Cryptocurrencies are here to stay, but as with most ground-breaking innovations, they have the potential to do both harm and good. FinTechs and ADIs must tread with care.
Shaking up the finance world, cryptocurrencies do not physically exist as coins or notes and are not issued by a country's central bank. Instead, they are digital tokens. Bitcoin is the most well-known cryptocurrency, but far from the only one in operation.
The potential social harm of cryptocurrencies
One obvious downside of some cryptocurrencies is their volatility. Bitcoin exchanges allow people to buy or sell Bitcoin using different currencies, and its value has been through several booms and busts since it was first created in 2009. This volatility has been driven more by speculative buying than its use as a payment system.
While this volatility can make the value of some cryptocurrency transfers and holdings unpredictable, a greater concern for the finance sector and regulators is the anonymity some cryptocurrencies grant users. This makes them attractive to criminals engaged in scams and cyber-crime. Cryptocurrencies like Bitcoin are generally the preferred payment method for ransomware attacks for example.
Further complicating matters, as cryptocurrency transactions are peer-to-peer with no intermediary, there are no entities on which regulators can impose know your customer/anti-money laundering requirements – thus making it an ideal medium for criminals to launder funds and for terrorism financing.
As a result, AUSTRAC has issued industry-specific requirements for digital currency exchange providers, which must be registered with AUSTRAC before they can provide digital currency exchange services in Australia.
There is also an environmental negative to cryptocurrencies. Many cryptocurrencies such as Bitcoin still run on a ‘proof of work’ protocol which requires ‘mining’ coins using a powerful computer. According to the Bitcoin energy consumption tracker at Digiconomist, Bitcoin consumes 66.7 terawatt-hours per year. That’s comparable to the total energy consumption of the Czech Republic, a country of 10.6 million people. This level of energy consumption has an impact on public health and climate change.
The positive side of cryptocurrencies
Although it's easy to focus on the potential pitfalls of cryptocurrencies, they can also be a force for social good. In developed nations, many people treat cryptocurrency as an investment vehicle, but cryptocurrencies are providing real tangible benefits to many people in less developed countries.
For example, it provides a safer alternative to people in countries with a weak banking system and volatile national currency. It also democratises finance, as even those without an ‘identity’ can transact.
Part of the appeal of cryptocurrencies is that their ownership and transactions are tracked using a form of distributed ledger technology known as blockchain. This allows for a tamper-proof record of secure and verified direct transactions, without the need for an intermediary party such as banks – which can be reassuring to users in countries with an unstable economy.
Online retailers can accept payments in cryptocurrencies, plus the technology supports peer-to-peer transactions, so someone can transfer funds directly to another person's digital wallet.
Cryptocurrency has much lower transaction fees compared to banks, offering a more affordable alternative to workers who send money home by international transfer. It is also bringing transparency into areas like charitable donations.
What FinTechs that deal in cryptocurrencies need to do
For cryptocurrencies to gain wider acceptance, Gen Advisory believes FinTechs which deal in them need to take several steps. These include adhering to AUSTRAC's guidance requirements for cryptocurrency providers and abiding by Blockchain Australia's Code of Conduct for Digital Currency Exchanges.
Other Gen Advisory recommendations include: implementing a cryptocurrency-specific RegTech transaction monitoring system; and joining a National Australia Blockchain Roadmap Working Group, so as to contribute to policy discussion in this area.
Michael Lukman is the managing director of Gen Advisory Pty Ltd - a specialised advisory firm supporting ADIs and FinTechs.