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Cryptocurrency Regulations On The Horizon; Expect 2 Sets Of Protocols

BitcoinEthereum, and other cryptocurrencies made a substantial comeback from their lows following the steep correction that occurred after the April and May peaks. Bitcoin dropped from $65,520 on Apr. 14 to a low of $28,800 in late June or over 56%. Ethereum reached its peak at $4,406.50 in mid-May and fell to a low of $1697.75 in late June, a decline of nearly 61.5%.

The market cap of the entire asset class of over 11,180 digital tokens more than halved from around the $2.5 trillion level.

While prices plunged, the speculative frenzy in the cryptocurrency asset class continues to attract new participants each day. On Sunday, Aug. 8, Bitcoin was back above the $43,800 level, with Ethereum at just over $3000 per token. The market cap for the entire class was nearly $1.775 trillion.

Stories of incredible wealth creation from those with the foresight to turn a $1 investment in Bitcoin at five cents in 2010 into over $2 million is a powerful catalyst. Moreover, technology companies continue to embrace the libertarian form of money, with Square’s (NYSE:SQ) Jack Dorsey leading the way.

At the recent B-word conference, the CEO of both SQ and Twitter (NYSE:TWTR) called cryptocurrency the internet’s form of money. As more businesses begin accepting tokens for payment, governments are not likely to stand by idly.

Governments are not fans of cryptocurrencies

Governments have repeatedly challenged cryptos because of their nefarious uses. However, it is control of the money supply that is at the root of their concerns.

Control of the purse strings is the most significant factor in retaining power. Surrendering the money supply to any libertarian currency diminishes control.

The status quo means governments can expand or contract the money supply with the push of a button. The ideological divide between governments and a form of money that transcends borders creates a vast gulf.

Governments embrace Blockchain as it represents the technological evolution of finance. The speed and efficiency of fintech have broad appeal. However, the digital currencies themselves pose a massive threat to power.

China appears to be the first government to issue a digital form of its currency, the yuan. In preparation, the Chinese have cracked down on Bitcoin and other cryptos. It will not be long before the US and Europe roll out digital dollars and euro. Washington DC and the EU are more than likely to follow China’s lead to retain control of the money supply and hold onto financial power.

US, Europe likely to work together to regulate the asset class

Post-2008, in the aftermath of the financial markets crash, the stage was set for cross-border regulatory cooperation. Given the move towards globalism under the Biden administration, we are likely to see regulators in the US, UK, and EU work together to establish a framework for cryptocurrency regulation.

While they will present this as a regulatory environment to protect investors, traders, and the sanctity of money, the underlying factor will be control and maintenance of the monetary status quo.

Expect two sets of rules

I expect that fintech will bifurcate into two regulatory protocols. One will cover government-issued digital currencies and could include so-called “stablecoins” that reflect hard asset values.

These are likely to be the blue chips that will face a more lenient regulatory landscape as control will continue to come from governments, treasuries, central banks, and monetary authorities.

Cryptocurrencies, on the other hand, could face far more regulatory hurdles to mitigate their threat to established power bases.

Tax crackdowns will come first

One of the most potent tools governments have at their disposal is taxation. A sign that cryptocurrencies are already in the US government’s crosshairs are two competing crypto tax amendments in the Senate’s infrastructure legislation. The taxation comes down to defining the role of a “broker” in cryptocurrencies.

Ironically, Senators initially looked to impose stricter rules on taxing cryptocurrencies to help fund the infrastructure bill. The Wyden-Toomey-Lummis amendment would narrow the “broker” definition to exclude miners and validators, hardware and software makers, and protocol developers from the designation. The amendment would seek to keep the crypto business and market from moving overseas to less restrictive jurisdictions.

Meanwhile, the Portman-Warner-Sinema amendment would only protect proof of work (PoW) miners from the newly proposed reporting requirement. The amendment would not make proof of stake (PoS) developers, operators, validators, or liquidity providers from the reporting requirements.

The bottom line: strict taxation is on the horizon in some form. Taxation is the most significant device governments can use to maintain a grip on the asset class and exert control.

Under the umbrella of paying for infrastructure, the IRS and other government agencies would have the power to control money flows with complete transparency. Moreover, cross-border cooperation could be a silver bullet that drives the market away from cryptos toward government-issued digital currencies and stable coins that reflect the value of regulated assets.

Global civil financial war

Libertarian ideology shifts power from the state to individuals. Libertarians believe in free markets where prices come from transparent transactions without government interference. Ironically, many believe that libertarianism is a right-wing doctrine.

When it comes to money, it decreases the government’s role. However, socially, libertarianism can also appeal to the political left. Right and left political ideologies embrace different forms of libertarianism.

When it comes to cryptocurrencies, neither the government nor proponents of the burgeoning asset class will be pleased with the outcome. In the US and Europe, the growth of technology companies that have created oligarchies sets the stage for an epic battle over the future of the money supply.

Government officials are on one side, with Jack Dorsey, Tesla's (NASDAQ:TSLA) Elon Musk, Amazon's (NASDAQ:AMZN) Jeff Bezos, and other titans embracing a fintech world that transcends government control on the other.

Both sides have vested interests. The governments will do anything to preserve their hold on power. The crypto market and technology companies seek to return power to individuals, but they stand to be financial benefactors.

The bottom line: regulations are on the horizon, and they are likely to create a class system where digital currencies and stablecoins are not subject to the same treatment as cryptos.

Two competing payment systems could become mutually exclusive, creating lots of volatility and an epic financial battle for control. Governments may have the right to taxation, regulations, and armies of agents at their disposal. However, the technology sector has know-how and skills that dwarf the capabilities of those looking to maintain the status quo.

Speculative interest is currently fueling the libertarian asset class, which is why Chinese regulators have put their foot down. China is an authoritarian system, making it easy to suppress anything that is not in the government’s interest.

Expect the US and Europe to try to do the same. However, in social democracies, that task is far from easy.

Bitcoin Futures Monthly
Bitcoin Futures Monthly

Source: CQG

The monthly chart of Bitcoin futures, above, shows that the speculative frenzy is likely to continue. Nearly 11,200 cryptocurrencies—with more coming to the market each day—is another sign that the asset class has rising appeal. Moreover, the existence of Bitcoin and Ethereum futures means the cat is already out of the bag, and the US and Europe will now seek to tax and regulate from a weakened position.

Many agree that Blockchain is the future of the payments system. However, the form of money is an issue that will continue to stoke controversy for years to come.