Bitcoin and other Cryptocurrencies: a regulatory nightmare?

"BitcoinSign" by Satoshi Nakamoto

This post by Florian Glatz is based on an article by Primavera de Filippi posted on Internet Policy Review – read the full article here

Today we want to point you to one of the many studies we are conducting at P2PValue, regarding the different applications of peer-to-peer technology in today’s networked information society. In our study “Bitcoin: a regulatory nightmare to a libertarian dream” we analyzed the challenges contemporary legislators face when drafting legislation that encourages the exploration of the positive effects associated with cryptocurrencies such as low transaction fees, while at the same time strengthening consumer protection and discouraging illicit conduct such as drug trafficking and tax evasion that is facilitated by the unique properties of Bitcoin-like currencies.

Cryptocurrencies are a new form of digital money that makes use of an exotic branch of mathematics called cryptography  in order to allow for secure monetary transactions. While cryptography is used, inter alia, to create a form of digital ownership for information-based money, currencies such as Bitcoin additionally leverage peer-to-peer technology to ensure that none of its monetary units can be spent more than once by its respective owner (as would be expected of any functioning monetary system). Solving this long-standing “double spend problem”, which has  plagued all previous attempts at creating forms of digital money that wasn’t  issued by a “centralized” bank-like entity, is considered the most important breakthrough of Bitcoin.

To the (initial) surprise of many experts in the field of cryptography and distributed systems, Bitcoin’s scheme of allowing secure monetary transactions has proven successful not only at a small network size but in face of major global attention by actors ranging from private individuals to institutional investors. Still, the novel combination of cryptography and peer-to-peer  technology piloted by Bitcoin continues to be in its infancy both with regards to the technical problems faced by the monetary network’s ever-growing daily transaction volume as well as with regards to gaining acceptance by a mainstream audience.

A key step for Bitcoin & Co to gain wider usage in everyday commerce is a regulatory framework that recognizes the special properties of this new form of digital cash. Regulatory reform in the realm of financial services provision, taxation and consumer protection appear necessary to appropriately account for the unique properties of Bitcoin-like cryptocurrencies. The required changes to contemporary legislation in those areas is, however, far from obvious when it comes to the details. The field of tax law serves as a good example since different tax rates apply depending on the understanding of cryptocurrencies either as currencies or commodities in a legal sense. To the confusion of many public officials, cryptocurrencies partially fit into both categories. The creation of a new type sui generis, e.g. “virtual commodities”, seems not too far-fetched.

Today, first attempts at regulating parts of the economic ecosystem that rapidly evolved around cryptocurrencies are being drafted worldwide. With it, legislators have to take a stance whether they want to encourage the use and further development of cryptocurrencies in their jurisdictions or rather disincentivize businesses and consumers to explore possible use cases of the technology.

At the European level the situation is far from clear. Whereas some member states such as the UK strive to attract businesses in the cryptocurrency space with favorable legislation, others, such as Germany, stay wary of any kind of commitment that would encourage its citizens to use the digital coins. In 2012 the European Central Bank issued a report on the matter, clarifying the non-applicability of its E-Cash and Payment Services Directives on Bitcoin-like virtual currency schemes. Further clarifications can be expected as the topic does not seem to go away on its own anytime soon.

However, as much as a higher degree of legal certainty would support the nascent ecosystem, the hesitation of many legislators might also be a blessing for cryptocurrencies, at least at this very early stage. Especially with regards to consumer protection, legislation might be the wrong tool for the job anyways. The innovative technology behind Bitcoin-like currencies gives the emerging industry a chance to build secure consumer-grade solutions on their own, resulting in a self-regulated and technically secure payment system.

1. Today, Bitcoin-like cryptocurrencies have an overall market capitalization of around 7 billion USD.



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