What's Next For India's Blockchain Ecosystem

Calm down, we aren't going to the moon yet. 🙄

The Genesis Block

The Reserve Bank of India (RBI) issued a notice requesting regional banks to stop working with regional cryptocurrency-related startups in April 2018. This was not a one-off instance. ThailandVietnam and Indonesia had a similar approach to taming what the wild west of digital assets was. The policy was in direct contradiction to what was happening in more established ecosystems like Singapore and Switzerland. Regulators, there were pushing banks towards working with digital asset-related startups. We will get into what may have driven banks in these regions to coordinate on a unified attack on digital assets later on in this piece

At its crux, the instruction from the RBI suggested financial institutions in the country should no longer be working with cryptocurrency-related startups. It throttled the financial network that legitimate players were using in the region. The immediate after-effects of the hasty notice came in multiple angles.

1. Harassment of individual token buyers
Those with Bitcoin-related purchases in their bank accounts were asked by banks to provide a very high amount of paperwork proving the source of their income, the use of their purchased digital assets and any trading records they held.

2. Death of startups
The release of the circular meant multiple startups, primarily exchanges were left with no means to receive payments or transfer INR (Indian National Rupee) to those looking to sell tokens on their exchanges. Much of the start-up players at the time evolved into a peer to peer model (Koinex, WaxirX, PocketBits) and continued to survive. This worked for a while as personal bank accounts of those using the exchanges were used instead of a corporate bank account used by the exchange itself. Over time, this too proved to be inefficient and unsustainable as the regional markets dried up due to concerns around government harassment. This was one of the reasons Koinex cited in their shutdown. Sohail Merchant, CEO of Pocketbits.in captures the immediate after-effects of the shutdown on his exchange and what the new ruling means from the point of view of an exchange CEO in the audio clip below

Large players like Zebpay who were handling over $1.5 billion in volume a year back were forced to move abroad. The move by the RBI singlehandedly killed what would have been a multi-billion dollar ecosystem if they had done their functions as a regulator and enforced stricter regulations instead of issuing a complete blanket ban on banking for crypto startups.

Note: There have been reasons to believe a high number of startups were not profitable and used the blanket ban as a reason for the move abroad. Whatever be the reason - it did act as a tipping point.

3. Liquidity moving to OTC desks and peer to peer interactions

An outright ban on banking meant much of the industry went “dark”. In the sense that transactions happened in cash or in-kind - offline. The government stood to have an additional source of revenue through the trading of digital assets but, a ban on banks being used for these transactions often meant

(i) cash was used as a primary medium to exchange - often with heavy amounts of risk to the people involved or

(ii) personal bank accounts were used with no means for the government to actually collect data on who is buying what and how much for

These factors combined meant illicit use-cases such as money-laundering, corruption and drug transactions might have, in fact, seen a higher amount of liquidity in the country. What the government failed to understand is that by creating necessary systems to check on volume and verify the source of capital - they could have created an entirely new revenue stream for the nation at a time budget deficits were screaming at us.

4. Impact on Labor Markets

In addition to the large scale slaughter of enterprises - many of which were job creators in an economy that struggled to create any, the move by RBI put off individuals that were upskilling to partake in the ecosystem. The primary target group here were fresh undergraduates who were at the verge of leaving university to join a blockchain or crypto startup. While the crop of startups that came through the last two years have made their mark globally (Juno, Mudrex, Matic etc) - the number would have been way more if the government had not spooked an already risk-averse nation into believing building on the technology would criminalise them. The move by the government was responsible for moving a very large talent pool that would have come into the ecosystem into alternative industries that may very well be dead in the next decade. By most conservative estimates, the industry would have generated at least 10,000 jobs if the government did its homework.

Mining Through Difficult Times

Naturally, most startups had to either shut shop, move abroad or consider pivoting. A trend that emerged as a result of the government clampdown was the rise of peer to peer transaction models. Startups like LocalCryptos (previously LocalEthereum), LocalBitcoin, WazirX and Pocketbits gave much-needed liquidity to those earning in tokens in the country. I find it interesting that startups like CoinDCX and Delta.exchange were able to build out of India and cater to the world. One of them beats their peers globally in terms of the number of digital assets offered on margin trading, while the other has been at the frontier of futures. Delta has slowly built a daily volume of $2-$5 million building out of Mumbai. The outcomes for each of these players would have been drastically different in an environment that vetted them and gave them global legitimacy. In the absence of legal legitimacy, even capital investments in regional startups became scarce. Nitin Sharma has been an investor backing blockchain firms since 2017 and has built a portfolio that has captured follow on’s from some of the best in the game. He was kind enough to share his thoughts on how the regulatory environment affected startups, the pivot many did to survive tough times and what clear cut instructions from the government could mean for the industry.

The natural tendency for founders at the time was to start building from India, for a global audience. This story is captured in that of Mudrex’s. The team behind the venture was an all-star team of banking professionals that wanted to build institutional grade, API based trading platforms. Once the circular from the RBI came, they had to pivot to offering a no-code, algorithmic trading platform. Fortunately for them - Y Combinator stepped in as a critical backer alongside some regional angels giving them much-needed runway. They have since built a product that now caters to a global audience. We see a similar trend with InstaDapp and Nuo - both of which have become critical players in the DeFi ecosystem and raised from the best VCs in the game. Built from India, for the world.

What The Ruling Actually Means

At its crux, the ruling solely suggests that it was unconstitutional for the RBI to suggest banks should not work with an entire industry. There has been a rush to suggest "crypto is legal" in India all of a sudden. The truth of the matter is, it is not yet. It is not illegal either. And that is the point. Crypto remains in the "grey" area where the government has not clarified whether it is legal or not. However, that move from an outright banking ban to suggesting the central banking regulator was acting unconstitutionally when it issued the notice from April 2018 is a huge leap. Why? Because in the lack of a clear bill that suggests the ownership, transfer or trade of digital assets is illegal and the presence of banking routes - both exchanges and individuals will begin buying into and trading these assets. In fact, within six hours of the ruling from the government, exchanges did start taking rupee deposits from individuals. Peer to peer exchange volumes also surged substantially. WazirX alone saw a volume of over 100 bitcoins in the hours after the ruling from the supreme court.

The ruling shows a willingness from the Supreme court to

(i) Listen to industry experts that stand up for the protection of individual rights

(ii) Vet the foresight and jurisdiction of the central bank

(iii) Criticise and repeal a wrongfully issued notice.

(iv) Regulate the industry with the same handle

Jaideep Reddy was one of the lawyers arguing on behalf of the industry at the Supreme Court of India. I have been nothing short of a massive fan of how he summarises tech through a legal lens on behalf of Nishith Desai Associates. Here’s his summary on what the case meant and what we should anticipate in the future.

What we should not be doing as a community is to rush individuals towards acquiring digital assets or by no means suggesting that ownership of these instruments are all of a sudden - legal. Sadly enough the hyperbole of the media combined with the euphoria of an ecosystem that has seen no net positive news from the government for half a decade could mean this is misinterpreted in multiple ways. In fact, even as the ruling from the Supreme court came, there remain multiple challenges before a fully “regulated” ecosystem in India comes of age.

Some I keep thinking about is

(i) Clear cut tax regimes that may draw inspiration from commodities trading
(ii) Clarity on how the government sees encryption and privacy in the context of digital assets
(iii) The extent of disclosures needed if an individual is being paid in digital assets
(iv) What it would take for a team to issue tokens in the country
(v) The kind of investor protection we could see in place if this is seen as an asset class
(vi) What kind of upskilling would government employees need to really cater to the needs of the industry
(vii) How quick can Ponzi schemes be detected and weeded out?

Before India can make cryptocurrency fully legal, it has a long winding way to go in terms of getting the right kind of individuals assisting the government with the task of creating regulations for 1.3 billion people. The way the bureaucracy hires and interacts with the industry is optimised for taking long durations. Industries do not work at the same pace. We have seen what happens when wrong actors work with the government, get “legitimacy” and shill their shi*tcoins to unknowing masses. As much as I take pride in Indian blockchain companies - the fact remains that if I made an index of Indian ICOs from 2017, the vast majority have gone to zero with nothing to show for it. Many of them have shut down operations and given no clarity to unknowing investors that bought into them. The legal environment in India is such that between corruption and the long periods taken by the court to vet a case; it is likely that individuals cannot sue or take them to court. As exciting as this is - it is best to practice caution in the interest of those that are still getting into the industry.

Why Practice Caution

The honest, simple reason is that individuals will exploit this situation of regulatory uncertainty to their own benefit. India is home to some of the largest token-based scams (alongside, normal fiat-based scams 🤷🏽‍♂). Exchanges that are based abroad have been quick to rush to running advertisements on social media platforms to use their credit cards to buy digital assets. Regional “finance experts” will begin peddling schemes that may have nothing to do with proof of work or immutable ledgers but quick dreams. India is especially vulnerable to this given that some 75% of its adult population lack basic financial literacy according to a report from 2015. The pathways for recourse are virtually non-existent if individuals start buying bitcoins from foreign exchanges with their credit cards and transfer it to some scheme that offers a multiple in a few days.

This is quite evident if you look at why people Bitcoin early on. In 2014, at a prominent meetup involving CEOs of multiple exchanges - the common consensus was that the majority of volume at the time was towards Ponzi scheme. That remained the trend till 2017. It was the dark “secret” most exchanges did not own up to for a long time. And then ICOs came along and gave people a faster way to lose money 😬. GainBitcoin was a prominent scam involving multiple celebrities that likely handled over $500 million at its peak. Last I checked, the individual behind it is not even behind bars - Link. There have been similar variations in Gujarat, Kerala, Tamil Nadu, Punjab and even Mumbai (the financial capital of the country). This matters because even though literacy rates across the country differ (with Kerala almost at 100%) - greed seems to have its grasp on individual minds regardless of how educated they are. I had a chance to speak to Anand Murali who was with FactorDaily in 2017. His writing took down the massive scam GainBitcoin was. He offers his insight on how people could be vulnerable to bad actors in smaller towns in India. (He is a real superhero for breaking the story when everybody was scared of the people behind the Ponzi scheme

The other aspect is that while the government may have repealed the notice from the RBI - it does not necessarily translate to cryptocurrency being legal. Multiple departments within the government still hold power to harass individuals. Those rushing to mention cryptocurrency in their bank transfers will very likely still have to meet tax authorities and provide transactional history if they ask for it. Even worse, banks could make their own decision to not work with exchanges citing operational risks. This has already panned out in several other countries. For all we know, cryptocurrency could be made ‘illegal” in the coming year without the RBI having to play a role in it. What I have been noticing from a number of think-tanks that do work with the government is that a push towards enterprise blockchains could be used to create an “India specific” blockchain. In light of the authoritarianism that is beginning to grip of the country - I am not entirely sure that is what we need. We don’t need more technology to discriminate against people. We came for the decentralisation, let’s not settle for centralised databases. Please?

So What’s Next

India has a long way to go in terms of regulating frontier technology. The challenges we see with the law are not specific to blockchains alone. They are as applicable to drones, artificial intelligence, internet of things and the new internet. Sadly enough, the government is not well equipped in terms of having the right personnel on board or processes that attract them. This leaves niche communities working with these technologies as the last barrier between enterprising scammers peddling snake oil and the industry being meaningfully useful for the nation. It is why communities like IndiaBits on telegram matter so much. At a time where misinformation spreads like wildfire, primarily powered by algorithms on Youtube and Twitter - communities reroute individuals to the right sources of information. Sadly enough, they are neither incentivised (through commercial partners) or monetised today. Making it harder by the day to spend volunteer resources to engage with and educate individuals. A case in point here is GainBitcoin itself. Although it was common knowledge that it was a scam - it was reporting from Anand Murali that raised public awareness on the matter. The media plays a compelling role in how information about the ecosystem is collected and distributed to individuals too. Often, individuals do not do the necessary vetting or consult with industry experts before spreading fake news. One could argue that much of the representation within the media from the industry has been from a handful of individuals who may often push their agendas without necessary disclosures. There are very few players who stick to bringing actual value instead of exploiting attention. Naimish Sanghvi is one of them. His work at cryptocrunch has been crucial to relaying information from the Supreme Court to the world in real-time. I captured his thoughts on what it takes to report in the current environment in an audio clip below.

As for startups and investments - Indian startups have barely raised 0.1% of the total amount of blockchain-related startups have raised so far according to Crunchbase. $25 million off a pool of $28 billion so far. Indian startups have proved their mettle in terms of ability to scale and run far more efficiently than their peers abroad. Still, the macro-economic situation in India does not allow them to become global competitors. The only way to solve for this will be through a mix of regulations in the form of sandboxes, regional capital (due to their know-how of the markets) and cross-border collaborations (due to their industry experience). I am going to name it the holy trinity of making progress on technology in India. We have seen this happen already with the likes of Y Combinator and Polychain investing in the region. Binance has also been bullish with its latest acquisition of Wazir X. These are healthy interactions that are net positive. We may soon see more investments coming into hubs like Mumbai and Bangalore with an explicit focus on either building in India and selling abroad (eg: Frontier Wallet) or selling specifically to Indian customers (eg: Signzy). Accelerator-based models and enterprise collaborators will be crucial for the future of blockchains in the country. As for where we are with funding, the chart below shows how much work remains to be done. It is the YoY funding rounds for blockchain-related ventures in India (including multiple ICOs). That major blip in 2018 is due to a (claimed) $11 million raised by a project named Rental coins as per Crunchbase.

The road that lies ahead is long. But one worth travelling on. Together.

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1. All of this is written in a personal capacity

2. While I have always been open to citations/translations - given that some parts of this piece could be used out of context, I would appreciate if you don’t quote me on this elsewhere unless you translate the piece in its entirety.

3. I have exposure (albeit small) to some of the startups mentioned in this piece. Have also worked directly or indirectly with a few of them on solving specific, strategic issues. Most of it is owing to the fact that India’s is a small ecosystem.