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Breaking Down Crypto And The Issue Of Regulation

a collection of shiny gold coins embossed with the logos of different cryptocurrencies
What is a crypto-hub? Should you plunge your savings into Bitcoin or invest in crypto assets like NFTs? Our experts break it down…
  • Regulations that include crypto investors, miners and cryptocurrency owners are more likely to be successful, research finds
  • Government regulations tend to fall behind, and this is especially true for the tech sector
  • Including stakeholders allows crypto regulations to be clearer, easier to follow, better protected from volatile coins, and future proof

“Are you guys into Crypto?????” posted an excited Kim Kardashian on Instagram last year, encouraging her fanbase to buy into a cryptocurrency which, very shortly afterwards (and despite Kim’s enthusiastic backing) collapsed. Kim was fined $1.26million by the US Securities and Exchange Commission for not declaring that she had in fact been paid $250,000 for the post and was not just passing on a good tip to her followers. But many of her fans, who knew little about crypto and trusted her endorsement, were left with a lot less.

Is it surprising that people believed in Ms. Kardashian when the subject is so intimidating, and the terminology as confusing as it is? Cryptocurrencies, cryptoassets, crypto-hubs…

Wait… What the hell is a crypto-hub?

 A ‘crypto-hub’ is a place that “welcomes cryptocurrencies in a way that doesn’t constrain their potential”, according to former Economics Secretary to the Treasury, Richard Fuller. Until just a few days ago, along with the now former British Prime Minister Liz Truss, Richard sought to model this in the UK.

In practice, this means a country that attracts, promotes and (of course) regulates investment into cryptocurrencies. Bitcoin, Ether and Tether, for example, are best understood just like any other currency you might have in your pocket, but digital (no paper or money). However, instead of being tied to and regulated by a central bank (like the British pound is tied to the Bank of England or the US dollar is to the Federal Reserve), cryptocurrencies are totally independent.

A crypto coin is independent because it has no backing from government institutions and therefore its value is speculative; its only worth how much we value it on the market. The same way a company’s shares are worth more if they are more sought after, a cryptocurrency is worth more if it has more backers. Just like any other company or business, the most popular one will be more bought into and worth more – Samsung, for example, is worth more than Nokia because more people want to buy into Samsung than Nokia. Equally, Bitcoin is worth more than other cryptocurrencies because more people own, and want to own, a Bitcoin.

People want to buy into crypto currencies purely because they use a new, really radical technology: Blockchain.

A whole new world…

Firstly, let’s be clear that Blockchain is a type of tech the same way that smartphones are a type of tech. There are different blockchains, just like there are different smartphones. For example, the cryptocurrency Ether runs on the blockchain Ethereum, like Bitcoin runs on the blockchain The Bitcoin Network.

But blockchain is not only for cryptocurrency. Think of blockchain like a type of mini-internet; it allows for communication between two different points, with the possibility of building and developing it. Just like new websites can be added to the internet, new areas can be built on a blockchain.

But unlike the internet, Blockchain is not hosted in just one place. Whereas most of the web is hosted (and owned) by companies such as Amazon, Google and GoDaddy (who all have centralised ownership over their networks), blockchain is owned by its users.

Outside of crypto, blockchain technology is currently used for smart contracts, supply chain management, identity security, with more and more uses being invested all the time.  And this is because Blockchain is incredibly secure; its data is not only encrypted but also decentralised – hosted by some of its users and owners, it becomes a lot harder to hack or alter.

As a user of a blockchain network you also own a part of it, often with a say in how its run.  A lot of blockchains give its users ‘tokens’ to mark their ownership of the network – tokens…. otherwise known as cryptocurrencies! An owner of the Ether, for example, holds a stake in the Ethereum network, as the Ether crypto coin represents ownership in the Ethereum block chain.

But buying into a blockchain is not the only way of getting your hands on crypto – you can also earn it. Crypto miners work on existing blockchain to expand it – an extremely expensive and costly process that validates crypto coin transactions. Breaking this down, what this simply means is that new areas of the blockchain are made and, in return, new bitcoins are created to represent the value of what had been made.

Et voila!

As a ‘crypto-hub’, the aim is thus to not only promote digital currencies but consequentially to make an environment that allows for more participation into these decentralised networks…

The future for crypto in the UK

As yet, with the frequent turnover in leadership within the current UK Government, the future for Crypto remains unclear. The theme of Liz Truss’ short-lived premiership was to embrace innovation, like cryptocurrencies. The Bank of England has already begun looking into making a digital currency, whether further digitalising the Pound or creating a separate digital currency parallel to it. But more than this, the now former PM voiced a desire to make the UK a global centre where innovation and investment into crypto could help progress the country in return. Whether this future is still on the cards remains to be seen.

To get a better estimate of what may come next for the UK, it’s worth instead examining what other countries, who are ahead of the game, are doing and how. One investigation by Professors Alex Preda, Julie Valk and Ruowen Xu, at King’s Business School looks into Japan and its relationship with crypto, arguing the East-Asian country to be the forefront of incorporating and regulating crypto into its economic regime.

Japan has been a major trading hub since the inception cryptocurrencies. Just shy of a year after the Bitcoin was launched, Japan was home to the Mt Gox Crypto Currency Exchange, a company that handled 70% of global bitcoin transactions by 2014, before collapsing after just under US$ 500Million worth of bitcoin vanished. Largely thought to be due to a hack, Japan has experienced several large-scale thefts of crypto assets, such as later in 2018 when US$530m worth of bitcoin was also stolen.

It was because of these early on events that Japanese regulators were forced to begin expanding into the crypto world, becoming one of the earlier countries to do so.

The key to Japan’s success, they argue, has been maintaining a dialogue between Crypto stake holders and financial regulators. Companies, individual investors, crypto miners have all been involved in building the regulations that impact the Japanese crypto sector.

The ability for industry to ‘self-regulate’ is understandably controversial: can we be sure those involved in crypto can put aside their own interest for the wider good?

And yet, Professor Preda and their colleagues suggest four specific benefits to doing this, perhaps something the UK should take notice of…

First, including stakeholders provides greater consensus and clarity. In such a technical field, with new terms emerging constantly (we’ve already established the contagiousness of the ‘crypto’ prefix), then creating regulations defines these important terms and gives clarity to everyone across the industry. These businesses are often willing to comply, the researchers say, but given the nature of crypto assets and the legal difficulties in defining them or regulating them, stakeholders do not necessarily understand requirements or know how their business fits into regulation. With a stronger, and more well-defined understanding of the field they work in, stakeholders are better able to operate that when there is zero clarity and no ‘rules of play’ to follow.

Secondly, as the regulation provides more clarity to assets in an industry that remains unpredictable, only tried and tested coins pass for trading on exchanges based in Japan. This means that collapses caused by unstable coins are less likely to impact not only other cryptocurrencies but the Japanese economy as a hole. Only cryptocurrencies that meet certain standards are able to be traded, meaning that investors not only have that extra reliability in what they are investing, but also that the entire industry is better protected.

Thirdly, the professors suggest by including stakeholders within the regulatory process, they will actually enable greater compliance amongst them. Because the regulations, which they have influenced, not only put more stability into the already volatile crypto market and create a better understanding of what is expected by “speaking the same language as regulators”, more people will be practically more capable to comply with regulations.

And finally, in doing so stakeholders and regulators are able to also better future proof the crypto industry. With most regulations, governments “tend to play catch-up, and involving crypto asset holders is a way to anticipate directions and developments in the crypto industry, and at least attempt to account for them”, argue Professors Preda, Valk and Xu.

There is security and stability in having strong regulations that often can protect an industry from collapsing in on itself – for example, had there been existing protections the hack of MT Gox Crypto currency exchange may have been prevented/lessened.

Looking at the situation in the UK, or indeed in most countries, there is no way the government would be capable to regulate the crypto-world without input from stakeholders. Most forms of regulations take expert opinion into consideration anyway, but especially for Crypto where politicians are woefully ill prepared – perhaps allowing the industry to self-regulate is not the worse option?

There’s no denying this subject matter is complicated, but the technology presents such a fantastic opportunity; the ability for users to take ownership of a network, and it not be centralised within big business. Skill to engage with new tech are becoming more and more common, and more and more required in any form of employment. Understanding new technology like blockchain, despite it sometimes being so confusing, is now more important than ever.

Hopefully, the world of crypto is not so much as mystery to you anymore…

… Hopefully, you’re left feeling a little more confident – a little more knowledgeable – about it all…

… Hopefully, just enough not to buy into a Kardashian-Koin, at the very least.

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