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<p> Financial Action  Task Force (FATF), which is the global body fighting money laundering  and terrorist financing has [http://www.fatf-gafi.org/media/fatf/documents/reports/Virtual-currency-key-definitions-and-potential-aml-cft-risks.pdf defined  Virtual currency] as a digital representation of value that can be  digitally traded and functions as (1) a medium of exchange; and/or  (2) a unit of account; and/or (3) a store of value, but does not  generally have legal tender status (i.e., when tendered to a  creditor, is a valid and legal offer of payment) in any jurisdiction.  As on date, it is not issued nor guaranteed by any jurisdiction, and  fulfils the above functions only by agreement within the community of  users of the virtual currency. </p>
<p> Virtual currency is  distinguished from fiat currency (a.k.a. &ldquo;real currency,&rdquo; &ldquo;real  money,&rdquo; or &ldquo;national currency&rdquo;), which is the coin and paper  money of a country that is designated as its legal tender;  circulates; and is customarily used and accepted as a medium of  exchange in the issuing country. It is distinct from e-money, which  is a digital representation of fiat currency used to electronically  transfer value denominated in fiat currency. E-money is a digital  transfer mechanism for fiat currency - i.e., it electronically  transfers value that has legal tender status. </p>
<p> Digital currency can  mean a digital representation of either virtual currency (non-fiat)  or e-money (fiat) and thus is often used interchangeably with the  term &ldquo;virtual currency&rdquo;.</p>
<p> Cryptocurrency  is a digital currency which makes use of encryption techniques to  regulate the generation of units of currency and to verify the  transfer of funds, operating independently of a central bank. This is  a math-based, decentralised convertible virtual currency that is  protected by cryptography.</p>
<p>&nbsp;</p>
<p> <strong>Types of virtual  currencies </strong> </p>
<p> Convertible (or  open) virtual currency has an equivalent value in real currency and  can be exchanged back-and-forth for real currency. The notion of  &ldquo;convertible currency&rdquo; does not in any way imply an ex officio  convertibility (e.g. in the case of gold standard), but rather a de  facto convertibility (e.g. because a market exists). Thus, a virtual  currency is &ldquo;convertible&rdquo; only as long as some private  participants make offers and others accept them, since the  &ldquo;convertibility&rdquo; is not guaranteed at all by law.</p>
<p> Non-convertible  virtual currencies cannot be exchanged against fiat currency. It is  specific to a particular virtual domain or world (say Amazon). It is  possible that an unofficial, secondary black market may arise that  provides an opportunity to exchange the &ldquo;non-convertible&rdquo; virtual  currency for fiat currency or another virtual currency.</p>
<p> Centralised Virtual  Currencies have a single administrating authority  (administrator) - i.e., a third party that controls the system. An  administrator issues the currency; establishes the rules for its use;  maintains a central payment ledger; and has authority to redeem the  currency (withdraw it from circulation). The exchange rate for a  convertible virtual currency may be either floating -  i.e.,  determined by market supply and demand for the virtual currency--or  pegged - i.e., fixed by the administrator at a set value measured in  fiat currency or another real-world store of value, such as gold or a  basket of currencies. Currently, the vast majority of virtual  currency payments transactions involve centralised virtual  currencies.</p>
<p> Decentralised  Virtual Currencies (a.k.a. crypto-currencies) are distributed,  open-source, math-based peer-to-peer virtual currencies that have no  central administrating authority, and no central monitoring or  oversight. Examples: Bitcoin; liteCoin; and Ripple.</p>
<p> Virtual  currencies are a worldwide phenomenon that have captured the  imagination of millions across rungs of businesses, banks and  governments. [https://www.investopedia.com/terms/b/bitcoin.asp Bitcoin],  launched in 2009 by Satoshi Nakamoto was the first decentralised  convertible virtual currency, and the first cryptocurrency. Bitcoin's  success has spawned a number of competing cryptocurrencies, such as [https://litecoin.org/ litecoin],  Namecoin, PPCoin, [https://www.ethereum.org/ Ethereum], [https://ripple.com/ Ripple], Monero, Dash, Augur,NEM,etc. A  comparative table of major virtual currencies alongwith with their  market cap may be seen [https://coinmarketcap.com/ here]. </p>
<p> Virtual currency  exchange /exchanger is a person or entity engaged in the business of  exchange of virtual currency for real currency, funds, or other forms  of virtual currency and also precious metals, and vice versa, for a  fee (commission). Individuals typically use exchangers to deposit and  withdraw money from virtual currency accounts.</p>
<p> Users can obtain  virtual currency in several ways. For example, they can (1) purchase  virtual currency, using real money (from a virtual currency exchange  or, for certain centralised virtual currencies, directly from the  administrator/issuer); (2) engage in specific activities that earn  virtual currency payments (e.g., respond to a promotion, complete an  online survey, provide a real or virtual good or service); (3) in  case of decentralised virtual currencies (e.g., Bitcoin),  self-generate units of the currency by &quot;mining&quot; them and  receive them as gifts, rewards, or as part of a free initial  distribution.</p>
<p> Of late, considering  the global interest in digital currencies, some central banks have  initiated works on introducing Digital Currencies </p>
<p> The Committee on  Payments and Market Infrastructures and the Markets Committee of Bank  of International Settlements (BIS) has in March 2018 completed a [https://www.bis.org/cpmi/publ/d174.pdf work  on central bank digital currencies] (CBDCs). CBDC is potentially a  new form of digital central bank money that can be distinguished from  reserves or settlement balances held by commercial banks at central  banks. There are various design choices for a CBDC, including: access  (widely vs restricted); degree of anonymity (ranging from complete to  none); operational availability (ranging from current opening hours  to 24 hours a day and seven days a week); and interest bearing  characteristics (yes or no). A general purpose CBDC might turn out to  be an alternative to cash in some situations, thereby reducing the  printing and associated costs to the central banks. </p>
<p>&nbsp;</p>
<p> <U><strong>Genesis  of cryptocurrency:</strong></U> Satoshi  Nakamoto never intended to invent a currency. In his announcement of  Bitcoin in late 2008, Satoshi said he developed &ldquo;a peer-to-peer  electronic cash system&rdquo;.  It  was a decentralized digital cash system like  a[https://en.wikipedia.org/wiki/Peer-to-peer_file_sharing &nbsp;peer-to-peer  network]&nbsp;for file sharing. Any digital cash payment network  hinges upon a record of accounts, balances and transactions and aims  to intercept double spending i.e. to prevent one entity from spending  the same amount twice. In case of conventional payment networks, this  is done by a central server which keeps record about the balances.  However, cryptocurrencies&rsquo; self-reliance comes from their system of  limited  entries in a database that no one can change without fulfilling  specific conditions.</p>
<p> Anyone  can download the free, open-source software from a website to send,  receive, and store bitcoins and monitor Bitcoin transactions. Users  can also obtain Bitcoin addresses, which function like accounts, at a  Bitcoin exchanger or online wallet service. Transactions (fund flows)  are publicly available in a shared transaction register and  identified by the Bitcoin address, a string of letters and numbers  that is not systematically linked to an individual. Therefore,  Bitcoin is said to be &ldquo;pseudoanonymous&rdquo;. The underlying  technology used by bitcoin for securing the transactions is known as  &ldquo;block chain&rdquo;. This technology has many other applications even  though bitcoin may not be acceptable.  Distributed  ledger system or the block chain technology allows organization of  any chain of records or transactions without the need of  intermediaries.</p>
<p>&nbsp;</p>
<p> <U><strong>The  mechanism</strong></U><strong>:</strong> A cryptocurrency consists of a network of peers where each of the  peer has a record of the complete history of all transactions and  thus of the balance of every account. A transaction is a file that  says, &ldquo;A gives x Bitcoin to B&rdquo; and is signed by A&rsquo;s private  key. After being signed, a transaction is broadcasted in the network,  sent from one peer to every other peer. This is based on the system  of public-key cryptography, or asymmetric cryptography which is an  encryption scheme that uses two mathematically related keys - a  public key and a private key. The public key is used to encrypt and  the private key is used to decrypt. Each public key is published and  the corresponding private key is kept secret. In general, to send  encrypted data to someone, it is encrypted with the recipient&rsquo;s  public key, and then the recipient decrypts the data with the  corresponding private key. Public key cryptography enables the  following:</p>
<ul>
  <li>Encryption  	and decryption, which allow two communicating parties to disguise  	data that they send to each other. The sender encrypts, or  	scrambles, the data before sending it. The receiver decrypts, or  	unscrambles, the data after receiving it. While in transit, the  	encrypted data is not understood by an intruder.</li>
   <li> Nonrepudiation,  	which prevents:
  	<ul>
      <li>The  		sender of the data from claiming, at a later date, that the data  		was never sent</li>
      <li>The  		data from being altered.</li>
    </ul>
  </li>
</ul>

 

<p> When  a transaction is confirmed it can&rsquo;t be reversed and it becomes a  part of an unalterable record of historical transactions  i.e.&nbsp;[http://blockgeeks.com/guides/what-is-blockchain-technology-a-step-by-step-guide-than-anyone-can-understand/ blockchain].</p>
<p>&nbsp;</p>
<p> <U><strong>Role  of a miner:</strong></U> A miner is an individual or entity that participates in a  decentralised virtual currency network by running special software to  solve complex algorithms in a distributed proof-of-work or other  distributed proof system used to validate transactions in the virtual  currency system. Miners may be users, if they self-generate a  convertible virtual currency solely for their own purposes, e.g., to  hold for investment or to use to pay an existing obligation or to  purchase goods and services. Miners may also participate in a virtual  currency system as exchangers, creating the virtual currency as a  business in order to sell it for fiat currency or other virtual  currency.</p>
<p> The  job of a miner in a cryptocurrency transaction is to confirm the  transactions by stamping them and spreading them across the network  of nodes. The nodes then have to add it to their database to make it  a part of the blockchain. The exercise entails rewards for the miners  in terms of the cryptocurrency itself. Since the role of a miner is  crucial to ensure a fair network and prevent forged transactions, the  miners have to find a hash, a product of a cryptographic function,  that connects the new block with its predecessor. This is called  the&nbsp;&lsquo;[https://blockgeeks.com/guides/proof-of-work-vs-proof-of-stake/ Proof-of-Work]&rsquo;.  A  hash is a string of random-looking characters that uniquely  identifies the data in question. Transactions are bundled together  into what we call a block and it is the miners who have to verify  that transactions within each block are legitimate. Legitimacy of the  transactions is ascertained by miners by solving a mathematical  puzzle known as proof-of-work problem and only subsequently the  transaction is stored in the blockchain. The first miner to solve the  puzzle is rewarded for verifying the transaction and in the form of a  reward, the miner has the right to add a coinbase transaction that  give him/her a specific number of bitcoins. This is how new bitcoins  are created. Solving a cryptographic puzzle with high difficulty  entails high computer power that the miner&rsquo;s invest. Thus, only a  limited amount of cryptocurrency can be created in a given amount of  time.  Further, all cryptocurrencies control the supply of the token  by a schedule written in the code.</p>
<p>&nbsp;</p>
<p> <U><strong>Bouquets  and brickbats:</strong></U> FATF identifies the following advantages for virtual currencies. </p>
<UL>
  <li>
    <p> Virtual currency  	has the potential to improve payment efficiency and reduce  	transaction costs for payments and fund transfers. Being a global  	currency it can avoid exchange fees, and is currently processed with  	lower fees/charges than traditional credit and debit cards.</p>
  <li>
    <p> Virtual currency  	may also facilitate micro-payments, allowing businesses to monetise  	very low-cost goods or services sold on the Internet, such as  	onetime game or music downloads. </p>
  <li>
    <p> Virtual currency  	may also facilitate international remittances and support financial  	inclusion in other ways, as new virtual currency-based products and  	services are developed that may potentially serve the under- and  	un-banked. </p>
  <li>
    <p> Virtual currency  	may also be held for investment. </p>
</UL>
<p> It needs to be seen  whether the claimed cost advantages will remain, if virtual currency  becomes subject to regulatory requirements similar to those that  apply to other payments methods, and/or if exchange fees for cashing  out into fiat currency are factored in, and whether volatility,  consumer protection and other factors limit their potential for  financial inclusion.</p>
<p> Cryptocurrencies  are being touted as digital gold that seem promising enough to  increase their value overtime. Further, they are a fast and  comfortable means of payment with a worldwide scope. Cryptocurrencies  have given birth to an expanding and dynamic market for investors and  speculators. Springing up of crowd funding projects and  cryptocurrency exchanges have lent depth to the cryptocurrency  market. Recently  futures contracts were introduced by [http://www.cmegroup.com/trading/bitcoin-futures.html Chicago  Mercantile Exchange] over bitcoin. </p>
<p> However,  the world of cryptocurrencies is marred by clouds of doubt. While  cryptocurrencies are being used for payment, their use as a means of  store of value and speculation, with volatility imbued, dwarfs their  potential of being used as a medium of exchange. The innate anonymity  associated with cryptocurrencies make them highly susceptible to be  used as a means of payment in black markets, darknet markets and  illegitimate activities. FATF has identified many potential money  laundering and terrorist financing risks associated with virtual  currency&rsquo;s global reach. There is no central oversight body, and no  anti-money laundering software currently available to monitor and  identify suspicious transaction patterns.  Law  enforcement cannot target one central location or entity  (administrator) for investigative or asset seizure purposes (although  authorities can target individual exchangers for client information  that the exchanger may collect).  Customer  and transaction records may be held by different entities, often in  different jurisdictions, making it more  difficult  for law enforcement and regulators to access them. </p>
<p> FATF  has issued a risk based approach in its [http://www.fatf-gafi.org/media/fatf/documents/reports/Guidance-RBA-Virtual-Currencies.pdf guidance  on virtual currency payment products and services.] </p>
<p> The  markets for cryptocurrencies is fast expanding and is continuously  taking increasing number of people in its fold. But, whether  cryptocurrency is here to stay or not, only time will tell.</p>
<p>&nbsp;</p>
<p><U><strong>India&rsquo;s  Stance:</strong></U> </p>
<p>Central  banks across the world are exploring the option of introducing fiat  digital currencies due to the rapid strides being made by online  payments technology and   rising cost of maintaining fiat  paper/metallic currency. Also, technological  innovations, including those underlying virtual currencies, have the  potential to improve the efficiency and inclusiveness of the &#64257;nancial  system. In view of the same, [https://rbi.org.in/scripts/BS_PressReleaseDisplay.aspx?prid=43574 Reserve  Bank of India has set up an interdepartmental group] to recommend the feasibility of introducing a digital currency. The  Report is due to be submitted by June 2018. </p>
<p>Notwithstanding,  RBI has always been wary of the concerns related to consumer  protection, market integrity and money laundering, among others.  Reserve Bank has repeatedly through its public notices on December  24, 2013, February 01, 2017 and December 05, 2017, cautioned users,  holders and traders of virtual currencies, including Bitcoins,  regarding various risks associated in dealing with such virtual  currencies. </p>
<p>In  the [https://www.indiabudget.gov.in/ub2018-19/bs/bs.pdf Union  Budget 2018-19],  in para 112, Hon&rsquo;ble Finance Minister stated that the Government  does not consider crypto-currencies as legal tender or coin and will  take all measures to eliminate use of these cryptoassets in financing  illegitimate activities or as part of the payment system. However,  the Government promised to explore the use of block chain technology  proactively for ushering in digital economy.</p>
<p>Subsequently  on 6 April 2018, [https://rbi.org.in/Scripts/NotificationUser.aspx?Id=11243&Mode=0 RBI  issued a circular] stating that entities regulated by the Reserve Bank shall not deal in  virtual currencies (VCs) or provide services for facilitating any  person or entity in dealing with or settling VCs. Such services  include maintaining accounts, registering, trading, settling,  clearing, giving loans against virtual tokens, accepting them as  collateral, opening accounts of exchanges dealing with them and  transfer / receipt of money in accounts relating to purchase/ sale of  VCs. Regulated entities which already provide such services were  asked to exit the relationship within three months from the date of  the circular.</p>

<p>The  RBI noti&#64257;cation means that crypto exchanges /exchangers operating  within the country would be left without banking support and payment  gateways which are regulated by RBI. Crypto-exchanges will therefore  need to work independently of the banking support which means that  mode of transaction will have to be tweaked from fiat-crypto to  crypto-crypto i.e. exchanging cryptos for each other without any role  for fiat currency. This has been done by RBI to steer clear the  banking system of the risks associated with cryptocurrencies. . </p>
<p>Regulatory  approaches of some major countries are outlined in the [http://www.fatf-gafi.org/media/fatf/documents/reports/Guidance-RBA-Virtual-Currencies.pdf FATF  Guidance Note]. </p>




==References==
<ul>
  <li>[http://www.fatf-gafi.org/media/fatf/documents/reports/Virtual-currency-key-definitions-and-potential-aml-cft-risks.pdf Virtual  	Currencies &ndash; Key definitions],  	FATF, June 2014</li>
  <li>[https://bitcoin.org/bitcoin.pdf Bitcoin:  	A Peer-to-Peer Electronic Cash System], Satoshi Nakamoto</li>
  <li>[https://www.bis.org/cpmi/publ/d174.pdf Central  	bank digital currencies], Committee on Payments and Market  	Infrastructures Markets Committee, BIS, March 2018</li>
  <li>[https://www.bis.org/cpmi/publ/d137.pdf Digital  	Currency], BIS, November 2015</li>
</ul>



==Contributed  by==
*Dilasha  Vasudev  a  (IES 2015)

[[Category:concepts|CryptoCurrency/VirtualCurrency/DigitalCurrency]]