Context

The draft legislation on crypto currency being introduced in Parliament and the stance of the RBI suggest that consideration is being given to banning crypto currencies in India.

What fascination with crypto reveals about our society?

• It is about faith in that value is largely a matter of belief.
• It is about politics because money is always about the allocation of power.
• The money itself may not be material, but it is still embedded in a materiality.
• The fact that money is subject to politics is actually the advantage of money.
• It allows a modicum of collective control over our future, and allows distributive questions to be posed.
• It is mania because the alchemy of creating something out of nothing is always deeply alluring.
• Cheap money: The global economy is awash with cheap money.
• Seeking return: In an Indian context small savers are desperate for return.
• In this context it is easy for the powerful to misallocate money and the small saver to express desperation by speculation.

Background

• Faced with the inflation of the 1970s, thinkers like Friedrich Hayek theorised about reasserting the dominance of private currencies, protected from the state.
• Crypto currencies are a fascinating technological innovation.
• Part of their initial attraction was that they promised a new governance order. 
• It is at the confluence of faith, politics, and psychological mania.
• Solving the problem of trust: This project crucially depended on solving the problem of “trust” on which every currency depends.
• Crypto seemed to solve that problem, with its decentralised architecture and community and self-verification protocols.

How cryptocurrency poses challenges to the state?

• No state was going to let go of its power to assert control over the monetary system.
• Significance of fiat money: The sustenance of state-sponsored fiat money is one of the great achievements of modern state formation and the foundation of its power and legitimacy.
• Cryptocurrency requires material infrastructure: There was a delusion, as if crypto is conjured out of thin air: It actually requires substantial material infrastructure, which a state could always control.
• States can shut down mining as China has done.

Way forward

• We allow people to invest in all kinds of things. Why ban this, especially now that so many investors are in it?
• Analyse the risk to the financial system: The answer to this question depends on how much risk the existence of crypto assets pose to the stability of the rest of the financial system.
• Insulate financial system: One answer is if you can insulate the financial system from the gyrations of crypto markets there are few systemic risks.
• This is why it was a good idea of the RBI to prohibit the entanglement of financial institutions with this market.
• Instead of just focussing on issues of fraud, money laundering, and private risks, the RBI’s case would be strengthened if it spelled out the systemic risks that crypto might pose to the stability of the real economy.
• Avoid ban with exception scenario: For political economy reasons, the RBI should avoid a scenario where it bans but then carves out exceptions.
• Ensuring that trade does not go offshore: The second thing is that if it somehow allows Indians to invest then it has to ensure that trade does not go offshore. 
• Not fully banning and allowing it offshore will be the worst of both worlds.

Challenges in insulating the crypto market

• In practice the insulation of crypto markets will be difficult to achieve.
• Political economy: The first reason is political economy. Once you have a large number of investors, and some influential ones, they will be a vested interest in their own right, potentially demanding the socialisation or mitigation of losses.
• Impact of volume: The second reason is that it is difficult to pretend that a major new class of assets, especially if volumes grow, does not have systemic effects on the rest of the economy.

Consider the question “What are the risks and advantages provided by the cryptocurrencies? Suggest the approach India should adopt in dealing with cryptocurrencies.”

Conclusion

As the RBI makes the case for banning crypto, we also need to ask, why it is alluring in the first place. What does this mania reveal about our politics and economics?

UPSC 2022 countdown has begun! Get your personal guidance plan now! (Click here)

Get an IAS/IPS ranker as your 1: 1 personal mentor for UPSC 2024

Attend Now