As Canada's interest in virtual currencies grows, so do the contradictions on how to approach regulating them.
In 2015, a report from the Senate concluded that a hands-off approach to regulation was best in order to let the technology flourish and mature. A new staff report from the Bank of Canada says just the opposite: to work in Canada, virtual currencies like bitcoin will require significant government intervention, it argues.
The report, written by two Bank of Canada employees and one visiting scholar from the Federal Reserve Bank of Atlanta, looked to the past for lessons on how to deal with digital currencies in the future. Specifically, it analyzed the brief time in the 1800s when Canada had both a government-issued currency and many non-uniform notes issued by individual banks, backed by the bank's own assets.
Using the lessons learned from the struggle to get this chaotic system under control, the report authors have some thoughts on virtual currencies. Namely, "We conclude that well designed and managed private digital currencies could circulate widely but only with appropriate government regulation…"
The report, like all staff reports, reflects the position of the authors and does not necessarily reflect the positions of the Bank of Canada.
It's strongest on the question of safety, emphasizing that people should be able to buy virtual currencies without a significant risk of losing out if the issuer goes under, a non-trivial risk with most virtual currencies as it stands. Often, this is due to exchanges—where virtual currencies are bought and sold—being hacked. As recently as August of 2016, popular bitcoin exchange Bitfinex was hacked and lost $60 million worth of coins.
The Bank of Canada report doesn't go into great detail about what should be done with virtual currencies on this question, but says that they "can be made perfectly safe with government intervention, although it cannot be achieved solely through regulation."
You also need insurance, the report says, pointing to the creation of the Bank Circulation Redemption Fund in 1890, which required all Canadian banks to pay into a central fund that would cover customer losses if any of them couldn't back up their notes. The authors raise the possibility of something similar being introduced for virtual currencies.
"Some form of insurance could be an important part of making a digital currency system safe"
"The historical episode showed that an insurance scheme of some form was an important part of ensuring the safety of bank notes," a Bank of Canada spokesperson wrote me in an emailed statement. "Similarly, some form of insurance could be an important part of making a digital currency system safe."
Of course, the spokesperson noted, insurance is outside of the purview of the Bank of Canada.
Beyond calling for more government intervention, the report is already ruffling the feathers of cryptocurrency enthusiasts by making some silly claims, at least on the face of it. One is that digital currencies will be counterfeited like bank notes were.
Blockchain-based currencies like bitcoin are potentially vulnerable to something akin to counterfeiting (but still notably different) in the form of the "double-spend problem." Double-spending involves sending a single transaction through the network twice, nearly simultaneously, and having the target accept the one that the network eventually rejects, leaving the attacker with the funds.
The report mentions the double-spend problem, but there is no such thing as a counterfeit bitcoin. This is because a "bitcoin" is just a number and an address that the network deems to be valid. There's nothing to counterfeit.
"There are hundreds of digital currencies in existence, the authors didn't specifically refer to any of them when they made the observation about possible counterfeiting," the spokesperson said when questioned on this point. "The paper draws lessons for digital currencies, it is not a comparative study of their respective security elements."
That difference aside, the report seems to be a clear indicator that Canada is looking more seriously at getting involved with virtual currencies—and not necessarily with the hands-off approach previously advocated for by the government.
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