LEARNING UNIT 5: Theme 3: The use of cryptocurrencies and their potential

regulation in South Africa

LO9: Explain the meaning the following terms

LO10: Discuss the different types of cryptocurrencies.

LO11: Discuss the advantages, disadvantages and risks associated with the use of
cryptocurrencies.

The development of Cryptocurrencies as a Payment Method in RSA – NH Hamakuya

• Fiat currency = money = coins + paper notes that a State government issues and
that is circulated in the economy.  legal tender ∴ can legally be offered as payment
for debt and must be accepted by a creditor.
o Issues
 Centralised nature
 High transaction costs
 Slow transactions (international t/a)
 Low confidence in governments + institutions (who manage the
current monetary system)
• Crytocurrency: new medium
• Internet – its contribution to development of payment methods
o Card payments –
 cheque card has no value, just like a credit and debit card. However,
the cardholder's bank guarantees the payments made in this manner
up to a maximum amount.
 Bank issued cards: credit and debit
 Travel + entertainment cards: These cards are issued by a banking
institution or a merchant service provider to a business. The reason
for issuing travel and entertainment cards is so that a business can
pay for hotels, airline tickets, car rentals and other business-related
expenses
LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN
  Retail cards: i.e. Edgars card
o EFT
 any transfer of funds in which electronic techniques replace one or
more steps in the process that were previously done by paper-based
techniques.
 Credit t/f: pushed from transferor to transferee
 Debit t/f: pulled from transferor to transferee
 Points of Sale
o Methods facilitated through internet – reduce t/a costs
• Mobile Devices
o NFC = Near Field Communication chips – do not use card; just need phone.
o Peer to Peer: PayPal – has an intermediary framework; Co = intermediary;
facilitates t/a between buyer and seller.
 Buyer (card details)  Intermediary (approves t/a + notifies seller)
Buyer (amounts owed settled @ end of each day)
 Advantage: buyer ≠ give card details to seller + buyers privacy
maintained
• Issues with current payment methods

Cheques Cash Cards EFT

Long processing Easily stolen – no Privacy – giving details Use of intermediaries
time (7 – 14 recovery (international t/a) –
working days) chain of banks used +
SWIFT network

Volume of Inconvenient High t/a costs Long transacting time

paperwork

Costly to process – Cost of production Slow t/a time International t/a –

borne by consumer (international) subject to exchange
rate

Risk of non- Counterfeiting Fraud – data supplied Expenses – borne by

payment not always secure  customer (i.e. t/a fees)
ID theft

Fraud International Transactions: Problematic; use of banks _ money linked to legal

tender of specific government.
• Added costs
• Consider factors: interest rates, exchange rates, country-to-country
costs

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

• Development of Bitcoin
o Launched in 2009
o Based on blockchain technology
 Visit this website for more information:
https://www.investopedia.com/news/how-bitcoin-
works/#:~:text=investing%20in%20Bitcoin.-
,The%20Bottom%20Line,traditionally%20facilitate%20and%20regulat
e%20transactions.
 Blockchain: a distributed database of records or a public ledger of all
transactions or digital events that have been executed and shared
among participating parties.
• All t/a in public ledger is verified by consensus of participants
• Once ingo entered; can never be erased
o Can be used to t/f value / exchanged into other currencies using the
blockchain
o Vision
 Electronic means of t/f tokens of value w/o reliance on 3P (i.e. banks)
 Instead of banks – recordkeeping = decentralised into virtual ledger
(Blockchain)
o Bitcoin = partially anonymous + decentralised
 No governmental backing
 Not legally endorsed
 Not redeemable for gold or other commodities
o The Protocol = rules + regulations that govern Bitcoin
 Provides for total number of botcoins that can ever exist
 Users acquire bitcoin wallet ( software programme w/ private keys for
each bitcoin address saved in the wallet of the user who owns the
balance). Wallets = unique info  confirms ID of user

o Basically
 Method of Payment; peer-to-peer version of electronic cash
 Peer-to-peer = transact instantly; no use of itnermediaries (i.e.
bank/company)

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

 • Advantages + Risks of Bitcoin
Advantages Risks
Operates on P2P cryptocurrency network – Irreversible: no centre point in payment
no master server processing
• If incorrect address used – unable to
get a refund unless other wallet owner
decides to send back the bitcoin
No central control authority If wallet/pvt key lost – unable to retrieve
bitcoins (same position as losing physical
wallet)
All transactions recorded on public blockchain Subject to high volatility – additional risk – can
ledger ∴ ↑transparency gain or lose value quickly
• Issue: performance ito contract +
refunds (fore defective product)
• R Kabwe: volatility creates uncertainty
for potential users, investors + tax
authorities
o Instead of using it as unit of
account should be used as a
store of value
Lower t/a costs
Not bound to laws/status of any one
government – International t/a = faster + more
efficient
No chance of using personal data + no fraud
(as compared to credit cards)
Users don’t disclose personal info; 2 keys
used – public + private
• Public key: available to all
• Private key: only owner
• t/a facilitated: signed by interacting
with private keys and applying a
mathematical function. This creates
evidence that it is the owner who is
performing the transaction.
Cannot be counterfeited or spent twice

• “Altcoins” – Different type of Cryptocurrency

o Designed as alternative to “fiat money” (real money)
o “dividend” bearing altcoin – users receive “rewards” in crypto that can be
exchanged for “real money”
o Discounts – altcoins provide discounts on platforms
o Tokens: found to provide users the right to participate in governance of a
project which has influence on decision-making process of blockchain-based
project (think Charlie and the Chocolate factory – “the golden ticker”; or
Ready Player One – “the eggs”)
o Cryptocurrency = intangible; exist only on blockchain; all they are = code on a
ledger
 they exist anywhere and everywhere, and have a global nature. (Think
Scarlet Johanson @ the end of Lucy)

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

• Regulating Cryptocurrencies
o regulators around the globe are experiencing difficulties in regulating crypto-
related activities.
o There is no global uniform legal consensus on the regulation of
cryptocurrencies.
o SARB: regulates NPS – SARB Act + National Payment Systems Act
 Only SARS can issue legal tender – cash
 Accepted methods: paper notes, coins, credit cards, and other forms
of online fiat payment systems issued by banks and retailers
• Issues directives + circulars etc.
o Position paper – SARB – risks with cryptocurrencies
 Lack of proper regulatory framework: increases risks associated with
enforcement of principle of finality + irrevocability in payment system
 No regulatory protection: no compensation to owner/use for any loss
suffered
 Less susceptible to freezing/seizure by law enforcement
• Gathering of evidence regarding t/a can be impossible
 Exchange regulations ≠ do not govern t/f of cryptocurrencies in and
out of RSA: cross-border t/a ≠ authorised by SARB
o Legal classification not determined br RSA
 Different nature of cryptocurrency  current regulatory framework ≠
applicable ∴ gap in law
• Conclusion
o Rate of development of crypto$ - will be legally recognised in the future (no if;
but when)
o Gap in RSA law RE: Crypto$
 Crypto$ - not legal tender + unregulated ∴ concerning due to the fact
that only SARS can issue legal tender
• Non-regulation not an issue with e-payments – Banks are
regulated
• Bitcoin – completely unregulated
o Regulators must realise and assess the impact the recent developments in
blockchain advancement have had, which make it possible to realise new
opportunities, competitiveness, growth, and social integration in South Africa

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

Ruddy Kabwe, The VAT Treatment Of Cryptocurrencies In South Africa: Lessons From
Australia (2020) Obiter 767-786.
This article deals with adding VAT to cryptocurrency transactions – I have only summarised
the general principles relating to cryptocurrency from the article. Please read on your own.

• Characteristics of Cryptocurrencies
o Anonymous in nature – users do not reveal their identities
o No fees for transactions – lower transaction costs because there are no
intermediaries
• Regulation
o Difficult challenge for governments + Tax authorities
o Transactions ≠ do not require intervention/facilitation of 3P – crypto$
exchanged through decentralized global network.
• Understanding the Nature of Cryptocurrency
o It is a virtual currency
o Math based decentralised convertible virtual currency that is protected by
cryptography
 ∴ subdivision of virtual currency
o FATF – definition – virtual currency: a digital representation of value that is
traded digitally and has one or more of the following characteristics: a
medium of exchange, a unit of account and a store of value.
 Dependant on existence of the internet.
o Fiat money // virtual currency – Both are digital currencies (a digital
representation of virtual and fiat currencies.

Digital currencies

Virtual currency Fiat currency

non-convertible: “is
intended to be includes bank notes,
convertible: can be specific to a coins + legal tender
exchanged for real particular virtual
currency (i.e. Rand) domain or world”.
(e.g. World of
Warcraft) coloquially = "e-
money" - capable of
being represented
digitally

centralised: has a central

administrator responsible
for: issuing the currency;
est. rules; keeping ledger

decentralised: no
central authority /
monitoring oversight

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

 • What is Bitcoin?
o International, decentralises, convertible, virtual currency
o Consists of units of account comprised of numbers + letters that constitute
units of the currency
o Traded digitally between users
o Can be exchanged for fiat money + other virtual currency
o Can be exchanged for goods + services (provided that suppliers accept
same)
o Summary of concept: peer to peer and computationally impractical to
reverse; cryptographically secure and uses proof of work.
o Creation = Mining : created using computational power in order to solve
complex algorithms or puzzles
 Once miner has created new bitcoin – rewarded with “block reward” =
specific number of bitcoins
o No need for registration or provision of ID to conduct transaction
o All t/a stored in bitcoin blockchain
• OECD – Organization for Economic Cooperation and Development
o Has no prescribed any universal regulations/guidelines on classification +
VAT treatment of crypto$
o of the view that transactions involving cryptocurrencies should be subject to
tax.
• Cryptocurrencies as a method of payment
o Designed as an alternative payment method
o Popularity  increased usage by merchants + other businesses
o Reason for success: low t/a cost; instantaneous payment; ultd territorial
application
o Possibility – accepted as valid payment system IF merchants continue to
accept it as a method of payment
o Definition of “Money” excludes cryptocurrency because it is not issued by
SARB
• Conclusions
o transactions involving cryptocurrencies can be treated as a taxable supply.

LO12: Discuss the South African legal position regarding the regulation of
cryptocurrencies.

• South African Reserve Bank “ Guidance Note issued in terms of section 6(5) of the
Banks Act 94 of 1990 Supervisory guidelines for matters related to the prevention of
banks or controlling companies being used for any money laundering, terrorist
financing or other unlawful activity”
o https://www.resbank.co.za/content/dam/sarb/publications/prudential-
authority/pa-deposit-takers/banks-guidance-notes/2022/G10-2022%20-
%20Supervisory%20guidelines%20for%20matters%20related%20to%20the%
20prevention%20of%20unlawful%20activities.pdf
• Fintech Working Group (FWG), Crypto Assets Regulatory Group (2021) 2-48.
o http://www.treasury.gov.za/comm_media/press/2021/IFWG_CAR%20WG_Po
sition%20paper%20on%20crypto%20assets_Final.pdf
• South African Parliament “A guide to Understanding Major Cryptocurrency Issues
and Regulatory Frameworks Select Committee on Finance 25 May 2021
o https://www.parliament.gov.za/storage/app/media/PBO/Analysis_and_Reports
/2021/june/03-06-
2021/May_2021_PBO_Select_Finance_Committee_Cryptocurrency_25_May.
pdf

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

Fintech Working Group (FWG), Crypto Assets Regulatory Group (2021) 2-48.

• CASPS = crypto asset service providers

• 3 Approaches to regulation
o Ban
 FATF + Banque de France has cautioned against this - such action
could drive activities underground, with little or no regulatory oversight.
o Regulate
 Euro area’s approach to regulating crypto assets by establishing
appropriate regulations that make it possible to reconcile the two key
policy imperatives of (a) addressing crypto asset-related risks around
money laundering, terrorist financing and consumer protection, while
(b) preserving the potential for technological innovation offered by
crypto assets
o Do nothing
• 6 Approaches to CASPS in RSA
o CASPs must be regulated, and regulated appropriately.
o An activities-based perspective must be maintained, and the principle of
‘same activity, same risk, same regulations’ must continue to apply and inform
the regulatory approach.
o Proportionate regulations that are commensurate with the risks posed must
apply (i.e. a risked-based approach to crypto asset regulation must apply).
o A truly collaborative and joint approach to crypto asset regulation must be
maintained.
o Continue to proactively monitor the dynamic development of the crypto assets
market, including maintaining knowledge on emerging international best
practices (through standard-setting bodies, etc).
o Digital literacy and digital financial literacy levels must be increased amongst
consumers and potential consumers of crypto assets.

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

 • Risks
General Risks

Risk Description
The risk of a The risk with potentially the widest-ranging implications is the
parallel, fragmented, threat to the existing financial system, in which central banks
non- sovereign ensure an efficient monetary system through the execution of
monetary system monetary policy and influence the supply of money or fiat
being created currencies. The risk posed by crypto assets to the monetary
policy transmission mechanism is that a significant increase in the
demand for crypto assets would lead to the creation of a parallel
and ultimately fragmented monetary system. The central bank’s
role in ensuring an efficient monetary system could become less
effective, as the demand for fiat currency would decrease and
crypto assets would effectively compete with fiat currencies. In
essence, the monetary system would be executed by private
entities with individual objectives. Given the current use of crypto
assets observed, crypto assets are not seen as
posing a systemic risk as yet, and this risk is not probable of
materialising in the near future.

Consumer protection, The risks related to crypto assets that are of immediate concern
market efficiency and include the lack of consumer protection, threats to market
market integrity risks efficiency and integrity, the possible misuse related to money
laundering/ terrorist financing, circumvention of exchange controls,
the increase of undetected illegitimate cross-border financial flows,
inaccurate balance of payments data, illegitimate purchases
(stemming from the anonymity or pseudonymity associated with
crypto assets) and
possible tax evasion.

The risk of an un- The absence of an appropriate regulatory framework that is fit for
defined or incomplete purpose and commensurate oversight to address the risks posed,
legal and regulatory as well as the potential inability to have a holistic view of the actual
framework that does inflow and outflow of the volume and monetary equivalent of such
not fully cater for the crypto assets within South Africa, holds regulatory risk.
potential risks posed
by crypto
assets

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN
Specific Risks

Use case Risk Description

Buying and/or Money In the case of purchasing/trading/conversion of crypto assets from CASPs, there are currently no
selling of crypto laundering and regulatory requirements for customers to be identified. If such customers were involved in money
assets by terrorism laundering/terrorist financing and/or masking illegitimate cross-border financial flows, it would be extremely
individual financing difficult to identify such customers and trace such transactions. Although some CASPs, such as CATPs,
consumers and have voluntarily implemented customer identification and verification (due diligence) processes, this is not
legal persons a standard process for all CASPs, and not yet a regulatory requirement. It is currently at the discretion of
the CASPs to implement customer due diligence and other AML/CFT measures. The only obligations on
CASPs in the FIC Act, as with all other businesses, are the reporting of suspicious and unusual
transactions in terms of section 29 of the FIC Act and the prohibition in terms of section 26B to deal with
United Nations Security Council sanctioned persons and entities.
Exchange In certain cases, crypto assets have been used to circumvent existing exchange control rules for the
control movement of value out of South Africa without adhering to regulatory reporting requirements.
circumvention Transparency in the financial system is thereby lost, and the tracking of the flow of funds by regulatory
risk authorities becomes very difficult. On the aspect of CASPs’ or crypto asset sellers’ side, they may wish to
buy crypto assets from international providers for the purpose of creating more liquidity in the South African
market. For a company, the AD Manual does not allow cross-border or foreign currency transfers for the
explicit purpose of purchasing crypto assets, since crypto assets are not officially recognised as legal
tender in South Africa, nor have they officially been allocated to a specific asset class. These CASPs are
left to find alternative measures to buy or obtain crypto assets. The underlying risk is that companies are
forced to come up with inventive means to acquire crypto assets, which measures may not necessarily
hold up to regulatory compliance. The South African authorities are thus exposed to incomplete information
on the flow of funds or the movement of capital.
Market Consumers are left vulnerable as CASPs are not regulated. Therefore, no specified rules exist to protect
conduct risk customers or provide customer resolution mechanisms in the case of disputes. Customers are seldom
sufficiently informed of the risks of crypto assets and the losses that can be incurred as a result of investing
and trading in crypto assets. There is no regulation or independent oversight to ensure that prices as well
as the fees and charges involved in buying and selling crypto assets, are set fairly and transparently. Users
with large holdings of crypto assets may potentially have exploited the market with market manipulation
tactics whereby publicity and hype is created around specific crypto assets. This artificially increases
prices, and the crypto assets are subsequently sold in masses after significant profits have been made by
these users. Illegal Ponzi schemes have also emerged under the guise of investment opportunities in

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

Use case Risk Description
crypto assets. These intentionally fraudulent operators need to be identified and such activity criminalised
to dis-incentivise further development.
Advice and/or Crypto asset marketing material is often strongly biased towards highlighting only the potential upside of
mis-selling risk crypto assets, with little or no consideration of the massive potential downside associated with investing in
crypto assets. Also, numerous intermediaries provide crypto asset-related advice without being subject to
any requirements aimed at mitigating advice and/or mis-selling risk. Lacking an appropriate risk analysis,
suitability assessment and needs analysis, there is an increased likelihood that advice provided to a client
to invest in crypto assets might lead to such client investing in a product that is unsuitable and/or
inappropriate for the specific circumstances of the client.
Operational Crypto asset trading platforms are exposed to operational risk, as various incidents of platforms being
risk, including attacked through cybercrime incidents and consumers losing their funds have been reported.34 Fraud can
cybersecurity also be committed through accounting practices on internal financial systems, as various transactions
risk occur off the blockchain according to some of the CATPs’ processes. CASPs such as CATPs may not
have adequate mechanisms in place to guard against such fraud and hacking incidents.
Payments using The risk of The non-objection to crypto assets by regulators as a means of payment for the purchase of goods and
crypto assets parallel, services (with or without a defined regulatory regime) implies the acceptance of multiple new decentralised
unregulated stores of value, different from fiat currencies. Although the shifts to such crypto assets are still negligible,
and larger shifts away from traditional deposits at banks to these decentralised stores of value may reduce a
fragmented stable source of deposits for banks, which banks generally use to augment their balance sheets in the
payment intermediation process. This intermediation process aids the financial system in achieving and maintaining
systems financial stability. The creation of competing stores of value may thus have negative network effects. If
these shifts occur, to CATPs that are not locally based, these impacts may be even greater. These crypto
asset wallets and related stores of tokenised value would thus be different from commercial or central bank
money, yet they would perform the same function as deposits reserved for payment purposes. Participants
wanting to offer payment services could simply shift funds to crypto assets and then offer payment
services, without the need to comply with any regulatory requirements applied to fiat stores of value for
payment purposes. Consequently, the rules and requirements of the current payment systems are
unjustifiably circumvented due to the alternative payment system being used.
The risk of a Alternate crypto asset payment systems imply the creation of parallel, closed-loop payment systems.
reduction in These payment systems will conceptually result in closed ‘three-party payment systems’. Merchants will
the efficiency have to be contracted for multiple crypto asset wallets, potentially under various schemes. Consumers will
of the national have to sign up for each of these schemes. These competing schemes will in all likelihood not be

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

Use case Risk Description
payment interoperable. This could potentially prove inefficient for the system as a whole, and may result in the
system inefficient allocation of resources at the system or national level. Allowing these new competing crypto
asset payment systems to operate may result in transactions moving away from current national payment
system. If these shifts happen on a large scale, this may reduce the efficiency of the existing national
payment system. This use case is different from the other use cases of crypto assets, as the negative
consequences associated with this use case are higher, with minimum conceivable benefits, for the
national payment system as a whole. Multiple closed-loop payment systems are created with no definitive
clearing and settlement rules, leading to a fragmented and inefficient national payment system.
The risk of Crypto assets are currently not widely accepted as a means of payment by merchants or retailers. They
perceived have equally battled to become accepted as a means of exchange among users. By allowing crypto assets
regulatory into the regulatory ambit, their perceived value will increase. Crypto asset proponents potentially require
acceptance this regulatory intervention in order for crypto assets to move beyond being instruments of speculative
investments to their initial intended purpose: a medium of exchange. Regulators thus need to reflect
carefully on the appropriateness of any regulatory intervention and review the unintended consequences.
Accommodative regulatory intervention would create the potential market perception of regulatory
acceptance and/or the endorsement of such instruments.
Operational No consumer protection exists for payments in crypto assets, and it is unclear whether payments can be
risk and a lack reversed in cases of errors, overpayment or even fraud.
of consumer
protection for
crypto asset
payments
Capital raising AML/CFT Participation in and provision of financial services related to an issuer’s offer or sale of a crypto asset
through ICOs should be regulated for AML/CFT. From a FATF point of view, the expectation is not that the issuer of
tokens in an ICO should be an obliged entity, but anybody who provides financial services relating to the
issuance, offer or sale of a crypto asset in respect of an ICO should be.
Highly There are clear risks associated with ICOs as they are highly speculative investments in which investors’
speculative full invested capital is at risk. Investors must be prepared to face volatility and potential loss. An ICO white
and limited exit paper may state an impressive return target, but this is only a goal set and not a certainty. Investors can
opportunities possibly mitigate some of the financial risks by consulting in-depth ICO research reports and only investing
in start-ups with an experienced team and a cogent business model. Investors may also be unable to trade
their coins or tokens, or to exchange them for fiat currencies. Not all the coins and tokens are traded on
crypto asset trading platforms, and investors may be exposed to the lack of exit options or may be unable
to redeem their coin or token for a prolonged period of time. In addition, the lack of fundamental valuation

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

Use case Risk Description
analysis and a suitable due diligence process by regulators and potential investors may lead to extreme
volatility of the ICO market.
The high risk The vast majority of ICOs are launched by businesses that are at a very early stage of development. These
of failure and types of businesses have an inherently high risk of failure. Many of the coins and tokens that are being
the issued have no intrinsic value other than the possibility of using them to obtain or use a product or service
concomitant that is yet to be developed by the issuer. There is no guarantee that the products or services will be
risk to successfully developed. Even assuming that the project is successful, any eventual benefit may be
investors extremely low relative to the invested capital. Investors must therefore recognise that although ICOs
provide start-ups with the opportunity to raise the capital they need to launch their projects, the majority of
start-ups have a high probability of failure.
The risk of As ICOs can have different functions and perform different economic activities, it is difficult to determine
unclear legal the specific legal classification. ICOs are not standardised, and their legal and regulatory status is likely to
frameworks depend on the circumstances of the specific ICO issued. Depending on how they are structured, ICOs may
and ICOs not be captured by the existing rules, and may fall outside of the regulated space. Some ICOs may be
being prone to used for fraudulent or illegitimate activities, with several ICOs having been identified as fraudulent and
fraudulent some as being used for money-laundering purposes. In a case where an ICO does not fall under existing
activity regulations, investors cannot benefit from the protection that legal and regulatory frameworks provide. In
addition, different countries have varying levels of regulatory strictness for ICOs, leaving vulnerabilities in
the market. As a result, issuers who wilfully intend to conduct illegal activities move to jurisdictions where
the regulators take a ‘light touch’ approach towards ICOs.
The lack of a When it comes to the nascent nature of ICOs and their legal classification, most tax authorities do not have
fiscal specific regulations in place as yet. While many ICOs were initially positioned as a ‘foundation’ or a ‘non-
framework profit’, fewer have been exploring such models recently, opting instead for a ‘for profit’ model.
Cybersecurity Many ICOs still lack proper cybersecurity controls, which poses a major threat for investors. As most ICOs
risks raise capital in the form of crypto assets (e.g. Bitcoin or Ether), high-volume transactions become an
attractive target for criminals. Cybersecurity hackers benefit from the hype, the irreversibility of blockchain-
based transactions and basic coding errors that could have been avoided had the ICO been carefully
reviewed by experienced developers and cybersecurity analysts. Thus, without clear regulatory guidelines
being enforced or best practice, cybercriminals attempt to find opportunities to steal funds from investors.
Risks related The information that is made available to investors in the white papers issued (if any) is, in most cases,
to incomplete unaudited, incomplete, unbalanced and even misleading. It typically places the emphasis on the potential
and/or benefits but not the risks. It is technical and not easily comprehensible. Investors may therefore not fully
inaccurate understand the risks that they are taking, and may make investments that are not appropriate for their
disclosure needs.

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

Use case Risk Description
Crypto asset No defined South African legislation makes provision for the regulation of most investment vehicles, including pooled
funds and legal investment vehicles and most types of exchange-traded funds. Given that crypto assets have not been
derivatives framework for classified as a specific asset class yet, the existing regulatory provisions do not, in some instances, allow
using crypto investment vehicles that use crypto assets as the underlying asset. However, in certain instances it might
assets not be entirely clear whether or not crypto assets can be used as an underlying asset in a fund (e.g. in the
case of qualified hedge funds), and the regulatory framework in this regard should be clarified to avoid any
unintended consequences.
The risk of The use of crypto asset funds for investment purposes is closely linked to their ability to be considered as a
volatility of tool for capital appreciation over the long term. The volatility of the crypto asset market has made it difficult
crypto assets to consider crypto assets as a safe store of value; they are rather seen as a speculative investment.
Unsystematic Crypto asset investment funds are difficult to manage as an investment return, seeing as the crypto asset
risk market has presented unsystematic risk with little correlation to the general market risk.
Uncorrelated The price movements of crypto assets are perceived as highly uncorrelated to the general market, and
price crypto assets are thus perceived as exhibiting more unsystematic risk traits than systematic (market-
movements correlated) risk traits. The advent of derivative products for crypto assets has prompted more market-
related movements, although the correlation between price movements in equity markets and crypto
assets has not been significant thus far.
Liquidity risk Due to its low levels of acceptability and trading, the crypto asset market is exposed to liquidity risk. Crypto
assets are not easily convertible to other liquid assets, and ownership tends to be concentrated.
Increased risk Crypto asset derivatives such as futures represent a volatile trading environment that becomes even more
due to volatility risky with leverage and margins that have characteristics of the traditional futures market. Derivative
trading is more complex than other forms of investment in the sector, as it does not follow market trends.
Derivative products have an opaque pricing mechanism and trade at large premiums over the value of the
underlying asset, exerting negative pressure on the market.
Difficulty in It is difficult to adequately model the risk exposure based on historical data and liquidity assumptions,
setting risk making it difficult to set risk levels and effective management measures.
levels
Crypto assets Cybersecurity CASPs should ensure that they meet the international cybersecurity standards for the safeguarding of
market support risk crypto assets. Crypto assets may be exposed to cybersecurity incidents that allow hackers to unlawfully
access crypto assets held in safe custody. In the case of digital wallets, the security of information and
access to wallets is of high concern and important to keep safe. Scams have arisen that divert crypto
assets from users’ mining rigs to malicious wallets, as victims’ login credentials are compromised.
Environmental In crypto asset mining, environmental risk has emerged as one of the biggest concerns, as high electricity
risk usage is required to conduct mining, which may have negative consequences on natural resources.

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

South African Parliament “A guide to Understanding Major Cryptocurrency Issues and
Regulatory Frameworks Select Committee on Finance 25 May 2021

• Introduction
o Cryptocurrency is a form of digital money, not a mainstream currency. Those who
advocate for its use, often reflect on a list benefits related to cryptos. Equally, there
are significant risks cited by sceptics
o Cryptos are a type of digital asset. As a digital currency, it uses a highly
sophisticated type of encryption called cryptography to secure and verify
transactions as well as to control the creation of new units of currency
o Cryptocurrency terminology includes, Digital currency, Virtual commodity, Crypto
token Payment token, Cyber currency, Electronic currency
o Cryptocurrencies have enjoyed an exponential rise in popularity over the past
decade
o With increased interests from retail investors, regulators around the world have
grappled with the challenges associated with the regulation of cryptocurrencies
o Cryptocurrency is enabled by Blockchain technologies
o Blockchain is a special kind of database, which refers to the whole network of
distributed ledger technologies
o A ledger is “a book or other collection of financial accounts of a particular type.” It
can be a computer file that records transactions. A ledger is actually the foundation
of accounting and is as old as writing and money
o Blockchain aims to eliminate data tampering because of the way it tracks and stores
data
o Blockchain creates trust in the data presented, therefore centralized third parties are
not necessary
o Other common uses of blockchain include: payments, voting, supply chain
monitoring, identity verification, healthcare, entertainment, energy, internet of things
• Cryptocurrency history trends
o 2008 - 2009
 Satoshi Nakamoto published a paper that sets the ball rolling on
cryptocurrency (Bitcoin):Bitcoin- A peer-to-peer Electronic Cash System
 Launch of Crypto Currency, Bitcoin in particular
 First bitcoin transaction is initiated when Nakamotos send Hal Finney, a
computer programmer, 10 BTC
o 2011 - 2013
 Then Alticoins came in the market
 First Initial Coin Offering (ICO)Mastercoin (Omni)
 Bitcoin value reached $1000
o 2014 - 2016
 First Ether Issued
 Ethereum ERC 20
 First stablecoin USDT Token
o 2017
 ICO grew significantly
 Market Capitalisation Peak
o 2018 - 2019
 Significant rise in number and value of ICOs
 ICO grew significantly
o 2020 - now
 Crash in the market capitalisation
 Kick off Security Token Offerings (STOs) and Initial Exchange Offerings
(IEOs) Issuance
 Upsurge in Stable Coincs
 Ellon Musk and other Big Names, pushing the value of the assets

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

• Cryptocurrency and Value Creation
o Cryptocurrencies lack intrinsic value (value based on simplified assumptions), compared to
fiat money(government backed money)
o This places cryptocurrencies as a high risk or susceptible to high volatility or value is easily
eroded and gained within a short period of time
o Cryptocurrencies gain their value based on the scale of community involvement (demand
and supply), but
o Some factors of cryptocurrency value stem from the image and efficiency of the private
blockchain-related corporations
o Cryptocurrency is primarily a manifestation of using a blockchain technology, to maintain
value that it has to be usable within a certain blockchain ecosystem
o Scarcity stands for the finite nature of the digital coins. In a perfect scenario, the demand
should exceed the supply of the coins, to make it more valuable
o Market capitalisation is an indicator of the cryptocurrency‘s value on the market
o Increasing number of technology giants and influencing people showing an interest in
blockchain and digital ledgers (e.g. Elon Musk)
o There is also stablecoins cryptos, whose value is pegged to fiat money or traded
commodities, e.g. Tether, True USD
• Benefits of using or having cryptocurrencies
o Use of technology and innovative (Financial technology -fintec) to enhance efficiency in
market
o Reduce manipulation of the financial system-
o Eliminating extreme money printing
o Gives people control of their own money over regulators
o Cutting out the middleman, but there is always middleman?
o Serving the unbanked or widening access to financial services
o Technology (blockchain) behind crypto currency distinguish from others
o It is better than traditional investment in providing returns
o Capital Appreciation, and Income potential: dividends
• Myths
o Cryptocurrencies are only good for criminals
o You can make anonymous transactions using all cryptocurrencies
o The only application of Blockchain is Bitcoin
o All Blockchain activities are private
• Risks facing cryptocurrency market players
o Regulatory Risk: The lack of a common understanding and global or juristic specific
regulatory framework means that governments are unable to monitor or protect users of the
cryptocurrencies. This is despite the fact that, the initial attractions towards
cryptocurrencies were their lack of regulation
o Cryptocurrency hype risk: The main reason why cryptocurrencies have a lot of excitement
is that most investors lack insight on virtual currencies before investing, and just end up
listening to the noise to invest. The cryptocurrency hype in 2017 was one the many drivers
of the fast- and-furious market surge, and later leading to panic
o Security Risk: Scamming of potential investors, hacking or theft of data or information, are
common themes and risks in the cryptocurrency market since inception in 2009. And with
each scandal, the cryptocurrencies’ values are compromised as well
o Volatility Risk: High volatility in the value of the cryptocurrencies is essentially the risk in its
unexpected market movements. High uncertainties brought about by cryptos require
constant monitoring and regulation
o Liquidity Risk: Cryptocurrencies have a risk of not being able to sell (or liquidate) an
investment quickly at a reasonable price. Liquidity is important for any virtual asset. The
forex market is considered the most liquid market in the world. But even in the forex
market, the lack of liquidity of cryptocurrency may be a problem
o Disappearing or cease risk: The history of cryptocurrency has shown that many different
cryptocurrencies are currently in the market. Many are introduced regularly, however many

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

 of these altcoins have or may disappear from the market for various reasons, while others
continue to flourish
o Taxing of profits or gain Risk: There is an underreporting in relation to cryptocurrency
investment and related activities. This is also due to a lack of prescribed regulatory
environments. Therefore, as government and authorities are mulling the regulations this is
likely to lead to more tax liabilities for users
• What does a simple transaction look like?
o A user provides cryptocurrency details to the cashier
o The cashier asks everyone in the network to see whether they have enough coins to
buy the book
o All the cryptocurrency records holders using technology check their records to verify
the buyer’s coins
o If you do have enough, each node gives the thumbs- up to the cashier
o The nodes all update their records to show the transfer
o At random, a node gets a reward for the work

CENTRALISED V DECENTRALISED

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN

Definition of Asset – Legal perspective

• Emerging legal perspective considers crypto assets to be property based on the following indicative
attributes of property
• Can be defined or identified
• Exclusivity and control where the holder of a private key has exclusive control of the crypto asset
• Assignability crypto assets are capable of assumption by third parties and
• Certainty of crypto assets -similar to financial assets, which may exist only until they are
cancelled, redeemed, repaid or exercised
• Considerations
o Represent medium of exchange
o Cryptocurrencies may be classified as cash/currencies as they represent a medium of
exchange
o Cryptocurrencies are not supported by a central bank (not centrally controlled and
regulated) or recognised as legal tender in most jurisdictions
o Value of cryptocurrencies are highly volatility and risk as the leading factors behind their
decision
o Therefore, Cryptocurrencies do not meet the definition of a cash equivalent since they do
not have a short-term life and often have significant short-term value changes
o Cryptocurrencies do not meet the definition of a financial instrument either because they
do not represent cash, an equity interest in an entity, or a contract establishing a right or
obligation to deliver or receive cash or another financial instrument
o A cryptocurrency is not a debt security, nor an equity security (although a digital asset could
be in the form of an equity security) because it does not represent an ownership interest in
an entity
o Certain contracts to buy or sell cryptocurrencies in the future (e.g., forward contracts or
options) or other contracts that settle in cash based on movements in a particular
cryptocurrency, may meet the definition of a derivative and be subject to financial-
instruments accounting
• Is it Legal Tender ?
o It is legally possible to buy immovable property using cryptocurrency as a means of
payment
o You can agree to pay using means other than physical money, as long as the Rand value
attached to the property for transfer duty or VAT purposes, as well as for Capital Gains Tax
(CGT)
o The risk would be –getting paid! When using cryptocurrency you remove the usual means
of securing the transaction, in that the money is held in trust by the transferring attorney
pending transfer of the property
o As cryptocurrency is not held in a bank or financial institution, a guarantee against such
funds cannot be issued, and the cryptocurrency cannot be transferred to the attorney’s
trust account
o Furthermore, if the buyer is a foreigner, that person will find it difficult on sale to prove that
the funds used to buy the property was from a foreign source (as the funds were not
transferred to a South African bank account).

LU5 – THEME 3 – COMPILATION OF SOURCES – ILHAAM KHAN