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Cryptocurrency, Blockchain and Smart Contract for a Layman & A Contemporary Enquiry on Cryptocurrency Landscape in the UAE.
Decoding the Cryptic Definition of Cryptocurrency
Crypto-currencies are systems for digital payments or in simple language they are a type of electronic money. Unlike fiat currency – which is issued by a country’s government – cryptocurrencies are not issued by your bank or government and are based on ledger entries called as blockchain. Cryptocurrency uses cryptography to verify transactions and since there is no central point controlling cryptocurrency, they cannot be hacked and new units are only added once certain requirements are complied with. Modern currency or fiat currency consists of bank notes, coins, cards and electronic wallets such as Google Pay, Apple Pay, etc. These currencies are controlled by a central regulatory authority such as the bank or government. Cryptocurrency aims to avoid a central point of failure such as the bank system. For instance, imagine a situation where you have to transfer money to your friend for a payment via bank transfer. This transfer could be subject to hacking, banking system failure, transfer limit issues. Whereas, a cryptocurrency removes these impediments – as there is no central controlling system that could be a potential subject of threat such as hacking or technological breakdown. There are hundreds and thousands of different types of cryptocurrencies available and by far, and Bitcoin is the most popular.
How Blockchain Technology Works
Blockchain is a technology that records cryptocurrency transactions. Simply, consider a google sheet document, whatever changes you make on your document will be reproduced on every other shared copy of the document. Accordingly, a blockchain is a type of database, which is constantly updated and stored in multiple locations. The database is available in multiple locations, its records are verifiable by the public and hacking into this information is very difficult due to its lack of centralization. In summary, a blockchain is a database shared by every member or participant in the ecosystem, and maintains a ledger of the cryptocurrency transaction, and since everyone maintains an updated copy, hacking or tampering of the data is unlikely. Blockchain technology decentralizes smart contracts such that they are fair as there is no involvement of a third party like a banker or government.
How Smart is a Smart-Contract?
Smart contract is an agreement between two parties such as a buyer or seller that self-executes. The terms of the agreement are coded and transaction is recorded on a blockchain. Therefore, a transaction can only take place so long as the terms are met with. Moreover, there is no involvement of a third party and therefore there are no trust related issues. In a tradition contracting atmosphere two parties may contract with each other under the presence or with the assistance of a trusted third party to execute such a contract. However, in a smart contract, the execution is automated. For instance, consider a vending machine, a buyer deposits certain money against the item intended to purchase and the machine dispenses the item upon the receipt of the appropriate payment. The entire transaction of sale and purchase of the item is executed without the requirement of a clerk or a cashier.
Various governments have started experimenting with blockchain technology both in public and private enterprises. Cryptocurrency does not have a central regulator and thus its fundamental aspect – that decentralization is – creates a challenge for governments in relation to controlling it the way they would control fiat currency. One of the world’s popular crypto currencies is Bitcoin. It is a network of decentralized information that records transactions on a blockchain. Accordingly, as long as the coded terms agree on the blockchain, a smart contract can be established on using the blockchain technology without the need of a third party. Bitcoin essentially is a software coded with processes and protocols. Whereas Bitcoin inspired hundreds of other virtual currencies, however by far the most successful crypto currency as of today is Bitcoin with the largest market capitalization throughout its over a decade history. As Bitcoin is recorded using blockchain technology, and a blockchain is a public ledger, therefore someone has to maintain this public ledger. Maintaining this public ledger is known as mining where a network of miners dedicate their resources towards recording these transactions on the blockchain also know as mining.
Cryptocurrency in the UAE Landscape and its Various Applications
The UAE government has effectively embraced blockchain technology in managing its administrative affairs, and has lately launched the Emirates Blockchain Strategy 2021 and the Dubai Blockchain Strategy. The Emirates Blockchain Strategy 2021 expects to benefit from the blockchain technology by introducing a large number of the government transactions on a blockchain platform. The Dubai Blockchain Strategy envisages to make Dubai one of the first cities to fully adopt blockchain technology and integrate it in government effectiveness.
In its endeavor to embrace the most recent advances and development practises at the worldwide level, the Dubai Future Foundation has set up the Global Blockchain Council to investigate and brainstorm about current and future applications and handle transactions through the blockchain technology. It is planned that the Council will work with and provide assistance to the different financial and non-financial sectors, in order to increase efficiency, productivity and dependability in these sectors. The Council comprises several leading private companies in technology, financial and banking sectors, and government departments.
Presently, there is no obvious sign to determine as to when the various operations of Dubai authorities will adapt the blockchain technology. Notwithstanding, the RTA has expressed that it is as of now developing a lifecycle management system using blockchain technology for vehicles. This project aims to give a straightforward record about the vehicle’s life cycle from the maker to the scrap, with the end goal of aiding trust and transparency in such transactions, and accordingly reducing litigation, and costs related to administrative services. Moreover, the DLD has likewise planned to use blockchain technology to transform itself completely paperless and more cost effective. The DLD is currently tying up with utility service providers, permitting tenants to make payments electronically and accommodating land documentation to be submitted with the DLD online.
Smart Dubai Government Establishment (“SDGE”) has said that the blockchain strategy currently has use cases in finance, education, real estate, tourism, commerce, health, transport and security,” and that Smart Dubai has implemented the Hyper-Ledger and Ethereum technologies on its platform. The UAE has likewise advanced different activities which may boost the blockchain adoption in the country. For instance, the Advisory Council of the United Arab Emirates Banks Federation has discussed adopting blockchain to among its members. As blockchain technology results in automation of contracts and therefore a reference to the UAE laws on smart contract provides that it recognizes blockchain powered smart contracts and Article 12 of Federal Law No. 1/2006 Concerning Electronic Transactions and Commerce extends to cover smart contracts as it provides that contracts between two or more electronic systems, which were designed and programmed already shall be deemed valid regardless of whether or not human interaction was involved.
How the UAE treats Cryptocurrency Transactions?
At present, the most well-known inquiry customers pose is the way the UAE controls cryptocurrency and virtual money related transactions, and whether the UAE provides an appropriate environment to build up a virtual currency.
The principal obstacle met with by the regulatory bodies is to determine as to what kind of financial or economic instrument cryptocurrency may be classified as. Some jurisdictions have regarded cryptocurrency as any other currency and receives a similar treatment that a fiat currency would or they may be considered as similar to securities or commodities. Whereas some countries have developed legal frameworks to regulate such transactions, notwithstanding, some jurisdictions have remained completely oblivious to the blockchain technology and some countries maintain that the currency may be assessed on a case to case basis. For instance, when an ICO goes to the public, how the regulator views the ICO may be dependent on its prospectus, financial disclosures attached to the currency put on offer. The coin put on offer may be similar to a fiat currency or its salient features could well draw comparisons with securities or commodities.
The UAE government is focused on going above and beyond, and building up its own digital money. Dubai built up its own virtual currency in October 2018 and named it EMCASH, which can be used to pay for school fees and government services. Furthermore, in December 2019, another type of virtual currency was launched for cross border transactions with Saudi Arabia.
At a basic level, by mining, one may earn cryptocurrency without actually paying for it. Accordingly, Bitcoin miners are rewarded with Bitcoin upon successfully verifying blocks of transactions – which may then be added to the blockchain. However mining rewards are paid to the miner who finds an answer for a complex hashing puzzle first, and the likelihood that a member will be the one to find the arrangement is subject to the total mining power on the network. The mining process is expensive, cumbersome and rewards are irregular.
Mining is the best way to deliver new digital currency into flow. As such, miners are fundamentally “printing” cash. Without miners, Bitcoin as a system would in any case still exist and be usable, however there could never be any extra Bitcoin. There will at last come when Bitcoin mining closes; per the Bitcoin Protocol, the upper limit for Bitcoins is set at at 21 million. “Mining rigs” have been built up that devour huge power, as miners endeavor to mine diminishing volumes of digital currency by tackling perpetually complex transactions at a consistently quicker rate. Mining is not a regulated activity in the UAE and there is no law that specifically regulates the activity of mining cryptocurrency in the UAE.
The Legal Framework
Securities and Commodities authorities shared its plan to issue regulations related to ICOs so that companies trading in cryptocurrency transactions may raise capital through public funding. The SCA in its efforts to issue such regulations also introduced draft regulations on the offering of crypto assets and invited feedback from the industry.
The crypto asset guidelines are proposed to incorporate all parts of the crypto assets industry in the UAE, going from token issuance prerequisites to exchanging and storing safe practices, to ensure protection of investors’ interest and complying with international standard to prevent financial crime, established standards for safekeeping of these assets including and not limited to determining security requirements in relation to the information on such assets, the technological environment, best practices for all key players such as intermediaries, and standard guidelines for exchange. Whereas there are regulatory requirements for all crypto assets in the market, however assets backed by the government or issued by government entities are excluded from the purview of the regulatory framework. Moreover, these regulations do not address currencies that have approval from the Central Bank or financial activities of relevant free zones in the UAE. These regulations are anticipated soon and once issued the SCA will provide guidance on them through dedicated online portals. The current regulatory framework, absent these draft regulations, include:
- Federal Law No. 4/2000 Concerning the Emirates Securities and Commodities and Market.
- Federal Law No. 5/1985 Promulgating the Civil Transactions Law of the United Arab Emirates State..
- Federal Law No. 6/1985 on Islamic Banks, Financial Establishments and Investment Companies..
- Federal Law No. 18/1993 issuing the Commercial Transactional Law..
- Federal Law No. 10/1980 Concerning the Central Bank, the Monetary System and Organization of Banking. .
- Central Bank Board of Directors Resolution No. 126/5/1995 and Resolution No. 153/5/1997 Regarding the Regulation for Financial and Monetary Intermediaries.
- 2014 Central Bank Regulations on Licensing and Monitoring of Exchange Business.
- 2017 Central Bank Regulations on Stored Values and Electronic Payment Systems.
Whereas these regulations or legislations have application in specific circumstances, notwithstanding they may apply generally. The 2017 regulations provide a framework for the flow of digital money stored in electronic form. Accordingly, such service providers will need a mandatory license from the UAE Central Bank to operate.
Dubai Financial Services Authority
The DFSA identifies certain crypto assets and offerings as high risk and therefore issued a General Investor Statement on Cryptocurrencies in 2017. The DFSA views each crypto asset individually on its merits and does not control the offerings or license entities who go public with their prospectus to seek investments for their ICOs. Whereas the DFSA has no clear guidelines on crypto assets, the DFSA did publish a paper on digital assets classification as adopted by the UK Financial Conduct Authority. Accordingly, the DFSA may likely provide more clarity on its decision on where they stand on the crypto assets transactions within the DIFC.
Abu Dhabi Global Market
ADGM is one of the first jurisdictions globally to issue specific regulations in relation to crypto currency activities such as crypto asset exchanges, intermediaries, custodians, brokers, managers and advisors. The ADGM’s Operating a Crypto Asset Business (OCAB) framework is designed to attend to the broad spectrum of potential risks related to crypto assets. Abu Dhabi Financial Services Regulatory Authority (FSRA) issued regulations in 2018 and amendment in 2020 to provide detailed guidance on regulations related to Operating a Crypto Asset Business. FSRA is one of the first regulators to issue in-principle approval to exchanges to operate within ADGM and these approved exchanges can list crypto assets so long as these assets are approved by the DFSA.
ICOs and Potential Risks
The few risks associated with ICOs are, scam projects; no recourse for investors – as once the investor has sent his cryptocurrency towards the ICO then the investor is not left with any recourse should the investment fail; AML and KYC obligations are not complied with and moreover some of the ICO models are poor and disguise themselves as ICOs.
Whereas there is development in the region in relation to how they would regulate cryptocurrency, especially as such regulations are necessary to minimize the potential risk that cryptocurrency may hold in light of its decentralization status, the potential issues related to regulation, registration and licensing crypto assets related businesses. A robust regulatory framework should address issues, among others, such as the volatility of crypto assets, cross jurisdictional landscape, manipulation of the market, scams and risks related to money laundering, trafficking of illegal goods, hacking, identity theft, fraud, and unregulated business activities.
Addressing the market concerns related to crypto assets business by providing a legal framework concerning crypto assets related activities such that the potential risks are mitigated – is the first step towards providing a regulatory ecosystem for such crypto assets. ADGM becomes one of the few jurisdictions globally to formally launch licenses and issue regulations specifically concerning crypto assets activities and the UAE SCA aims to publish its own regulations related to crypto assets soon. Having said that, the UAE landscape looks favorable for blockchain, smart contracts and cryptocurrencies and hence the authorities are robustly contemplating on organizing such business activities and to attend to the market requirements and protecting the interests of businesses, consumers and investors.