate accounts and products E-Aggregators also provide an easy way to switch between providers and may become a major distributor for a variety of financial products.

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