The decision by Chinese regulators to outlaw initial coin offerings (ICOs) has been hotly debated over the past week. Its impact was felt almost immediately, with the price of bitcoin tumbling from $4950 to $4188 on September 10th. It has, as of this morning, recovered to $4304.34, though concerns persist. But will the ban do lasting damage, or is it actually for the best?
ICOs are a new way of financing startups based on blockchains, the technology behind cryptocurrencies. They allow organizations to raise investment by selling new cryptocurrencies in exchange for cash or other established digital currencies, such as bitcoin. This year to date, ICO fundraising is estimated to have exceeded $1.6 billion, and China is at the epicenter of the craze. According to the National Internet Finance Association of China, in the first half of the year, China-based ICOs raised about $400 million through 65 offerings, with more than 100,000 investors. Robert Crea, an attorney with one law firm that specialises in digital currency regulation, told Fortune that, ‘Chinese investors have played a crucial role in the growth of the ICO market and the recent rise in valuations. The Chinese ban may impact liquidity in the ICO market by limiting the number of investors in the marketplace and the number of cryptocurrency exchanges. If Chinese investors are restricted from participating, markets could experience diminished liquidity, heightened volatility, and downward price pressure.’
However, recent statements seem to suggest that this is only a temporary ban put in place while an effective regulatory regime is put in place. Hu Bing, a researcher at the Institute of Finance and Banking, a Chinese government-supported academic research organization, told state-owned television network CCTV-13 that the government’s ban on ICOs is temporary. He said during an interview that ICOs will be relaunched as soon as necessary regulatory frameworks and policies, which will be able to secure both ICO investors and projects, are created and introduced by local financial regulators.
This is a sensible move by Chinese regulators. The ICO market - China’s in particular as it is not at all regulated - is rife with illegal fundraising and pyramid schemes. Many are simply scams with no hope of investors seeing any return. Companies have also been accused of violating privacy protections by using data from online retailers and social networks to analyze consumers' personal credit conditions without their knowledge.
‘There's no secret that a lot of the initial coin offerings, with ads on Facebook promising huge discounts and returns, are nothing but a scam,’ Sasha Ivanov, CEO of blockchain company Waves, told CNBC. ‘The Chinese government could cope with those companies working in a shadow zone of the law, but they have finally lost patience, as more and more companies tried to raise millions for nothing.’
There are some potentially negative repercussions. Other countries could exploit the hiatus to entice organizations with more welcoming ICO policies. According to Hu Bing, one route under consideration is a licensing program similar to that of the New York State Department of Financial Services (NYSDF) called BitLicense. This US-created counterpart requires organizations to obtain a license from the state regulators in order to operate in New York, and some have called the policies impractical and excessively strict, especially Anti-Money Laundering (AML) and Know Your Customer (KYC) regulations. Indeed, they have seen many startups leave the state, and the same could well happen to China.
However, it is hard to argue that the Chinese ICO market didn’t need some regulations in place. Furthermore, if the Chinese government does intend for the ban on ICOs to be temporary, it could also indicate their commitment to the technology, showing that they feel it is important enough to ensure a solid foundation. The government themselves has been vocal before and since the ban that it wants firms to research blockchain technology, with Sun Guofeng, director general of the People's Bank of China's research institute, telling the Financial News last week that the ban, while ‘necessary and timely’, ‘should not prevent relevant financial technology companies, industry bodies and other technology firms from continuing their research into blockchain technology.’
‘Blockchain itself is a good technology,’ Guofeng said, ‘and an ICO is not the only way through which one can carry out research into it.’
Blockchain is set to be a vital driver of economic growth in the near future, but it needs controls in place or it could destroy itself. The Chinese government’s previous experience banning bitcoin itself in 2013 suggests that this will be good in the long term, with China now accounting for the lion’s share of bitcoin mining, and it is possible, likely even, that pressing pause on ICOs will put them in good stead when the ban is lifted again.