Climate change: Emerging from the crypto winter

It’s been a disastrous few months for the cryptocurrency market. The long winter of discontent has been extended by the global economic recession, tanking currencies, and scandals - think FTX.

High-energy-sapping currencies such as Bitcoin have also suffered from criticism, while progressive Ethereum has set the bar high by moving from proof-of-work to proof-of-stake, thus reducing its carbon footprint to almost nothing from its previous usage – which equalled the energy consumption of Finland. 

Regulation is also looming large, as governments and financial conduct authorities set out new parameters for the decentralised finance space – and this is being shaped by the need for greater security as cyberattacks and fraud incidences continue to rise in the digital currency space. 

Exchanges look set to embrace new regulations

Experts agree that trust must be restored so that investors have confidence in cryptocurrency and DeFi. The journey towards better security begins with the world’s leading exchanges, which look set to lead the way by introducing tougher verification methods.

Micheal Ramsbacker, CPO of Trulioo, a leading online identity verification fintech, is convinced this will play a large role in the development of the DeFi sector. He says crypto users will naturally gravitate towards exchanges that embrace stricter regulations because new research shows that consumers now want to see visible signs that organisations are focused on protecting them. 

Indeed, 66% of crypto users claim that they have become more tolerant of identity verification measures during the past three years, and 78% are more comfortable with identity verification checks taking longer.

“Diving down into specific sectors, it’s likely that we’ll see identity verification take on an even more critical role within the crypto sector. Recent events will likely lead to increased regulation across all areas of cryptocurrency and decentralised finance and, in particular, exchange functions. Regulators will look to bring in rules to protect consumers.”

Ramsbacker says that from a consumer perspective, confidence and trust around crypto is probably at the lowest level it’s ever been. “Our own research last month found that 83% of crypto users said crypto companies should be doing more to reassure and protect customers. 

“Against this backdrop, I think it will increasingly be a case of the market deciding how the crypto sector recovers and the direction it takes going forward. I predict that we’ll see mainstream crypto investors voting with their wallets and favouring platforms (and jurisdictions) that are embracing, rather than trying to escape, regulation.” 

Better help for victims of crypto fraud

Last year in the UK, the judiciary introduced a new legal gateway called the CPR to serve disclosure orders on overseas cryptocurrency exchanges. The High Court ruling means that fraud victims are given greater legal routes to track down their stolen digital assets, at a time where fraudsters can be located anywhere around the world. Faster access to international crypto exchange data will result in more victims being able to track fraudsters before the scent goes cold. 

Sam Roberts, a cryptocurrency legal expert and Partner at Cooke, Young, & Keidan, says: "The use of the new CPR gateway to serve disclosure orders on overseas cryptocurrency exchanges is an encouraging step in the fight against crypto fraud. Despite this, the challenges facing claimants in these cases remain considerable and this particular case may not illustrate in full how useful this gateway will prove to be.”

However, it's not quite as clear cut as it could be, and more work needs to be done in the identity security space, explains Roberts: “Although these developments are encouraging, compliance by overseas exchanges with these orders will continue to be patchy, and the information provided by exchanges will not assist claimants if – as is often the case – the account holder has had his identity stolen."

More pilot schemes launched for CBDCs

Globally, pilot schemes for the new digital currencies are being rolled out during 2023. The Federal Reserve Bank of New York announced a major pilot scheme in November 2022. The programme is being pressure tested for 12 weeks, and the data gleaned will shape the full rollout of the digital US dollar – which, as yet, has not been announced.

According to reports, the banks and fintechs involved will be exploring the feasibility of an “interoperable network of central bank wholesale digital money and commercial bank digital money operating on a shared, multi-entity, distributed ledger” on a regulated liability network. Furthermore, banking behemoths including Citi, HSBC, BNY Mellon, PNC Bank, Mastercard, TD Bank, Truist, US Bank and Wells Fargo are taking part in the pilot via a token issuing scheme, settling transactions through simulated central bank reserves.

Blair Halliday, Managing Director of Kraken UK, says caution needs to be exercised before the official rollout of CBDCs can be considered. “Today, more than 100 countries are in various stages of developing CBDCs and around 10 have successfully launched to the public. There are mixed opinions regarding how CBDCs will impact the DeFi space, as well as how closely CBDCs align with the underlying principles of crypto assets.  

“Though the applications are endless, it’s possible that CBDCs could provide governments and banks with the ability to track transactions and provide real-time censorship to individuals that disagree with their viewpoint. While this might seem outlandish, it is not beyond the realms of possibility, so the industry is carefully watching the CBDC roll out across various countries to assess whether they are acting as a force for good or providing tools for control.” 

Trust in crypto set to increase

As CBDCs are endorsed by governments, it seems likely that trust in the digital currency space will increase. This will be further bolstered by tougher regulations and security, as well as being a currency alternative for those who are not keen on using CBDCs. 

One of the benefits of using a non-government-regulated cryptocurrency is the privacy it affords the user. Cash is swiftly diminishing and also has limitations in terms of cross-border transactions. These are being addressed by new cross-border fintech products that are enabling a growing number of transactions to be carried out seamlessly on the blockchain. 

The NFT market will encourage greater adoption

Although it's currently in a depressed state, the potential for tokenization to be used to transform traditional assets into digital, transferrable capital is growing. For example, moves are now being made to make real estate transactions on the blockchain. The use cases are increasing on an almost daily basis because they cut out the middleman – as well as the laborious and expensive paperwork, on top of weeks of processing time. 

Halliday says: “I believe we’re going to see greater use of cryptocurrencies as a force for good once trust is restored in the crypto industry. In 2022, Ukraine showcased a great example of how this innovative technology can offer a rail of last resort for citizens left behind by traditional finance in their moment of need.”

He adds: “But cross-border payments is not the only use case of crypto, and I expect we’ll see more practical applications emerge as smart minds in the industry find ways to use the technology to solve real-world problems.”