Evaluation of the Inter Ministerial Committee(IMC) Report & Draft presented on 22nd July 2019 and its Interpretation from Rational Choice Theory & New Institutional Economics Characteristics.

The Committee has undertaken a review and analysis of the policy and legal frameworks governing Virtual Currencies across several jurisdictions with a view to derive an understanding of various concerns surrounding Digital Currencies/ Virtual Currencies/ Crypto currencies and recommend appropriate measures to address such concerns. In doing so, the Committee has sought to understand the international experience of both developed and developing jurisdictions. (Page 8)

The IMC examined the regulatory and institutional framework challenges encircle around the virtual currencies. In order to understand the complexity of virtual currencies due to its underlying technology of DLT (Distributed Ledger Technologies) and variation in its interpretation in different jurisdiction, it studied various International regulatory bodies lead to understand trajectory growth of virtual currency. For instance countries like Japan, Switzerland and Thailand allow use of crypto currencies as a mode of payment. On the other hand China has a complete ban on virtual currencies.

The Committee examines the underlying technology DLT and its application being deployed by international bodies in domain of trade finance, mortgage loan applications, digital identity management or KYC requirements, cross-border fund transfers and clearing and settlement systems. It recommended that the Department of Economic Affairs should identify uses of DLT and take measures to facilitate its usage. Similarly, financial sector regulators such as RBI, SEBI, IRDA, PFRDA and IBBI should examine the utility of the technology in their respective fields. It also proposed data localization proposed in the draft of Data protection Bill to be applied meticulously to ensure no unpropitious impact on Indian firm and individuals from DLT based services,

It highlighted the concerns attached with Virtual currencies: –

  1. Crypto currencies are quite volatile to market
  2. Presence of 2116 crypto currencies apart from bitcoins, Litecoins, Ripple and Monero which make them difficult to regulate.
  3. Cyber security issues such as Phishing cyber-attack, irreversible transaction and Ponzi schemes.
  4. Crypto currencies require large amount of storage and processing power, which can have unfavorable consequences on country’s energy resources.
  5. Crypto currencies provide greater anonymity making them more vulnerable to money- laundering and terrorist funding activities.(Page 9)

The committee recommended that an open mind needs to be kept regarding introduction of

“Central Bank Digital Currency” (CBDC) as it also comes in the provision of RBI act to approve it as legal tender; IMC suggested to form the inter group committee involving RBI, Meity and DFS for examining and developing an appropriate model of digital currency in India and further, that as and when the decision to notify a CBDC is notified, the Reserve Bank should be the appropriate regulator. (Page 9)

Based on the report proposed by the Inter ministerial committee it drafted Banning of Crypto currency & Regulation of Official Digital Currency Bill, 2019 which envisage: –

  • Crypto currencies cannot be used as legal tender or currency at any place in India. (Part 2, Chapter 3).
  • The bill prohibits everyone to mine, generate, hold, sell, deal in, issue, transfer, dispose of or use Crypto currency in the territory of India. (Part 2,Chapter 3).
  • The Reserve Bank is empowered to declare any official foreign digital currency to be recognized as foreign currency in India. (Part3, Chapter4).
  • The use of Distributed Ledger Technology for creating a network for delivery of any financial or other services or for creating value, without involving any use of crypto currency is not prohibited.
  • Direct or indirect use of Crypto currency shall be punishable with fine or imprisonment of 1 year which may be extended to 10 years or both. (Chapter 6)

The interpretation from rational choice theory and new institutional economics will be based on the understanding of the role of regulatory bodies as well as human interface with respect to the market. If a recommended institution is creating or facilitating market it is a rational choice approach because the individual stakeholders in the market can then participate to further their self-interest. whereas if the recommended institution is regulating market for instance financial inclusivity, cyber security, data privacy, curb transactional duplicity, KYC requirement, DLT application etc.; for these cases approach of institutional design would be seen as per new institution economies.

RATIONAL CHOICE APPROACH

Adams and Sydie (page190) explain Coleman’s RCT as aimed at explaining individual action that has a purpose, or purposive action n and the reason for the action. That is, individual as social actors engage in social action for some purpose, actors are rational (they use reason in conscious manner), and actors are responsible individuals (accountable for their actions). In the quote, Coleman argues that the aim of social science is to “conceive of that action in a way that makes it rational from the point of view of the actor”. (Adams and Sydie, page190).

The Social actor’s decision is an optimal one in sense of maximizing difference between benefits and costs. (Coleman and Farraro, Page ix). Abell (2000) defines optimality as taking place when no other

course of social action would be preferred by the individual over the course of action that individual has chosen.

The IMC recommend exploring the role of DLT to Department of Economic Affairs take necessary measures to facilitate use of DLT in the entire financial field after identifying its uses, and that regulators RBI SEBI, IRDA, PFRDA and IBBI explore evolving appropriate regulations for development of DLT in their respective areas. It also suggested keeping an open mind in dealing with the technologically scalable DLT in integrating with the financial sector by deploying technological support system from MeitY and GSTN. As Margret levi (2009) mentions, “The comparative advantage of rational choice continues to lie in its commitment to the assumption of individual actors making reasoned choices given the likely choices of others and the contextual and institutional constraints.” (p.2)

Individuals promote their self-interest and when choices made are internally consistent and transitive it leads to an efficient choice. Two ways by which crypto currencies can be deployed, firstly in asset form through Initial Coin Offering or ICOs are developing as a means for raising funds by issuing digital tokens in exchange for fiat currency, or cryptocurrency such as bitcoin or ether. Secondly as payment system, legal tender and means of exchange. (Page 22). As the technology is in infant stage many much information need to be unbundle and to witness its future growth implication this could be against the very notion of rationality which advocate the sufficient information available with an individual in decision making.

The report highlighted both technological risk and regulatory challenges due to volatility of virtual currency and its implications on customers as well as on investors. On the other hand, it sought other stakeholders to come up with studies to implement in their respective areas.

Despite the fact that human being have limited information about the virtual currencies still there is at least a bounded version of rationality that hinges bitcoins survival.

NEW INSTITUTIONAL ECONOMICS

Institutions as Douglass North says are not merely organizations, more broadly, they are processes, behavior rules and norms that enable societies to function. The theory of New Institutional Economics defines Institutions as humanly devised constraints which shape human interaction. The IMC report proposes to exist various regulating to explore the application of DLT in integrating with financial sector.

Separating the analysis of the underlying rules from the strategy of the players is a necessary prerequisite to build a theory of institutions. The committee suggested Department of Economic Affairs to act as an institution to provide the platform for the use of DLT in entire financial sector for inclusivity

by forming the group with other regulators such as RBI SEBI, IRDA, PFRDA and IBBI. It also recommends taking supportive technological help from MeitY and GSTN.

As per the New Institutional Economics one of the prime reasons for creation of institution is to lower transaction cost. The committee even finds the provision in RBI act to provide virtual currencies CBDC with legal tender which would lower down the transaction cost that get from fiat currency. RBI formed its internal group to further explore the desirability and complexity in implementing CBDC.

The Committee notes that non-official virtual currencies can be used to defraud consumers, particularly unsophisticated consumers or investors. Another concern from use of non-official digital currencies is to the economy and the financial system with implications for monetary supply, particularly given their volatility and crippling use of resources including energy. (Page 24)

Institutions provides framework for formal and informal constraints, as the draft suggest to ban private crypto currencies and in order to safeguard Indian firms and individuals from fraud it has inserted negative reinforcement with punishment.

Apart from that to facilitate inter trade with foreign countries, the committee suggested that RBI may notify any foreign digital currencies to be governed under Foreign Exchange Management Act, 1999.

POINT OF VIEW

All around the globe though the usage of virtual currencies initiated in one form or other but still no countries has assigned it with legal tender. As it is based on DBT, this underlying technology though has various applications but it need to be explored and regulated before integrating into mainstream financial sector. It eliminates the central recorder or third party oversight during any transactions between the individuals but lots of risks and challenges are associated with it. It is imperative for existing regulatory institutions to co-ordinate and collaborates to apply block chain technologies in their respective field such as KYC requirement, elimination of Duplicate account, insurance, e-stamping, securities and commodities etc. It is required to further appoint a standing committee to study specifically about the implication of virtual currencies in the Indian Financial sector and its regulation.

REFERENCES

Department of Economic Affairs (2018, February). Report of the committee to propose specific actions to be taken in relation to virtual currencies. Government of India
https://dea.gov.in/sites/default/files/Approved%20and%20Signed%20Report%20and%20Bill%2 0of%20IMC%20on%20VCs%2028%20Feb%202019.pdf

Press Information Bureau (2019, July). Draft Bill “Banning of Crypto currency & Regulation of Official Digital Currencies Bill. Government of India
http://pibarchive.nic.in/archive2/erelease.aspx

Finestone,Matthew(2018, January ).Game theory and Block chain
https://medium.com/@matthewfinestone/game-theory-and-blockchain-db46e67933d7

Nguyen, Hugo (2018, December) .Bitcoins’s Incentive scheme and the rational Individual.
https://medium.com/@hugonguyen/bitcoins-incentive-scheme-and-the-rational-individual- dc20effa4715

North, Douglas. (1990, October 26). Institutions, Institutional Change and Economic Performance (Political Economy of Institutions and Decisions). Cambridge University Press

Levi, M. (2009). Reconsiderations of rational choice in comparative and historical analysis. Cambridge University Press.

Olson, M. (2002). The Logic of Collective Action. Harvard Economic Studies

Ostrom, E. (2007). Institutional rational choice: An assessment of the Institutional Analysis and Development Framework .Cambridge, MA: Westview Press