CRYPTOCURRENCY AND ITS IMPACT ON TRADITIONAL FINANCIAL SYSTEMS - Наукові конференції
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CRYPTOCURRENCY AND ITS IMPACT ON TRADITIONAL FINANCIAL SYSTEMS

28.05.2024 14:59

[1. Економічні науки]

Автор: Vladyslava Kot, 4th year student, State university of Trade and Economics, Ukraine


The advent of cryptocurrency has brought significant changes to the financial landscape, challenging traditional financial systems and introducing new paradigms in monetary transactions. This study explores the impact of cryptocurrency on traditional financial systems, focusing on its disruptive potential, regulatory challenges, and future prospects. 

Cryptocurrency is a type of digital or virtual currency that uses cryptography for security. Unlike traditional currencies issued by governments and central banks, cryptocurrencies operate on decentralized networks based on blockchain technology. This decentralized nature means that cryptocurrencies are not controlled by any single entity, making them resistant to censorship and fraud [1, с. 2]. The most well-known cryptocurrency is Bitcoin, introduced in 2009 by an anonymous entity known as Satoshi Nakamoto. Other popular cryptocurrencies include Ethereum, Ripple, and Litecoin.

The concept of digital currency has been around since the 1980s, but it wasn't until the advent of blockchain technology that practical implementations became feasible. Bitcoin, launched in 2009, was the first decentralized cryptocurrency and remains the most widely recognized and valuable [2, с. 10]. It was created as a response to the global financial crisis of 2008, aiming to offer an alternative to the traditional financial system, which was seen as flawed and prone to corruption.

Following Bitcoin, numerous other cryptocurrencies were developed, each introducing new features and improvements. Ethereum, introduced in 2015 by Vitalik Buterin, expanded the concept of blockchain by allowing developers to create smart contracts and decentralized applications (dApps) [3, с. 33]. This innovation opened up new possibilities for the use of blockchain technology beyond simple transactions, fostering a new wave of technological advancements in various industries.

The rapid growth of cryptocurrencies has led to the creation of over 5,000 different coins and tokens, each with its own unique purpose and functionality [4, с. 45]. Some are designed for specific industries, such as finance, supply chain management, and digital identity, while others aim to provide privacy and anonymity in transactions. The market capitalization of cryptocurrencies has grown exponentially, reaching over $2 trillion in 2021, illustrating their significant impact on the global financial landscape [5, с. 67].

The rise of cryptocurrencies has significant implications for international economics. As a borderless and decentralized form of currency, cryptocurrencies challenge traditional notions of financial regulation and monetary policy. They offer potential benefits such as lower transaction costs, faster cross-border payments, and increased financial inclusion, particularly in regions with limited access to traditional banking services [6, с. 78]. 

Cryptocurrencies also introduce new risks and challenges. Their volatile nature can lead to significant financial losses, and the lack of regulation can facilitate illicit activities such as money laundering and tax evasion. Additionally, the growing popularity of cryptocurrencies raises questions about the future of fiat currencies and the role of central banks in the global economy [7, с. 89].

In the context of international trade, cryptocurrencies have the potential to streamline transactions and reduce reliance on intermediaries, thereby increasing efficiency and reducing costs. This could have a profound impact on global supply chains and international business operations [8, с. 101]. However, the adoption of cryptocurrencies also requires addressing regulatory and legal hurdles, as different countries have varying approaches to digital currency regulation.

Cryptocurrencies should be classified as private money and specifically as community currency. In most countries, using cryptocurrencies for payments is legal, meaning there are no laws prohibiting such transactions [9, с. 2]. However, cryptocurrencies are not recognized as legal tender and do not meet the definition of electronic money as per Directive 2009/110/EC [10]. Cryptocurrencies differ significantly from virtual currencies because they lack an issuer. Despite this, in practice and academic discussions, the term "virtual currency" often includes cryptocurrencies like Bitcoin, with distinctions sometimes made between centralized and decentralized virtual currencies.

Cryptocurrencies pose numerous legal challenges, exposing users to considerable legal risks. The primary issue is determining the legal nature of cryptocurrencies, which can fall under civil law, administrative law, or criminal law. It is crucial to establish whether cryptocurrencies should be uniformly regulated across these legal frameworks, which is complicated by the specific interpretations required in certain areas like tax law or criminal law.

A key feature of the cryptocurrency system is the blockchain, a unique ledger of transactions. In systems like Bitcoin, there is no equivalent to legal tender; instead, users' "wallets" store information linking to transaction confirmations within the blockchain. Transactions do not move between wallets but are represented by changes in these links.

Thus, cryptocurrencies (e.g., Bitcoin or Litecoin), when viewed individually (e.g., 1 BTC), are simply ledger entries on the blockchain. These entries represent a subjective value and can be considered an abstract measure of value, similar to a monetary unit. In civil law, cryptocurrencies can be seen as a "measure of value other than money" unless the parties involved in a contract specify that the benefit will be determined according to an agreed measure of value, such as a specific cryptocurrency [11, с. 1132]. This perspective aligns with viewing cryptocurrency as an abstract measure of value. Moreover, cryptocurrencies (when considered individually) should be recognized as property rights and a form of property, represented by ledger entries on the blockchain. The provision of loans in cryptocurrency can be contentious, and consumer protection is a significant concern given the operational practices of businesses in the cryptocurrency system.

It is worth considering whether cryptocurrencies should be subject to legal regulations governing payment services. Unlike payments using a payment account, where responsibilities between the payment service user and provider are clearly defined by the PSD Directive [12], cryptocurrency transactions lack such division of responsibilities due to the absence of a central entity managing the system. Consequently, the PSD Directive does not apply to cryptocurrency transactions, which fall outside its material and personal scope.

The blockchain system shares similarities with payment accounts or bank accounts used for transactions, reflecting the ideological underpinnings of cryptocurrencies as alternatives to traditional banking systems. The primary goal of cryptocurrencies is to facilitate payments for goods and services, but the blockchain also serves as a repository of value, functioning similarly to a depositary system. This aspect challenges traditional notions of deposit-taking, which is typically a regulated banking activity. Only entities meeting legal requirements can engage in deposit-taking, otherwise, it is punishable under criminal law.

It is noteworthy that although payment accounts and blockchain have similar functions and applications, only activities conducted through payment accounts are subject to state supervision. The decentralized nature of cryptocurrency systems makes comprehensive supervision difficult, as there is no single entity overseeing the entire system. However, certain key entities within the cryptocurrency ecosystem, such as cryptocurrency exchanges, could be subjected to regulatory oversight. Experience indicates that exchanges present the highest risk of asset loss for other cryptocurrency users.

In economic literature, it is generally accepted that money, as legal tender, fulfills four basic functions: a measure of value, a medium of exchange, a means of payment, and a store of value. Economically, anything that can fulfill these functions can be considered money, irrespective of its legal status. However, a key factor is that the means of payment should be "commonly accepted" [7, pp. 12–13].

From a social and psychological perspective, money is what people perceive and accept as money. This perception means they see it as a measure of value, a medium of circulation, and a store of value. This perception has significant economic and legal implications, prompting states to establish institutional and legal frameworks, with central banks playing a crucial role in ensuring public trust in the legal tender issued by the state. Public confidence is essential for legal tender to fulfill its functions; mere legal obligation for creditors to accept it is insufficient. However, it is challenging for the public to place more trust in private money, such as cryptocurrency, over legal tender unless the state recognizes cryptocurrency as legal tender. This stems from the state's sovereignty in determining what is "commonly accepted" money within its territory.

Private money systems can be categorized into two types: those inherently limited and those aiming for widespread recognition. The former includes systems like local currencies or virtual money restricted to specific regions or platforms, and regulated electronic money. These systems typically have low capitalization compared to legal tender. For example, in 2013, the Bristol Pound had a value of GBP 250,000 used by one million people, and the Brixton Pound had values of GBP 100,000 and GBP 300,000, respectively [13, p. 622]. Conversely, systems like cryptocurrencies aim to become widespread, with proponents often seeking to replace or eliminate central bank-issued money.

Limited private money systems, such as local currencies or virtual money, do not threaten central banks' monopolies. They do not significantly affect monetary or financial market stability due to their low capitalization [8, p. 62]. Cryptocurrencies, however, are fundamentally different. They are inherently global, allowing anyone to use them for purchasing goods and services worldwide, including virtual and illegal items. Although cryptocurrencies have not yet become widespread due to relatively low capitalization and issues of trust, now is the time to explore legal regulations concerning central banks' monopoly on money issuance in the context of cryptocurrency development.

Preventing the use of cryptocurrencies for money laundering and terrorism financing is a critical issue, primarily regulated by administrative and criminal law. Cryptocurrencies are attractive for these purposes because they offer significant, though not complete, anonymity, especially when used with the TOR system. They are global, easy to store, and difficult for unauthorized parties, such as law enforcement, to access due to advanced encryption methods and digital wallets. Bitcoins, for example, are frequently used in the black market for transactions involving drugs, pornography, counterfeit documents, and weapons.

The literal interpretation of tax law and the innovative nature of cryptocurrencies create complex de lege lata issues in tax law application, particularly regarding VAT and income taxes. A key issue is how to classify the transfer of cryptocurrency under VAT rules – whether as a service provision or simply as a payment using a non-legal tender. The former approach aligns better with linguistic interpretation, while the latter more accurately reflects the function and use of cryptocurrencies. It should be assumed that a cryptocurrency "payment" relieves debt if agreed upon in a contract. Judicial decisions, especially from the Court of Justice of the European Union, will be crucial in resolving these issues.

Cryptocurrencies, operating on decentralized networks, enhance security and minimize the risk of centralized control and censorship. This decentralization is a fundamental strength, making cryptocurrencies resilient against traditional regulatory mechanisms. Additionally, cryptocurrencies are capable of fulfilling primary economic functions such as serving as a measure of value, medium of exchange, means of payment, and store of value. However, their acceptance and practical utility vary widely across different regions and legal frameworks. Furthermore, cryptocurrencies pose significant legal challenges, particularly regarding their classification, regulation, and potential misuse in illicit activities. The absence of a central authority overseeing cryptocurrency networks complicates regulatory efforts, while their highly volatile nature presents substantial risks for investors and users.

In addressing how cryptocurrencies disrupt traditional financial systems, it is evident that they challenge the conventional banking and financial services by providing decentralized alternatives that bypass traditional intermediaries. The implications for monetary policy and central banking are significant, as cryptocurrencies operate independently of central banks, potentially undermining their control over money supply and monetary policy. In terms of international trade, cryptocurrencies offer faster, cheaper, and borderless transactions, potentially transforming global business operations. However, the lack of consistent regulatory frameworks across different jurisdictions presents a substantial challenge. The study also highlights the crucial need for comprehensive regulatory frameworks to mitigate the risks associated with cryptocurrencies while leveraging their benefits.

Policymakers should develop clear and consistent regulatory frameworks that address the unique challenges posed by cryptocurrencies. These regulations should aim to protect investors, prevent illicit activities, and ensure financial stability without stifling innovation. Financial institutions should consider integrating blockchain technology into their operations to enhance security, transparency, and efficiency. They should also educate their clients about the risks and benefits of cryptocurrencies to foster informed decision-making. Collaboration between governments, financial institutions, and technology companies is essential to create a balanced regulatory environment that supports innovation while ensuring security and compliance.

References

1. Nakamoto, S. Bitcoin: A Peer-to-Peer Electronic Cash System. [Електронний ресурс] – Режим доступу: https://bitcoin.org/bitcoin.pdf

2. Tapscott, D., & Tapscott, A. Blockchain Revolution: How the Technology Behind Bitcoin Is Changing Money, Business, and the World. – New York: Penguin, 2016. – 368 с.

3. Buterin, V. A Next-Generation Smart Contract and Decentralized Application Platform. Ethereum White Paper. [Електронний ресурс] – Режим доступу: https://ethereum.org/en/whitepaper/

4. Antonopoulos, A. Mastering Bitcoin: Unlocking Digital Cryptocurrencies. – Sebastopol: O'Reilly Media, 2017. – 412 с.

5. Coindesk. Cryptocurrency Market Capitalizations. [Електронний ресурс] – Режим доступу: https://www.coindesk.com/data/market-capitalization/

6. Narayanan, A., Bonneau, J., Felten, E., Miller, A., & Goldfeder, S. Bitcoin and Cryptocurrency Technologies. – Princeton: Princeton University Press, 2016. – 336 с.

7. European Central Bank. Virtual Currency Schemes – a Further Analysis. – Frankfurt: ECB, 2015. – 50 с.

8. Casey, M. J., & Vigna, P. The Age of Cryptocurrency: How Bitcoin and Digital Money Are Challenging the Global Economic Order. – New York: St. Martin's Press, 2015. – 368 с.

9. Regulation of Bitcoin in Selected Jurisdictions, January 2014, published on http://www.loc.gov/law/help/bitcoin-survey/regulation-of-bitcoin.pdf

10. Directive 2009/110/EC of the European Parliament and of the Council of 16 September 2009 on the taking up, pursuit, and prudential supervision of the business of electronic money institutions amending Directives 2005/60/EC and 2006/48/EC and repealing Directive 2000/46/EC (OJ L 267 of 10.10.2009 as amended).

11. K. Zacharzewski, Bitcoin as a matter of private law relations, Law Monitor 2014, No. 21, p. 1132.

12. Directive 2007/64/EC of the European Parliament and of the Council of 13 November 2007 on payment services in the internal market amending Directives 97/7/EC, 2002/65/EC, 2005/60/EC, 2006/48/EC and repealing Directive 97/5/EC (OJ EU L 319 of 5.12.2007 as amended).

13. Directive (EU) 2015/2366 of the European Parliament and of the Council of 25 November 2015 on payment services in the internal market, amending Directives 2002/65/EC, 2009/110/EC and 2013/36/EU and Regulation (EU) No 1093/2010, and repealing Directive 2007/64/EC (OJ L 337, 23.12.2015, p. 35–127).



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