(Nov 13): There has been a sharp appreciation in the market price of digital currencies in the recent past. Bitcoin currently trades well above US$7,000. It was about US$600 just a year ago. Similarly, ether, which was at the US$12 level, has climbed to above US$300 in the last 12 months.

The boom in cryptocurrencies has resulted in a spate of new initial coin offerings (ICO). An ICO is made to finance a new digital currency. Individuals can invest with fiat or digital currency and, in return, they will get cryptocoins, or tokens. The motivation to invest is based on the hope that the cryptocoins will appreciate in value.

Take, for example, ether, the unit of cryptocurrency used on the Ethereum blockchain. When it was issued in 2014, it cost just 40 US cents a coin. Today, it trades at 750 times that amount. In view of the vast sums of money to be made, new digital currencies are being launched at the rate of one a day. At last count, there were 900 available on the market.

The digital currency space is largely unregulated, and many investors have lost money after being lured by the prospect of high returns. In the US, the Securities and Exchange Commission (SEC) has said it will prosecute the promoter of two recent ICOs that were sold on the basis of fraudulent claims.

REcoin was stated to be an ICO backed by real estate holdings. The second ICO, DRC, was sold on the basis that investors’ money was secured by an investment in diamonds. According to SEC, however, the founders misrepresented their total level of investment. The promised digital tokens did not exist at all.

In Singapore, a recent media report says more than 100 individuals have filed complaints with the police after being defrauded by investment schemes involving digital tokens. The Monetary Authority of Singapore (MAS) has stepped in to regulate some aspects of digital currencies and ICOs.

Safeguards proposed by MAS Until recently, Singapore was considered an “ICO haven”. Several new digital currencies have been successfully launched in the city state. Local start-up TenX has built a protocol that enables transactions between different blockchains. It raised the equivalent of US$80 million ($109.2 million) in an ICO this year. The Qtum Foundation, another Singapore-based firm, raised US$15.6 million in its ICO in March.

Now, MAS plans to introduce a certain degree of regulation in this booming market. The regulator recently announced that it would do so if a new digital currency represented ownership of assets or property belonging to the issuer. If it does, then the digital coins or tokens could be said to be an offer for the sale of shares in an investment scheme. Such an offer needs to follow the rules laid down in Singa pore’s Securities and Futures Act — hence the MAS involvement.

On Aug 1, MAS clarified that if a cryptocurrency is structured in the form of securities, the ICO must comply with existing securities laws aimed at safeguarding investors’ interest. The issuer will need to register a prospectus and obtain intermediary or exchange operator licences such as a Capital Market Services licence.

Singapore has strict anti-money laundering and counter-terrorism financing regulations. This is another reason digital currencies need to be regulated. They offer a high degree of anonymity and can thus be used for these activities.

MAS says that, while a digital currency itself may not be regulated, the intermediaries involved in transactions could be the subject of scrutiny for the purpose of preventing money laundering and terrorist funding.

On Oct 3, Cheng Li Hui, member of parliament, Tampines group representation constituency, asked in parliament a) whether the government was keeping track of the use/investment of cryptocurrencies such as bitcoin in Singapore; b) how cryptocurrencies affected the local finance industry; c) whether studies were being conducted to assess the problems and risks of using/investing in cryptocurrencies; and d) whether regulatory frameworks were necessary in the future.

In reply, deputy prime minister and minister in charge of MAS Tharman Shanmugaratnam said, “MAS does not regulate such virtual currencies per se. However, we regulate the activities that surround them if those activities fall within our more general ambit as financial regulator.”

MAS will look into cryptocurrencies in relation to anti-money laundering and counter-terrorism financing. “MAS is working on a new payment services regulatory framework that will address these risks,” Tharman added.

Regulating cryptocurrencies In September, China banned ICOs to prevent individual investors from falling prey to what were essentially perceived as get-rich-quick schemes. According to China’s National Committee of Experts on Internet Financial Security Technology, investors pumped in RMB2.6 billion ($533.5 million) into ICOs in 1H2017.

The Japanese authorities are also taking steps to regulate digital currencies. The country’s Financial Services Agency, a regulatory body, said it would put cryptocurrency exchanges under scrutiny from October. They will monitor internal systems and possibly even conduct on-site inspections.

In the US, ICOs are attracting an increased level of regulatory attention. SEC recently announced that sales of new digital coins would attract US securities laws. Jay Clayton, chairman of SEC, says, “I am not comfortable that the American investing public understands the substantial risks that we face systemically from cyber issues.”

In Australia, the Justice Minister said the country would introduce an anti-money laundering act that would include bitcoin providers in its scope.

Digital currencies worldwide are coming under an increased level of scrutiny from regulatory authorities.

At a global level, ICOs have raised more than US$1.2 billion. Considering the large amounts of investments going into this sector, many analysts hold the view that a bubble is forming. Regulation by the world’s central banks will help give genuine issuers legitimacy and promote a technology that holds great promise for the financial industry.

Cryptocurrencies fail on two counts that have made fiat currencies widely used: as a medium of exchange and store of value.

First, governments are unlikely to accept cryptocurrencies as a medium of exchange for the single most important transaction in an economy: taxes. They prefer taxes to be raised in the same currency as their liabilities. Governments also generally prefer to issue liabilities in the same currency that they can control.

Furthermore, in developed markets, some 70% of costs for companies are staff-related. Companies that pay taxes are unlikely to pay their staff in bitcoin because their staff cannot be expected to take exchange-rate risk. Staff also need to pay taxes in a government-backed currency.

Second, for a currency to act as a store of value, people need to be able to buy goods and services with it — such as food, clothing, transport, insurance and property. To maintain its store of value, currencies need to be relatively stable. Central banks do this by ensuring that the supply of their currency matches the demand for it. German hyperinflation in the 1930s and Venezuelan inflation today are some of the events that have occurred when central banks were unable to keep that equilibrium.

Unlike central bank-issued currencies, the supply of cryptocurrencies is an unknown; it can be limitless. As a result, cryptocurrencies are notoriously volatile and unstable. For all these reasons, it would be a leap of the imagination for cryptocurrencies to be used for the main transactions in an economy.

This article was written in collaboration with The Edge Singapore for the FinTech Festival. All views, opinions and recommendations expressed in the article are the independent opinion of zuuonline.sg, a Singapore-based financial education online portal. Founded in Japan by Kazumasa Tomita, a former private banker at Nomura Securities, the portal seeks to fill the information gap between institutional research houses and the private investor.

Rise of digital currencies in Singapore

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