Max Planck Institute for Innovation and Competition; University of Oxford
Date Written: August 7, 2017
Abstract: This paper examines the emergence of blockchain technology and evaluates regulatory techniques designed to regulate the technology in its early stages.
Keywords: Blockchain, Distributed Ledger, Smart Contract, Law, Regulation, Co-Regulation, Law & Technology, Innovation
Bitcoin exchange platforms and “wallet” providers that hold the cyber currency for clients will be required to identify their users, under the new rules which now must be formally adopted by EU states and European legislators and then turned into national laws within 18 months.
This paper is intended to contribute to the debate on blockchain’s financial regulation. First and foremost, it provides through the example of securities law an introductory overview of how American and French legal systems fail to properly handle the existing reality of blockchain. It subsequently identifies some of the peculiar issues that blockchain raises from a financial point of view and that justify a tailored legal regime. Finally, it examines the efforts made by blockchain’s stakeholders to compensate the lack of regulation and discusses how those efforts may fall within a broader reform movement. For the sake of clarity, this last section will focus on the French example.
By Dr. Martin Gramatikov, Senior Justice Sector Advisorand Georgi Chisuse, ScalatorCryptocurrencies, and its underlying blockchain technology, are everywhere today. Bitcoin’s revolutionary breakthrough provoked intensive research into the potential adoption of backend technology into a multitude of fields. Essentially, blockchain is a secure digital ledger which can record almost anything which has value – coins and financial transactions, ID documents and ownership titles, votes and shares, property and contractual rights, positive and negative reviews. It is clear that blockchain technology will transform and probably disrupt many areas of the law in the months and years to come.Based on mutual consensus between all participants and automatic authenticity checks, the decentralized blockchain technology has shown tremendous potential for building independent systems. Thus, the autonomy as well as the transparency of those systems would guarantee a broader access to justice to everyone involved.But is it going to remain a technology geared towards the needs of big business such as banks, insurance, the fintech sector and investors? Can blockchain help the billions of people who need the law for protecting their basic justice needs?Throughout the years, HiiL has asked tens of thousands of people around the world about their justice needs and experiences with access to justice. We find that worldwide, large numbers of women and men encounter legal problems that might have a legal solution. At a global level, people most often need accessible and fair justice journeys for: crime, land problems, disputes with neighbors, family problems, employment and money-related disputes. Problems around ID documents (i.e. birth, citizenship, marriage and death certificates) and welfare benefits are common among the most vulnerable groups.The answer to our question is – Yes, blockchain technology has huge promise for the justice needs of the people. Countries like Estonia, Ghana, Honduras, Ukraine, Sweden, the Indian state Andra Pradesh and Georgia already experiment with registering land titles and ownership rights using blockchain. There is a great hope that this will make land transactions more affordable, transparent and secure.In the field of family justice, there are already examples of e-marriage and marriage certificates encoded in public and private blockchains. The fields most likely to be innovated using blockchain are inheritance, dowry, and prenuptial agreements. Benefits of such innovation include smart contracts which can help women to secure and enforce their rights.Employment is about livelihood. Millions of people need protection against exploitative practices, unfair dismissal, unpaid wages and dangerous working conditions. Employment contracts and their clauses can be registered in a blockchain. Complex schemes of intermediaries can be hold accountable through transparency. Data can be exchanged with labour inspectorates and watchdogs. In Brazil, a startup called CreditDream works on decentralized blockchain applications for universal access to credit.Undoubtedly, there is a great potential for blockchain technologies to deliver just and fair solutions to millions and even billions of people who need justice. The creativity of the industry will lead the way. But there is a need for visionary leadership which steers innovation towards people’s most prevalent and pressing justice needs.
That’s the theory. But Preston Byrne doesn’t buy it.“It’s outrageous what CME is doing,” said Byrne, a fellow at the Adam Smith Institute, a free-market think tank in the UK and former chief operating officer of Monax, a blockchain software company in London. He pointed to a statement issued Friday by the US Commodity Futures Trading Commission, in which the agency admitted that it has little power to keep bitcoin markets honest, and warned of “the potentially high level of volatility and risk in trading these contracts.”“This is the understatement of the century,” said Byrne.He believes media hype is attracting individual investors to the bitcoin market. Some are gambling their retirement funds, while others are buying the currency with credit cards, saddling themselves with high-interest debt. The bitcoin boom, said Byrne, “exhibits all of the classic features you would expect from a financial mania.” He is sure it will fall, and he worries that the CME’s decision to permit futures trading will ensure that damage from the crash will spread to other financial markets.But for now, nobody’s listening.
That the first forays into state-backed cryptocurrency comes from two countries with a history of restricting a free and open internet is not surprising. While Bitcoin originated as a way to opt out of government control of money supply, increasingly governments see the underlying technology as a way to increase their control of the economy.As Xiong Yue explained:For example, if the government plans to subsidize certain farms, say some corn farms, to support this sector of agriculture, they can directly add a certain amount of money to the wallets of some farms, for instance 100 million dollars and program this money to be sent to certain fertilizer merchants at a certain time, and that each can only spend maximum of 10 million dollars per year, and in this way, they can make sure that the farmers won’t squander the windfalls, and that this money won’t flow to other sectors, for instance, the stock market or real estate market.Even though this kind of monetary policy is bound to fail, from the perspective of government officials, CBDC provides them a better tool. For them, with the help of the CBDC, they can plan and manage the economy better.
The empirical data and stories above do not mean that investors should stop trading all cryptocurrencies or pass on investing in blockchain-related products and services.To the contrary, the goal of this article is to elevate awareness that this industry lacks even the most basic safeguards and independent voices that would typically act as a counterbalance against bad actors. In this FOMO atmosphere investors need to be on full alert of the inherent risks of a less than transparent market with less than accurate information from companies and even news specialists.Cryptocurrencies aren’t inherently good or bad. In a single block, they can be used as a means to reward an entity for securing transactions and also a payment for holding data hostage.One former insider at an exchange who reviewed this article summarized it as the following:The cryptocurrency world is basically rediscovering a vast framework of securities and consumer protection laws that already exist; and now they know why they exist. The cryptocurrency community has created an environment where there are a lot of small users suffering diffuse negative outcomes (e.g., thefts, market losses, the eventual loss on ICO projects). And the enormous gains are extremely concentrated in the hands of a small group of often unaccountable insiders and “founders.” That type of environment, of fraudulent and deceptive outcomes, is exactly what consumer and investor protection laws were created for.Generally speaking, most participants such as traders with an active heartbeat are making money as the cryptocurrency market goes through its current bull run, so no one has much motive to complain or dig deeper into usage and adoption statistics. Even those people who were hacked for over $100,000, or even $1 million USD aren’t too upset because they’re making even more than that on quick ICO returns.We are still at the eff-you-money stage, in which everyone thinks they are Warren Buffett.85 The Madoffs will only be revealed during the next protracted downturn. So if you’re currently getting your cryptocurrency investment advice from permabull personalities on Youtube, LinkedIn, and Twitter with undisclosed positions and abnormally high like-to-comment ratios, you might eventually be a bag holder.86Like any industry, there are good and bad people at all of these companies. I’ve met tons of them at the roughly 100+ events and meetups I have attended over the past 3-4 years and I’d say that many of the people at the organizations above are genuinely good people who tolerate way too much drivel. I’m not the first person to highlight these issues or potential solutions. But I’m not a reporter, so I leave you with these leads.While everyone waits for Harry Markopolos to come in and uncover more details of the messes in the sections above, other ripe areas worth digging into are the dime-a-dozen cryptocurrency-focused funds.Future posts may look at the uncritical hype in other segments, including the enterprise blockchain world. What happened after the Great Pivot?[Note: if you found this research note helpful, be sure to visit Post Oak Labs for more in the future.]Acknowledgements
Mario Draghi, president of the European Central Bank (ECB), has indicated that his institution does not have the authority to regulate cryptocurrencies.Making his statements to the European Parliament’s Committee on Economic and Monetary Affairs, Draghi said that “it would actually not be in our powers to prohibit and regulate” bitcoin and other digital currencies.The comments came in response to a question from the committee over whether ECB intends to issue a regulatory framework or an all-out ban on cryptocurrencies, and whether Draghi felt that higher capital requirements for fintech were required to protect the banking sector.Draghi revealed that the ECB has yet to discuss the potential impact of cryptocurrencies, but likely areas of analysis include the risk posed by cryptocurrency due to its scale, usage and economic impact.”We have to ask what effects cryptocurrencies have on the economy,” Draghi stated, adding that they are still too immature to be considered a viable method of payment.The primary concern for the ECB surrounding cryptocurrencies, and digital innovation more generally, is cybersecurity, he went on, stressing that protecting against cyber risks is central to the ECB’s agenda.Earlier this month, Draghi also criticised the proposed initiative by Estonia’s e-Residency project to launch a national cryptocurrency called “estcoin,” reportedly stating: “I will comment on the Estonian decision: no member state can introduce its own currency. The currency of the Eurozone is the euro.”Draghi is not the only senior ECB official to comment on cryptocurrencies in recent days.The central bank’s vice president, Vitor Constancio, made headlines last week when he stated that cryptocurrencies were a purely speculative asset, and compared them to “tulip mania” – the 17th century trading bubble experienced in the Netherlands. Constancio stated that the ECB doesn’t see the technology as a “threat to central bank policy.”Mario Draghi image via Shutterstock
This paper draws on regulatory governance scholarship to argue that the analytic phenomenon currently known as ‘Big Data’ can be understood as a mode of ‘design-based’ regulation. Although Big Data decision-making technologies can take the form of automated decision-making systems, this paper focuses on algorithmic decision-guidance techniques. By highlighting correlations between data items that would not otherwise be observable, these techniques are being used to shape the informational choice context in which individual decision-making occurs, with the aim of channelling attention and decision-making in directions preferred by the ‘choice architect’. By relying upon the use of ‘nudge’ – a particular form of choice architecture that alters people’s behaviour in a predictable way without forbidding any options or significantly changing their economic incentives, these techniques constitute a ‘soft’ form of design-based control. But, unlike the static Nudges popularised by Thaler and Sunstein [(2008). Nudge. London: Penguin Books] such as placing the salad in front of the lasagne to encourage healthy eating, Big Data analytic nudges are extremely powerful and potent due to their networked, continuously updated, dynamic and pervasive nature (hence ‘hypernudge’). I adopt a liberal, rights-based critique of these techniques, contrasting liberal theoretical accounts with selective insights from science and technology studies (STS) and surveillance studies on the other. I argue that concerns about the legitimacy of these techniques are not satisfactorily resolved through reliance on individual notice and consent, touching upon the troubling implications for democracy and human flourishing if Big Data analytic techniques driven by commercial self-interest continue their onward march unchecked by effective and legitimate constraints.
Innovations in networked digital communications technologies, including the rise of “Big Data,” ubiquitous computing, and cloud storage systems, may be giving rise to a new system of social ordering known as algorithmic regulation. Algorithmic regulation refers to decisionmaking systems that regulate a domain of activity in order to manage risk or alter behavior through continual computational generation of knowledge by systematically collecting data (in real time on a continuous basis) emitted directly from numerous dynamic components pertaining to the regulated environment in order to identify and, if necessary, automatically refine (or prompt refinement of) the system’s operations to attain a pre-specified goal. This study provides a descriptive analysis of algorithmic regulation, classifying these decisionmaking systems as either reactive or pre-emptive, and offers a taxonomy that identifies eight different forms of algorithmic regulation based on their configuration at each of the three stages of the cybernetic process: notably, at the level of standard setting (adaptive vs. fixed behavioral standards), information-gathering and monitoring (historic data vs. predictions based on inferred data), and at the level of sanction and behavioral change (automatic execution vs. recommender systems). It maps the contours of several emerging debates surrounding algorithmic regulation, drawing upon insights from regulatory governance studies, legal critiques, surveillance studies, and critical data studies to highlight various concerns about the legitimacy of algorithmic regulation.