Crypto industry at the crossroads. Part 2

The AML / CFT requirements for crypto business are becoming more and more stringent. And as ShapeShift’s recent refusal to cooperate with regulators and transition to DEX status demonstrates, not everyone is ready to accept this. But what comes next?

Cryptocurrencies started out as a true ode to decentralization. Think back to what all the newspapers wrote in 2017: a new financial system, independent of governments and banks, no centralized control, no dictates, everything is run by algorithms and the market.

Only by that time, it had already become evident that the crypto business is being built following the same patterns as any traditional business: state registration of a company, founders, advertising, licenses, headquarters, regional offices, etc. The decentralized exchanges (DEX) have existed for a while, but until recently, trading volumes there had looked like a statistical error compared to centralized exchanges (CEX). Again, crypto banks, neobanks, fintech companies like Robinhood, various investment funds – almost all of them were created as official businesses in various jurisdictions, somewhat lenient to cryptocurrencies.

But this lenience had only lasted until confused lawmakers figured out how to legally interpret the cryptocurrency phenomenon: Not as a means of payment, since almost all countries of the world have a single legal tender – their national currency, but usually as “other assets”. Some simply banned cryptocurrencies altogether, others left them in the “gray zone”, not even recognizing crypto as a material asset. However, today financial regulators of different countries are increasingly seeing cryptocurrencies as a threat.

In China, for example, mining and cryptocurrency operations were completely banned not that long ago so that crypto couldn’t compete with the digital yuan. In Europe, as we have written recently, everything is moving towards total control and transparency of cryptocurrency transactions, as per the FATF demands. In America, the Democrats in power now also want to make crypto operations transparent for taxation purposes.

In South Korea, three cryptocurrency exchanges have announced their closure over the past three weeks. And on August 2 we learned that 11 more crypto exchanges would stop working after the Financial Services Commission (FSC) audit. On July 26, it became known that South Korean authorities will be able to confiscate cryptocurrency. The country’s regulators have put forward amendments to the legislation that would enable them to seize cryptocurrency from citizens who evade taxes on digital asset transactions.

These are the consequences of South Korean authorities in May approving a plan to introduce a 20% tax on income derived from cryptocurrency trading. It will affect citizens who earned more than 2.5 million won ($ 2 thousand) a year using digital money. Income below this amount won’t get taxed. The new rules come into force on October 1, 2021.

All of the above is evidence that the global financial system based on fiat money is not ready to accept cryptocurrencies as an independent and ungoverned means of payment. And since they cannot be completely banned either (the whole world doesn’t live in Chinese autocracy), all that remains is to introduce a “cage” of the same rules and regulations that apply to fiat money. Essentially, we are already talking about KYT (Know Your Transaction) standards, which include checking the client’s cryptocurrencies for involvement in criminal schemes.

In this “watershed” moment, the crypto business must decide how to exist going forward. There are two possible options. The first is to remain in one jurisdiction and comply with all the laws and prescriptions of national financial regulators (which are really dictated by the FATF): requiring verification from their clients according to KYC standards (ever more stringent), submitting transaction data to tax authorities and special services, delimiting truly anonymous crypto coins (Monero, Dash, Zcash, Komodo, PIVX), doing transparent accounting, etc., and expect that those rules won’t get any tougher.

But we know for certain they will. States are becoming increasingly confident in the world of blockchain, and it is easy to foresee how following the emergence of the digital dollar and digital euro, the EU and US authorities will try to squeeze any cryptocurrencies out of the market. Of course, all done under the most plausible of pretexts.

The second way forward for the crypto industry is decentralization and transition to a status known by the Latin term “Extra Jus”. It means existence outside all jurisdictions. When your activities are not regulated by the laws of any country, it is much more difficult to punish you for violating them. If your business is confined to files and software on a specific server, it simply cannot get the Extra Jus status, as each server is installed somewhere. But if it is distributed in small pieces of code on millions of computers worldwide, making a charge becomes much harder.

We recently wrote that this path was chosen by the ShapeShift cryptocurrency exchange, which is now discontinuing its activities as an official company and coming under the control of a decentralized autonomous organization (DAO) run by FOX token holders.

Obviously, switching to Extra Jus won’t save you from all the problems of the crypto industry. Remember, even the IDEX decentralized exchange had to comply with the requirements of regulators and introduce mandatory verification of all users back in 2019. Representatives of the platform then referred to the statement of Brian Quintenz, a member of the US Commodity Futures Trading Commission (CFTC), that said developers could be prosecuted for illegal third party transactions carried out using their smart contracts. However, this issue can be resolved with the help of a good lawyer. And so far, real decentralization looks like a path for those representatives of the crypto business who want to preserve the principles once laid down for Bitcoin by Satoshi Nakamoto himself.