Global Crypto and Digital Currency Initiatives: China

03/29/2022 | Written by: Daniel Pereira

Featured Image Source: Stefen Chow/IEEE Spectrum

Based on the recent release of our Web3 Cyber Incident Database, we continue with our brief survey of crypto and digital currency initiatives from around the globe, all of which are officially sanctioned to enhance national competitive advantage (in the event crypto overtakes the US dollar as the global reserve currency). It is the cumulative adoption rate of state-sanctioned crypto and digital currency legalization and regulation that will propel this innovative system for value exchange as a global currency standard.

In previous posts, we provided an analysis of crypto and digital currency initiatives in El Salvador, Panama, Ukraine, India, Argentina, and Russia.

Most recently, we provided an analysis of the major central bank digital currency (CBDC) initiative in the U.S., Project Hamilton, which is a technical collaboration between the Federal Reserve Bank of Boston and The MIT Digital Currency Initiative. Project Hamilton is a major applied basic research project which informed some of the actionable and directional components of the recently released Biden Administration Execute Order (EO)–“Executive Order on Ensuring Responsible Development of Digital Assets”— articulating national security concerns associated with Bitcoin and other cryptocurrencies (OODA CTO Bob Gourley provided a recent analysis of the EO. See What Will The Federal Government Do In Response To The Rise of Cryptocurrencies?).

We now set our sights on China, a country that – not surprisingly – has a markedly different policy approach to the global ascendance of bitcoin, cryptocurrency, and CBDC.

Market and governmental activities around digital asset growth, innovation, and legitimacy have been much more of a troubling mixed bag in China. What sets China apart from other parts of the world in its current relationship with digital assets and digital currency is the market development and technological innovation is showing clear signs of fusing with the surveillance state “build-out” that China has achieved in the last 5 to 10 years. Worse yet, the surveillance state technology ‘stack’ that is being perfected by China is also an export, which over time may include blockchain technologies as a dystopian platform for surveillance techniques. Overall, The Chinese centralized state has sent clear signals of an innate aversion to the decentralization and empowerment represented by bitcoin, blockchain, and cryptocurrency.

In 2021, a Crackdown on Crypto Mining in China

In China, it seems policy shifts by the state always very quickly map to a crackdown of some sort. In this case, the global mainstreaming of bitcoin and blockchain took off in earnest as early as 2012 and China quickly became the global host of bitcoin mining. As reported by TIME in June of last year: “‘We’re like bees chasing flowers,’” Tang Wanlong, chairman of bitcoin mining company Sichuan Duo Technology Co. Ltd told TIME from his penthouse office in [China’s] Sichuan province capital Chengdu” in May of 2021.

“China hosts around 75% of the world’s bitcoin mining capacity—or ‘hashrate’—due to its established technology supply chains and extremely cheap electricity. Cryptocurrency mining requires huge amounts of computing power, making energy consumption a major overhead for the industry. This means that in the summer when rains are plentiful, miners flock to Sichuan’s hydropower stations, which have a glut of supply and are based in far-flung locations that make it hard for them to plug into the national grid. Local governments will often offer power for pennies—or even free—to attract jobs and get a painless boost to their gross domestic product figures. ‘The water is just going to flow away, so rather than waste it, we use it to make a contribution to China,’ says Tang.”

“China’s government, it turns out, disagrees. In late May, China’s State Council signaled a crackdown on cryptocurrency mining, causing bitcoin’s price to plummet by 30% and casting a pall across the entire industry, which collectively lost over $1 trillion in value. Chinese Vice Premier Liu He told a group of finance officials that the government would “clamp down on bitcoin mining and trading activity” to ensure financial stability. While individual miners and traders may be able to slip through the cracks, larger commercial miners will likely be considering alternative mining hubs with less rigorous regulatory regimes, analysts say. The sudden crackdown has largely been driven by the inherently speculative nature of cryptocurrencies and the Chinese Communist Party’s (CCP) extreme aversion to risk—or anything outside its control.” (1)

While some reports suggest that the Chinese government’s regulation and the crackdown on crypto mining is primarily based on concern for the long-term environmental impact of crypto mining undermining global sustainability efforts, most coverage and analysis suggests that what propels the actions of the centralized state is a singular concern for “economic and financial order” – and the furtherance of state centralized control over the financial system.

Crypto Transactions Illegal Due to High-Risk Volatility

Chinese policy on crypto transactions and crypto exchanges was first articulated in 2017, in the aftermath of the Initial Coin Offering (ICO) bubble, by the China Securities Regulatory Commission, The Chinese Central Bank, and other regulatory agencies. In a joint statement, the Chinese regulatory organizations made ICO speculation illegal. According to ZDNet, the regulatory commission in China then “proceeded to ban all ICOs in China, as well as instructed organizations and individuals involved in ongoing ICOs to make arrangements for returns and refunds. If these were not carried out, law enforcement would investigate and prosecute where necessary. The ban, though, did not prevent local investors from participating in ICOs outside of China.” (3) As a result of the new regulation, China’s largest crypto exchange, BTC China, blocked the use of the exchange by users on the mainland of the country in September of 2021.

Separate from the crypto mining activities in far-off provinces of mainland China, the storage of value (and the general high-risk profile of cryptocurrency as a method of a transaction) have been very, clearly articulated as an important issue by the Chinese government. So much so that, at the same time as the crackdown on crypto mining operations in Sichuan in May of last year, three major financial services organizations in China – The National Internet Finance Association of China, The China Banking Association, and The Payment and Clearing Association of China – released a statement which reinforced the government policy that “its members should not be involved in transactions dealing with cryptocurrencies. These included activities encompassing intermediary services that facilitate trading as well as the exchange of fiat money.”

“Without singling out Bitcoin, the three industry groups said cryptocurrencies were not recognised by China’s central bank and had been flagged for their financial risks as well as potential ties to money laundering. They noted that virtual currencies had no real value and prices were easily manipulated. They should not be circulated as money and contracts involving their use were not protected by law, they said, adding that any party that participated in such investments or transactions would have to bear the consequences and losses. They reminded consumers to be aware of the risks and refrain from taking part in activities involving cryptocurrencies.” (2)

2022 Sees Further Regulatory Control of Crypto In China

As of February of this year, the severity of the illegality of crypto and digital asset transactions has been further codified by the Chinese Supreme Court, ruling digital asset transactions as “illegal fundraising” – clearing a path for formal prosecution by Chinese law. As Coindesk reports:

Crypto Transactions Are an Official Crime: While the People’s Bank of China and a host of other top-level agencies had declared that crypto transactions are illegal fundraising back in September 2021, the court ruling formally designates them as a crime and determines related punishments.
Fundraising Transactions are Specifically Targeted: The law targets illegal fundraising through crypto transactions when four conditions are met, explained Shi Lei, China-based attorney, arbitrator, and lecturer. These are public fundraising, unclear fundraising goals, promised returns on capital and interest and activities that violate laws and regulations, he said.
Overall Concern is for High-Risk Volatility in the Markets: “It’s a speculation crackdown,” Kendra Schaefer, who heads the tech practice at Beijing-based consultancy Trivium, told CoinDesk. Some crypto companies promise high returns to investors, but these encourage highly speculative investments, which Chinese regulators are trying to eliminate.
The Crypto Mining Crackdown Continues Unabated: Chinese provincial authorities continue to crack down on the industry. The eastern province of Zhejiang announced increased electricity tariffs on Wednesday for crypto mining, joining Hainan and Inner Mongolia. (3)

The Supreme Court ruling states the violators would “be prosecuted under Article 176 of China’s criminal law, which stipulates prison sentences between three and 10 years and fines between $7,900 (RMB 50,000 ) and $79,000 (RMB 500,000) for crimes involving large sums of money. According to the criminal law, less serious offenses will be prosecuted with under three years of prison and fines between $3,160 (RMB 20,000) to $31,600 (RMB 200,000).” (4)

What Next: A Future Surveillance State Based on a CBDC Platform?

Centralized Digital Currency as a Surveillance Platform: Yaya J. Fanusie focuses on the national security implications of cryptocurrencies and blockchain technology at the Center for a New American Security (CNAS) where he is an Adjunct Senior Fellow. Prior to joining the CNAS, Fanusie was an economic and counterterrorism analyst in the CIA. CNAS is doing some brilliant research and analysis on China, blockchain, and national security.

While cracking down on crypto mining and making crypto-asset transactions illegal and punishable by law, China has also been developing a centralized bank digital currency that dovetails with its strategic efforts to expand surveillance over its citizens’ financial lives. As Fanusie and his colleagues note in their 2021 paper “China’s Digital Currency“:

Eliminating Data Collection Constraints on Financial Transactions: The People’s Bank of China (PBOC) is…aiming to release a central bank digital currency of its own. This CBDC system, which the Chinese government calls Digital Currency/ Electronic Payment (DCEP), will likely enable the Chinese Communist Party (CCP) to strengthen its digital authoritarianism domestically and export its influence and standard-setting abroad. By eliminating some of the previous constraints on government data collection of private citizens’ transactions, DCEP represents a significant risk to the long-held standards of financial privacy upheld in free societies.
Digital Native, Mobile Retail Payments are the Driver: The PBOC’s DCEP strategy is motivated by a number of factors. The dominance of private mobile payment firms in China has given such companies an outsized role in retail commerce, making them indispensable to the economy. The PBOC is seeking a digital currency to harness the market share and technological innovation of private financial firms and to gain better access to information about the financial activities of Chinese consumers.
Digital Currency as an Emerging Technology for Competitive Advantage: DCEP is also part of China’s geopolitical ambitions, and CCP officials frame the progress of DCEP as similar to advancements in other strategically important emerging technologies, such as artificial intelligence and robotics. DCEP’s development also comes against a backdrop of China’s broader push to internationalize the renminbi.

Crypto Overregulation in the U.S. vs. Crypto Illegality in China?

What is most interesting about China’s place in the crypto and digital currency debate is that its entire position is counterintuitive to any traditional, working definitions of the role of innovation (in Silicon Valley or the U.S. government) which is deeply allied to notions of freedom, market creation, creative destruction, etc.

Here, China has fused technological innovation and monetary policy (arguably for the first time in human history? ) with state control and surveillance. Which is the opposite of the way progress and change have been embedded in tropes around American-style technological innovation. In other words, the concern for overregulation of the crypto marketplace in the United States is not even a remote consideration for the Chinese authorities. Quite the contrary. The Chinese are developing a Surveillance as a Service platform, which will include the storage of value and financial systems transaction records (as part of a centralized dataset for population control and the maintenance of power).

Over time, it is this platform that China is selling to interested parties – as the market and innovation “sort things out” with crypto and digital currency in free societies around the world. As world affairs further bifurcate into a standoff between democracy on its heels and the ascendant force of autocracies, what are the implications of all “transactions” (and clear, severe legal consequences for “illegal transactions”) encrypted into a ‘blockchain’ for every citizen of China? and any citizens of countries that plug and play into this “surveillance as a monetary system” (masquerading as a digital currency platform)?

The strategic debate for national security and the global financial system then becomes: is the Apple-esque, closed garden development of the Chinese DCEP going to occur at an exponential speed – and scale equally as fast based on a centralized, strategic deployment by the CPC? And will the Chinese development cycle trounce the adoption rate of open-source, Android-ish development cycle of disparate, digital currency standards in free societies worldwide?

The way the future of monetary policy, geopolitics, human rights, and digital sovereignty converge based on this Chinese digital currency policy sheds new light on concerns for the overregulation of crypto in the U.S. – and exposes China’s crackdown and the regulation of crypto and digital asset transactions as a deeply sophisticated strategic ruse.