The Crypto Controversy is Far from Over

A trail of circulars from Central Bank of Nigeria and Nigeria’s Securities and Exchange Commission has thrown the tech industry in a panic. According to the first circular issued on 5th February, 2021, Nigeria joins the growing list of countries restricting or ‘banning’ financial institutions from enabling cryptocurrency transactions. A few others in that list are China, Canada, Egypt and the United Kingdom. Before its directive premised on the risks of money laundering, financing for terrorism, illicit inflow and the speculative and anonymous nature of cryptocurrencies, the CBN had cautioned investors against trading in cryptocurrency, citing the largely deregulated crypto market in Nigeria. The CBN has maintained that virtual coins such as Bitcoin, Ripple, Monero, Litecoin, and Dogecoin are not legal tender in Nigeria, and financial institutions enabling transactions in such coins do so at their own risk.

The CBN has sought to justify its latest directive by bringing up the example set in China, where even cryptocurrency exchanges are closed based on the government’s rationale that cryptocurrencies lack legal status that can make them equivalent to fiat, and are not issued by any recognized monetary institution. Unnamed insiders have suggested that the CBN received a tip-off from the United States Federal Bureau of Investigation (FBI), to the effect that fraudsters were taking advantage of cryptocurrencies to illegally transfer millions of dollars from the U.S. to Nigeria.

While cryptocurrency transactions are anonymous, and the real-world identities of those who engage in them will likely remain secret, the anonymity of crypto trading is based on digital signatures that serve as a series of virtual identities that can be traced to the parties involved, if not to a particular person. With the rise of chain analysis, which shows the location of a person entering a bitcoin transaction, talk of the dangers of extreme anonymity in bitcoin transactions will soon be unfounded. It is true that cryptocurrencies have criminal utility. However, the volume of illegal transactions enabled by crypto are a tiny fraction of global crypto transactions, and for commission of crime, cash has proven to be of greater value. For example, research shows fiat is used for money laundering eight–hundred times more than cryptocurrencies.

As has been noted elsewhere, the CBN’s circular should not be interpreted as an outright ban of cryptocurrency. It is more an administrative instruction or a general statement of policy disseminated in the exercise of the CBN’s supervisory powers over the conduct of banks in the country–by itself the circular has no force of law. Although the legislature has not criminalized owning or trading in cryptocurrency, and the CBN has no more power to ban cryptocurrencies than it does the power to ban the U.S dollar, euro, or cedi, it is all but certain that banks will comply with the circular and avoid calling into question the CBN’s role as their apex regulator. In the wake of the circular, bank notifications for account holders who trade in cryptocurrencies have circulated online, with a format more or less like this: “We recently reviewed your account ***3647 and observed transactions herein are linked to cryptocurrency trading. Due to the unregulated nature of cryptocurrency trading and the directive from the CBN, we are unable to serve as your organization’s financial partner going forward. We have proceeded on the closure of your account and a draft will be issued to you for the sum in your account.” One may argue that such total and immediate compliance from the banks, in the absence of a substantive prohibition, runs counter to established legal precepts including: “What the law has not criminalized cannot be criminalized by any other institution including the Court.” and “A circular can be neither law nor regulation but merely information to the public.”

Against this background, there is a need to understand the nature of cryptocurrency and why it spurs so much controversy. The fiat we’ve always known is backed by real assets or tangible securities, while cryptocurrencies operate on blockchain, a technology that manages and records transactions. Mining is the power-intensive process of producing a cryptocurrency. For bitcoin, a complicated cryptographic math problem is presented to specialist miners, who compete to solve it—the first to solve the problem is rewarded a block of bitcoins and any transaction fees that may have been accumulated. This miner must share his results with other miners, who then verify that the work is complete. Once verification happens, the winner can add the new block to the existing chain. The price of the cryptocurrency will be closely tied to the marginal cost of its production. The value then given to the cryptocurrency will depend on community involvement—more users will result in relative scarcity and higher price. Like real currencies, cryptocurrencies generate no cash flow; holders can only profit by selling them at a higher price. Unlike fiat, cryptos are extremely volatile and—in most parts of the world—have no regulator. Coinbase has estimated the total value of all cryptocurrencies to be just over $897.3bn, with bitcoin accounting for 69% of this value. Any cryptocurrency that is not bitcoin falls under the term ‘altcoin’.

Apart from the use of cryptocurrency as a hedge against naira devaluation and inflation, more Nigerians are converting their fiat to cryptocurrency for these reasons: virtual coins are not easily confiscated. Cryptocurrency is beyond government control, interference or manipulation. It is hard to censor the administration of cryptocurrencies; and access to it cannot be fully blocked. Again, there are very few barriers to transferring a cryptocurrency: all you need is a smart phone or computer, and internet connection. Most cryptos are also cheap and can be bought in fractions, for as low as N2,000. The best part is that interest in cryptocurrencies among people, businesses, and countries has just begun, and will not peak for a very long time; the number of bitcoin wallets reached 55 million in February 2021. As the supply of bitcoin is limited, renewed interest causes its price to skyrocket, and even at its highest, many believe that it can only go up. As a long-term investment, the right sort of cryptocurrency will yield uncommon returns. Finally, in politically unstable countries, distrust of banks and fears that the banks will be powerless if the government decides to appropriate monies in accounts, have fueled the migration to virtual coins.

While nervously debating CBN’s circular, pundits looked to the Securities and Exchange Commission for comments. This is because in September 2020 the commission had made a statement that any person (individual or corporate) whose activities involve an aspect of block-chain related and virtual digital asset services, must be registered by the SEC, and all initial coin offerings within Nigeria, or by Nigerian issuers, or targeted at Nigerian investors, shall be subject to the regulation of the commission. Despite its submission that cryptocurrencies have features of investments and securities as defined in the Investment and Securities Act and therefore fall within its regulatory ambit unless proven otherwise, the SEC on Friday 12th February issued a press release on the CBN’s purported restriction, stating that the restriction did not in any way contradict the SEC’s earlier statement, and that while the SEC still has regulatory powers over crypto, the CBN may, in the interest of financial stability and to avoid systemic risk, suspend certain activities being regulated by the SEC. The SEC affirmed its commitment to innovation, ethical practices, and a fair and efficient securities market that entailed investor protection, which it claimed could be threatened if the CBN did not take action against cryptocurrency trading and its inherent risks.

The SEC’s earlier statement showed an impressive grasp of cryptocurrency and why virtual coins should be regulated rather than banned. Would it have been asking too much for the CBN to take a cue from that statement, or for the SEC to guide the CBN through the latter’s misconceptions about cryptocurrency, or even for the SEC to stand its ground in spite of the CBN’s restriction? By its press release tailored to avoid conflict and not ruffle feathers, the SEC has reneged on the promise implicit in its earlier recognition of cryptocurrency—that innovators can start to build on, and buyers start to invest in, the market for cryptos in Nigeria. What should be the fortune of innovators who built tech solutions in a disabling environment (sometimes from scratch), received funding, or made investments based on the SEC’s statement on cryptocurrency, which at the time must have seemed a sign that the CBN will come around? It is worth noting that in October 2020 the National Information Technology Development Agency (NITDA) issued a draft National Blockchain Adoption Strategy aimed at “fostering an efficient, safe and economically viable Nigeria using the blockchain technology”. Not too long ago, at a Banker’s Committee Meeting, the Nigerian vice president questioned the wisdom in CBN’s crackdown on cryptocurrency, and argued that regulation was the far better option. In his words, the country’s regulators had to embrace emerging and disruptive technologies, which make room for efficiency and progress. This level of contradiction from the seat of power, and mixed signals from regulators of the capital market and money market, reflects the dilemma that cryptocurrency presents as a tradeable asset, but also sends a clear message to potential investors: keep off!

While Kenya figures out how bitcoin can shield it against foreign exchange losses and lower national debt, and Tunisia prepares to issue its first digital currency, both the Central Bank of Nigeria and the Securities and Exchange Commission are resigned to monitoring the risks of cryptocurrency as identified by the CBN, and will be working on mitigants in the unlikely event that virtual coins are reintroduced as tradeable means of exchange, units of account, or stores of value.

Even as they hope that the CBN will clarify or retract its directive, some institutional and individual traders caught up by the restriction have begun to look outside, to jurisdictions that encourage crypto trading. Prominent exchanges like Trove and Luno have asked customers to pause deposits to their accounts pending clarification from the CBN. There is little doubt that the volume of cryptocurrency transactions will fall, which should be a cause for alarm given the stellar run Nigeria had in cryptocurrency last year, while other sectors of the economy were flailing. Nigeria reported the world’s second–largest bitcoin trading volume and ranked 8th in the list of countries with the highest adoption of cryptocurrency.

With the clampdown on cryptocurrency exchanges that used to perform Know Your Customer (KYC) Processes on buyers–i.e. verifying the identities of potential buyers–an unofficial and unmanned exchange in the form of peer-to-peer cryptocurrency transactions (P2P) will spread (P2P already had a bigger fraction of the cryptocurrency market than centralized exchanges), granting everyday Nigerians access to cryptocurrencies, for good or for bad. We can expect a rise in startups that fill the need for customer due diligence and provide platforms where verified users can sell cryptocurrencies to one another.

Elsewhere, the ease and speed of innovations for virtual coins make it probable that the Central Bank of Nigeria, and other prohibitory regimes, wage a futile war against cryptocurrency. In February Visa announced the launch of an application for its customers to buy and sell digital assets such as bitcoin worldwide, by keying into infrastructure built by Visa’s partner, Anchorage (a digital asset bank). Pointing to increased purchases of crypto assets via debit card during the bitcoin surge, Mastercard also announced that select cryptocurrencies will be supported on its network, and added that it will be engaging central banks around the world as they review plans to launch their digital currencies called Central Bank Digital Currencies. These announcements came shortly after PayPal decided to offer the option of crypto payments to its 26 million merchants, Tesla purchased bitcoin worth $1.5bn from its cash reserve, and J.P. Morgan created its own digital coins for payments.

Nigeria cannot afford to be left behind. We envisage the CBN easing up its restriction on the banks and enacting a policy for exchanges that ensures consumer protection, including privacy and security of consumers’ information; and instils strict compliance protocols for the exchanges to follow. Cryptocurrency exchanges seeking to be licensed will be made to meet a minimum capital base. Depending on the capital requirements, exchanges will be forced to merge into recognizable units.

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