The context of the current “crackdown”

To say that China’s relationship with bitcoin is strange would be a bit of an understatement. The fact that the Chinese markets for mining and trading bitcoin are, or were, the largest in the world isn’t too surprising. After all, China is the largest in many things. What is surprising, at least to an outsider, is how these markets continue to exist despite the fact that buying and selling bitcoin in China is technically illegal.

If there were any doubts regarding the central government’s position on the matter, they were certainly addressed by Vice Premier Liu He, who recently declared the need to “crack down on bitcoin mining and trading behavior, and resolutely prevent the transmission of individual risks to the social field”.

This isn’t the first time China has vowed to “crack down” on bitcoin. As the Bitcoin Association of Hong Kong recently tweeted:

A brief look at the previous crackdown may provide insight into the present.

In September 2017, the People’s Bank of China announced a ban on all Initial Coin Offerings (ICOs) and crypto trading platforms. What followed wasn’t the end of the largest crypto market in the world, but rather its sudden transformation into a gray market. To be clear, while the open exchange of renminbi for cryptocurrency was banned, it was still legal to hold cryptocurrency as “virtual Internet property”. Traders and exchanges alike easily circumvented restrictions through the use of VPNs, fake foreign credentials (which can be purchased online for as little as 500 renminbi), and overseas registration. Aside from trading, bitcoin mining went on to experience a boom, with Beijing-based Bitmain establishing itself as the dominant player in industry hardware, and large-scale mining facilities emerging in Xinjiang, Sichuan, and Inner Mongolia.

All of this begs the question: If their goal was to force bitcoin out of the economy, why didn’t Chinese authorities go all the way, declaring bitcoin an illegal asset and shutting down all mining activity within their borders? To answer this question, it’s important to understand the context in which cryptocurrency integrated itself into the Chinese economy.

In December 2013, Chinese regulators barred banks from handling transactions involving bitcoin, referring to it as a “virtual good” that shouldn’t be used as currency. Outside of the banking sector, however, markets continued to flourish, and by November 2015 over 90% of global bitcoin trades were being conducted in renminbi. It wasn’t until September 2017, on the backdrop of a crackdown on overseas capital flight and a global surge in the popularity of ICOs, that bitcoin came back into focus.

Following the subsequent ban on ICOs and crypto trading platforms, many exchanges previously based in mainland China relocated elsewhere while continuing to conspicuously serve clients from the mainland. In addition, a vast network of over-the-counter crypto markets emerged on WeChat and other messaging apps.

This continued trading of bitcoin despite pushback from the highest levels of government serves to demonstrate the strength of its appeal. As was seen during the rapid growth of the peer-to-peer (P2P) lending market, many Chinese retail investors are willing to move capital into risky assets outside the mainstream financial sector in search of high returns. In the case of crypto, this has led to multiple cases of mass fraud, the most notable of which was PlusToken. By luring over 2 million investors from China and South Korea with the promise of 9 to 18% monthly returns, PlusToken swindled as much as USD 5.7 billion worth of cryptocurrency, including approximately 1% of all bitcoins in circulation.

While crypto trading was the primary focus of 2017, mining has entered the crosshairs in years since.

Starting in January 2018, the PBOC, along with China’s main internet finance regulator, began to pressure provincial governments to disincentivize mining activities through increased electricity prices, taxes and regulation. In April 2019, the National Development and Reform Council (NDRC) indicated their intent to phase out crypto mining altogether, citing its incompatibility with China’s economic development plan. Despite this pressure, mining activity continued, and by April 2020 China accounted for 65% of bitcoin’s global hash rate.

China is, in more ways than one, the ideal location for a mining facility. The country provides access to well-established semiconductor supply chains, cold weather in the north, and, most importantly, a steady supply of cheap energy. The scale of the country’s crypto-mining industry was most recently demonstrated on April 16, 2021. On that day, widespread power outages in Xinjiang caused bitcoin’s mean hash rate to drop by 39%, the largest such drop since 2009.

A recent analysis by David Fickling of Bloomberg estimates that bitcoin mining alone may contribute 1.4% of Xinjiang’s annual GDP.

The economic attractiveness of bitcoin mining may also explain why provincial governments have long hesitated to fully enforce bans against it. It was only in March 2021 that Inner Mongolia began actively closing down all existing operations, going so far as to establish a hotline to report illegal activity. Sichuan recently announced a similar ban that will take effect in September. The extent of the crackdown in Xinjiang, China’s most significant mining province, has yet to be determined.

The Bitcoin Dilemma — ban it, but don’t “ban” it

While the Chinese central government has for years sought increased control over the flow of capital within its economy, cryptocurrency pushes in the opposite direction. Its decentralized and anonymous nature means individuals across the globe can conduct transactions entirely outside of official channels. This lack of control is especially concerning given the government’s current attempts to stem capital outflow from the country. While M&A and real estate previously served as useful channels for wealthy Chinese to park money abroad, closer oversight of such activities makes crypto an attractive new safe haven.

Despite this obvious desire to ban cryptocurrency altogether, the previous crackdown demonstrates the inherent limitations and risks of such a policy. While authorities can nominally declare an activity “illegal”, actively preventing individuals from engaging in it is another matter entirely. When crypto exchanges were banned on the mainland, over-the-counter markets emerged on WeChat, and existing exchanges simply reregistered overseas. After the activity is declared illegal, however, it becomes much more difficult to monitor, and those who continue to engage in it lose access to traditional safety nets. By forcing cryptocurrency out of the mainstream financial sector, Chinese crypto investors are made more susceptible to fraud, the potential scale of which is demonstrated by PlusToken.

Aside from the issue of enforceability, shutting out cryptocurrency altogether risks very real costs in other areas of strategic importance to China. Crypto mining, in particular, provides billions of dollars’ worth of demand for the advanced semiconductor industry. While this demand is currently met by TSMC and Samsung, potential suppliers in China would have the natural advantage of being located in the same country where demand originates.

The international trade so vital to projects such as Belt and Road could also be impacted. According to Chainalysis, the Tether stablecoin, developed by the owners of Hong Kong-based Bitfinex, has been used by merchants in Latin America and Africa as a means of paying for Chinese imports.

It’s for these reasons that the Chinese government accepts a certain degree of uneasy coexistence with the crypto world. Their current strategy so far closely mirrors that employed in the face of prior financial instability. Similar to the censorship of stock market news in March 2021, crypto-related internet searches and social media posts are being blocked or removed. As with the P2P lending industry, major industry players are being forced to suspend operations. While such measures have a chilling effect on business, they do little to address the underlying forces that gave rise to the market.

In the long term, the key to China winning the battle against crypto will be to offer a competing vision for the future of digital finance. Bitcoin was created based on the premise that value can be exchanged without the need for a central authority. That premise alone makes it, in essence, antithetical to the ethos of the Chinese Communist Party.

The digital renminbi in many ways represents China’s answer to cryptocurrency. Aside from its speed and ease of use, the currency is tied to the identities of its users, with all transaction data sent directly to the People’s Bank of China. Through this system, the PBOC will likely have the ability to automatically nullify or reallocate currency held by select individuals or entities. Given the country’s current position as the global leader in electronic payments, along with their rapid rollout of the digital renminbi, it’s not hard to see how China and cryptocurrency could emerge as two mutually exclusive ecosystems.

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Source: https://medium.com/predict/chinas-never-ending-war-on-bitcoin-4a5bba6452e3?source=rss——-8—————–cryptocurrency