Why the crypto industry is struggling to emerge from the gloom

A 22-year-old engineering student from Bangalore, who also runs a small digital marketing firm, is in similar trouble. On condition of anonymity, the student had invested around 6 lakhs in cryptocurrency so far,” with contributions from some friends. They have gradually started shifting holdings from Indian crypto exchanges to international ones to avoid paying Tax Deduction at Source (TDS).Read More To save money, he moves cryptocurrencies (mostly bitcoin and ether) from international exchanges to peer-to-peer (P2P) platforms, where he exchanges them for e-commerce gift cards. .

Until earlier this year, the crypto story in India was riding on a wave of curiosity and interest, celebrity ads and influencer-speaking. Like the two people mentioned above, a little over 100 million people in India used their wealth in the form of digital currency. But despair and uncertainty are now a surprising contrast, as the government tightens investigations, business volume has crashed, and stories of crypto fraud and ED raids make the industry shine.

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gray area

While the Indian government and the Reserve Bank of India (RBI) have warmed to the use of blockchain – the underlying distributed ledger technology (DLT) for native cryptocurrencies and non-native crypto tokens – they remain uncomfortable with unregulated cryptocurrencies.

Native cryptocurrencies such as bitcoin and ether are issued directly by the blockchain protocol on which they run, and hence the term ‘native’. Non-native crypto tokens are created by platforms that build blockchains for a specific purpose. These include utility tokens (to pay for a company’s product or service), governance tokens (where holders have the power to make decisions about new feature proposals and changes to the project’s governance system), security/equity tokens, Reward/Loyalty tokens (such as Web3 tokens to reward contributions to the development of the platform), non-fungible tokens or NFTs (digital certificates of ownership of a unique asset on the blockchain), and even stablecoins such as Tether (backed by fiat currencies such as the US dollar). For example, GARI, a social crypto token backed by Bollywood actor Salman Khan, was launched in October 2021 to help Indian creators monetize their content on Chingari, a short video application. The company claims that it has over 1 million active wallet users.

The RBI, which is considering its own central bank digital currency – a fiat currency issued by a central bank in a digital form – does not rely on native cryptocurrencies. He has his reasons. While there are an estimated 20,000 cryptocurrencies in circulation, only the 1,500-odd coins are regularly traded. Others are dismissed as ‘shitcoins’, which are mostly used to deceive people. For example, on January 10, the ED conducted several raids to unearth a major crypto scam, which involved a fake crypto called Morris Coin, which was floated to dupe lakhs of investors in Kerala, Tamil Nadu and Karnataka. 1,200 crores.

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RBI has long been suspicious of cryptocurrency. In 2018, it banned all entities regulated by it from operating in virtual currencies. The Supreme Court quashed this order in 2020. But the apex bank said banks and financial institutions “may continue to carry out customer due diligence procedures” such as Know Your Customer (KYC), Anti-Money Laundering (AML), counter financing. Terrorism (CFT) investigation, and “ensure compliance with relevant provisions under the Foreign Exchange Management Act (FEMA) for foreign remittances”. Banks took cue and cracked down on crypto transactions conducted through them, even as the government mandated that proceeds from the sale of cryptocurrencies be treated as income (30% tax rate) by the tax authorities. and investors will pay an additional 1% TDS. On crypto transfer. But merely taxing a virtual asset does not make it legal tender. The government listed the Cryptocurrency and Regulation of Official Digital Currency Bill, 2021, in the Winter Session of Parliament in December 2021, but it has yet to be introduced.

wazirx tangle

Meanwhile, some crypto exchanges continue to flout the rules. On March 28, the Central Goods and Services Tax (CGST) authority collected 95.86 Crore from 11 Crypto Exchanges That Grown Collectively 81.54 crore in GST, Minister of State for Finance Pankaj Choudhary said in a written reply to a question in Lok Sabha. Cryptocurrency traders in India pay a GST rate of 18%.

On August 6, the ED searched a director of Janmai Labs Pvt Ltd. Ltd, which operates cryptocurrency exchange WazirX, and froze the exchange’s bank balances 64.67 crore in money laundering investigation. Among other things, the ED alleged that “… no physical address verification was done (read: KYC), nor was there any probe on the source of funds (read: off-chain transactions) of their customers”. .

A blockchain is a shared, immutable (non-changeable), distributed ledger that can track orders, payments, accounts, production, etc. Therefore, most courts and law enforcement bodies accept blockchain records as legal proof of transaction history. A crypto transaction that does not take place on the blockchain is said to be ‘off-chain’, which cannot be traced unless the parties involved cooperate.

Supreme Court lawyer NS Nappinai says reports of an ‘off-chain’ deal possibly hint at a “hawala” transaction and there are justifiable reasons to prosecute it for money laundering. In a press statement, the ED also alleged that Janmay Labs had entered into a “web of agreements” with Crowdfire Inc., Binance (Cayman Islands) in the US, and Zetai Pte Ltd in Singapore to hide its ownership of the cryptocurrency exchange. Zanmai Labs denies this.

Things got worse when Binance CEO Changpeng Zhao tweeted that his company did not have equity in Xanmai Labs. WazirX founder and CEO Nischal Shetty responded with a tweet: “WazirX was acquired by Binance; Zanmai Labs is an Indian entity owned by me and my co-founders; Zanmai Labs holds INR in WazirX -is licensed from Binance to operate crypto pairs; Binance operates crypto-to-crypto pairs, processes crypto withdrawals”.

The deadlock continues even after the ED probe is on. One employee, who had worked at WazirX since day one but recently left the company, said, “Each time the company has been embroiled in controversy, the rest of the crypto industry has come under fire. As a result, the employees are somewhat have become immune and don’t worry about their jobs.” The person, who did not wish to be named, said that “Binance’s involvement with WazirX was minimal. As a result, we operated as an independent company. Even our salaries came from the company’s revenue in India.” It was not from Binance.”

Another employee who joined WazirX last year told a different story. “While Binance is claiming that it no longer has anything to do with WazirX, last year we received Apple Watches and AirPods as gifts from Binance as part of the exchange anniversary celebrations in July 2021.” When contacted, a Binance spokesperson replied, “Binance shares its achievements and anniversaries with the Binance community, which includes our users and partners. … This does not imply that WazirX employees, or anyone in the community for that matter, are Binance employees. WazirX is run by Zanmai Labs, and Zanmai Labs is not owned by Binance.”

The person cited above says that the concern for WazirX employees is not confusion about its ownership, but “the lack of trading volume on Indian exchanges as the government started taxing transactions.” In fact, trading volume on crypto exchanges has fallen by over 50%. in the last few months. Satwik Viswanath, co-founder and CEO of cryptoexchange Unocoin, insisted that “the government should set clear rules that we can accept, which, failing which would result in a lot of misinterpretation on both sides”.

regulator out of the mud

“India is still grappling with the form, structure and status of cryptocurrencies,” says Nappinai, but recognizes that it is “important that we take a certain stance, whatever it may be, and do so immediately”. , she suggests “a nuanced approach.” “The narratives of the ban have been equated with the ‘off with their heads’ syndrome. The very stakeholders that are most affected, i.e., investors in cryptocurrencies, are being provoked to oppose any form of restraint or regulation. The legal and regulatory framework also cannot be built on the assumption that mistakes will be corrected later or in a staggered manner,” claims Nappinai.

Despite the “extremely profitable business model”, regulatory risk and cyclicity have always been important considerations when investing in centralized exchanges, said Nitin Sharma, co-founder of Antler India and global Web3 lead of VC firm Antler, keen on the Web3 ecosystem. The argument is. “Since 2017, I have been an advocate for a strong regulatory framework (as opposed to sanctions), in the absence of which all institutional or retail investors rely on self-regulation mechanisms, which can often fall short,” he says. He acknowledged that recent developments have “definitely created more confusion and eroded trust”.

“Investor confidence has been shaken,” admits a venture capitalist (VC) who is on the cap-table of one of India’s crypto exchanges and has invested in cryptocurrencies. The VC, who did not wish to be named, believes his firm’s “investment is safe and can survive a crypto meltdown”. “These are evolving areas of technology. They are developing so rapidly that it is not easy for a regulator,” argued the investor, “after all, the authorities take a balanced view”.

But will it also affect investments in Web3 (decentralized blockchains, cryptocurrencies and companies that use NFTs)? Parin Lathia, co-founder of Buddlers Tribe, a Web3 incubator, is not worried. “Most VC and institutional investors are quite diversified and there is a lot of interest in this area,” he said. Underlining the need to differentiate cryptocurrencies from Web3 technology, he explained, “Crypto exchanges aren’t even Web3 businesses… In the past month, The DAO (Decentralized Autonomous Organization), Maker Economy, and Metaverse Startups raised funding. The DeFi (decentralized finance) sector is much more mature and is also gaining significant interest.”

Antler India’s Sharma also believes that “as a pre-seed focused global investor focused on a 5-10 year time frame”, his firm “will remain mostly focused on software, data and middleware startups, essential to new startups”. “Web3 economy” will create the infrastructure. Nappinai concluded that the future of crypto “will depend on what use cases, if any, the government can decide on with respect to blockchain”, India now needs to have a legal framework will proceed from the front through what is capable instead of being a hindrance.”.

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