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Crypto-assets: A challenge to India’s strong exchange control laws

Loopholes in FEMA and the decentralised nature of crypto-assets point to a need for effective regulations.

By Vipul Kharbanda and Aman Nair

The sudden and seemingly meteoric rise of crypto-asset trading in India has raised a significant regulatory concern for the Indian government – that of foreign exchange management. Crypto-asset trading is, by virtue of its decentralised nature, a global phenomenon and process. At the same time, one of the largest proposed use cases for crypto-assets is as a means of facilitating simpler and lower-cost cross-border transactions. El Salvador has even cited the ease of using Bitcoin to send remittances as a primary reason for its adoption as legal tender.

The international reality of the crypto market, therefore, begs the question, how will existing Indian foreign exchange laws apply to it, and do lawmakers need to make crypto-specific tweaks moving forward?

How do crypto-assets fit within India’s existing foreign exchange regulations?

India has extremely specific exchange control laws, laid out within the Foreign Exchange Management Act of 1999 (FEMA). If any person in India wants to convert Indian rupees into a foreign currency, it can only be done through persons who have been authorised by the Reserve Bank of India (RBI) to carry out such foreign exchange transactions. Usually, such authorisation is taken by money changers, travel agents, banks, etc. It is illegal for any person to indulge in foreign exchange transactions except through these authorised persons. However, the decentralised and peer-to-peer nature of crypto-assets enables individuals to transfer money outside the borders of India without going through any banking channels and hence stay completely outside the purview of the RBI’s supervision.

Take, for example, the following hypothetical case:

  • Person A opens an account with any Indian crypto exchange and buys crypto-assets which they then transfer to a standalone crypto wallet.
  • From this wallet A transfers the crypto-assets to the wallet of another person residing outside India without going through any intermediary.
  • The foreign resident could then exchange the crypto-assets for the foreign currency of the country where the non-resident is located.

In the above example, there is no direct exchange of Indian currency into any foreign currency, but effectively Indian Rupees have been converted and transferred to a person resident outside India without going through an RBI “authorised person”. It is possible that a number of students and young individuals may be indulging in such transactions, perhaps without even the knowledge that they are violating the law. On the other hand, there may be a risk that crypto exchanges may get implicated for facilitating such transactions even though they may not be aware that their users are transferring the crypto-assets bought through them outside India. It is therefore important for the government to come out with effective regulations to supervise and address such anomalous situations.

How can governing bodies look to reconcile crypto-assets and foreign exchange regulation?

Considering the decentralisation and anonymity built into the system, it may not be possible for the authorities to keep a tab on all crypto-asset transactions. However, regulating the entities which provide crypto wallets, crypto exchanges, or entities that accept crypto-assets as payment for goods and services may ensure that the regulatory agencies can exercise their supervisory jurisdiction over transactions of individual customers at the critical point, i.e. the point where crypto-assets are exchanged for actual currency or goods and services. This approach has also been recommended by the Financial Action Task Force (FATF), the global money laundering and terror financing watchdog. The regulations could impose an obligation on the companies to conduct KYC checks on all their customers and provide information on any suspicious activities or provide greater information about accounts that see very high volumes, etc. to ensure that any planned and concerted efforts to circumvent the exchange control laws are rooted out.

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Some of the other options that seem to have been suggested are the creation of a walled garden approach which may ban wallets where the identity of the owner is masked or the creation of a national wallet on the lines of a Demat account, to ensure greater supervision and accountability. Some reports suggest that the proposed Crypto-asset Bill will require existing crypto-asset owners to transfer their crypto-assets to wallets held by the exchanges, which would, in turn, be regulated by the Securities and Exchange Board of India. After the grace period for declaration and transfer is over, exchanges would not be allowed to entertain transactions from such non-custodial wallets. Although these measures may lead to easier supervision and ensure better policing of crypto transactions, concerns still remain around the technical feasibility of such an approach as well as worries that this would result in a limiting of innovation vis a vis the underlying blockchain technology. With both the RBI and central government consistently re-iterating their desire to retain blockchain innovation while regulating crypto-assets, such an approach must be considered cautiously.

The government will therefore have to ensure that any regulation in this sphere takes into account the concerns of all stakeholders to achieve a balance between effective compliance with exchange control laws and encouraging the nascent crypto industry in India.


Aman Nair is a policy officer at the Centre for Internet & Society, India, focusing on fintech, data governance, and digital cooperative research. Vipul Kharbanda is a non-resident fellow at CIS, focusing on the fintech research agenda of the organisation. Views expressed are personal and do not necessarily reflect the views of MediaNama. 

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