Cryptocurrencies are digital currencies that represent financial freedom and privacy. Unlike traditional currencies, they are not issued by central banks. They also aren’t controlled by any individual or institution and are instead governed by a computer generated code. They enable secure transactions free from government or corporate influence. One of the advantages of cryptocurrencies is, due to encryption, it is not possible to issue counterfeit currency or double-spend.
When a transaction is made using paper currency, all that the receiver needs to check is that the currency is not counterfeit. Thus, it is the receiver who authenticates the instrument of payment. This arrangement generally works, except for those few instances when the receiver fails to detect a counterfeit currency. In the case of digital transactions, the authentication of the payment is done by an intermediary like a bank, because almost all electronic transactions are transfer of money from one bank account to another. This arrangement also works as the bank certifies that the sender has adequate balance in her account to cover the transaction.
Some people felt that intermediation by banks is avoidable. Either they felt that banks are not trustworthy, or they considered that the cost charged by banks is excessive, or they were not comfortable with their transactions being tracked. Guided by the idea that cash remains one of the best ways to exercise free speech (refer footnote 3), their solution was to create their own private currency and a transaction arrangement or network that bypassed banks or any other financial or social institution. The basic problem they had to get over was as follows – since electronic money (just some lines of code) can be easily replicated, in the absence of a trust institution like a bank, how does the network ensure that the same currency is not spent again, and again. This was called the ‘double spending problem’.
The first ‘person’ to effectively solve this problem was one Satoshi Nakamoto, a fictional person or persons or corporate or any other entity, no one knows as yet. And bitcoin was born. He did this by creating the blockchain. On a blockchain, when a transaction occurs, it is broadcast to all computers on the network. A set of new transactions, called a block, are authenticated by an agreed consensus mechanism, and then the validated transaction block is added to the previous chain of blocks. Every block is linked to the previous block, making double spending difficult because it would involve changing every subsequent block. Bitcoin was followed by many others, like ether, cardano, dogecoin, tether, stellar etc. Collectively they are called cryptocurrencies. The prefix ‘crypto-‘ refers to the fact that cryptography is used to generate or authenticate transactions.
The defining characteristics of cryptocurrencies are: –
- That cryptocurrencies are decentralized systems where transactions are authenticated by participants themselves by consensus. They are designed to bypass the financial system and all its controls. They cannot be traced or confiscated or frozen by Governments.
- They are anonymous – transactions are verified, but not the purposes or counterparties of transactions.
- They are borderless – that is, they work over the internet without any physical existence.
While Bitcoin started more than a decade back in 2008, until 5 years ago, total market capitalisation of all cryptocurrencies was only $20 billion (February 2017). This went up to $289 billion in February 2020 and thereafter exploded to reach a peak of $2.9 trillion in November 2021. Currently (Feb 09, 2022) it stands at $1.98 trillion. Bitcoin accounts for 42% of this market capitalisation, the top two cryptocurrencies account for 61% while the top five account for 71%. The total number of cryptocurrencies is at 17,436 and the total number of crypto exchanges is 458.
Is crypto investment legal in India ?
In March 2020, the Supreme Court ruled that the RBI’s 2018 circular prohibiting banks from facilitating crypto trade was illegal. Recently both the finance minister of India and the Reserve Bank have made it clear that Cryptos have no legal status in India.
What did the Finance minister announce in the Budget?
FM Nirmala Sitharaman said crypto transactions will be taxed at 30%. The Budget proposed that no deductions will be allowed except cost of acquisition and losses can’t be set off against other income. The FM also said taxing on cryptocurrencies does not give its legal status.
How can one invest in crypto?
You can open an account with a crypto exchange by submitting KYC details online. The investment process is similar to buying stocks on online platforms.
Source 1 :
Cryptocurrencies – An assessment : (Keynote address delivered by Shri T Rabi Sankar, Deputy Governor, Reserve Bank of India – February 14th, 2022 – at the Indian Banks Association 17th Annual Banking Technology Conference and Awards)