INTERNET AND MOBILE ASSOCIATION OF INDIA VS RESERVE BANK OF INDIA

Court: The Supreme Court of India

Citation: W.P. (Civil) No. 528/2018

Coram: Justices Rohinton Fali Nariman, Aniruddha Bose, V. Ramasubramanian

Subject Matter: Trade in Cryptocurrency in India (Financial Law and Banking law)

Introduction:

Cryptocurrency or virtual currency (such as Bitcoin and Ethereum) is a digital form of currency that operates independently of traditional banking systems. Cryptocurrencies utilize a decentralized technology known as blockchain to facilitate secure transactions and maintain a transparent ledger. The unique characteristics of cryptocurrency i.e. their borderless nature, pseudonym transactions volatile value, and decentralized nature make it difficult for any single entity like a government or central bank to exert control or oversight, leading to concerns about illicit activities, financial instability, and consumer protection. 

Internet and Mobile Association of India vs. RBI focuses on the intricate legal battle surrounding the regulation of cryptocurrencies. The case revolves around the clash between the regulatory authority’s concerns about cryptocurrency’s potential risks and the industry’s desire for a conducive regulatory environment to foster innovation and growth.

Facts:

Reserve Bank of India (hereinafter, RBI) had regularly, through different circulars, cautioned users, traders, and holders about various risks associated with dealing in cryptocurrencies. Ultimately, via a “Statement on Developmental and Regulatory Policies” dated April 5, 2018, RBI directed the entities regulated by RBI “not to deal with or provide services to any individual or business entities dealing with or settling VCs” also, “regulated entities dealing with or settling currencies shall exile it the relationship within a specified time”

A detailed circular was issued the next day on April 6, 2018, in this regard expressly prohibiting the RBI-regulated entities from dealing in Virtual currencies or providing services for facilitating any person or entity in dealing with or settling VCs. RBI’s dilemma hinged on the difficulty of bringing cryptocurrencies into the regulatory framework as well as whether to treat them as mere commodities or assets or give them the status of legal tender when they most obviously lack the backing of any legal authority. Crypto technology allows for anonymous transfer of funds internationally. While the initial transaction may be visible through the banking system, all the following transactions are extremely arduous to detect. The FATF also reported that virtual currencies present money laundering and terrorist financing risks which has put forth challenges for RBI in terms of financial regulations and investor protection.

These directions and circulars restricting the banks and financial institutions were challenged through two writ petitions. The Internet and Mobile Association of India which is a specialized industry body filed the first writ petition with the Supreme Court seeking a direction to the respondents not to restrict or restrain banks and financial institutions regulated by RBI from providing access to banking services to those engaged in transactions in crypto assets. The second writ petition was made by a few companies that run online crypto assets trading platforms, the shareholders/ founders of these companies, and a few individual crypto assets traders. The petitioners contended that RBI has no power to prohibit trading in virtual currencies since VCs are not a legal tender and therefore, not a currency. They are tradable commodities or digital goods which do not fall within the regulatory framework of the RBI Act, of 1934 or the Banking Regulation Act, of 1949. Virtual currencies do not even fall within the credit system of the country and therefore, do not come within the ambit of RBI’s operational powers pertaining to currency and credit system. The petitioners also asserted that the power of RBI to issue directions “in the public interest” does not extend to the issue of blanket restrictions on virtual currency exchanges. 

The Supreme Court repudiated the abovementioned circular because it is not commensurate with the regulatory framework of RBI. However, the SC acknowledged the RBI’s power to regulate cryptocurrencies. It also held that the restrictions were not reasonable under Art. 19(2) of the Constitution.

The Supreme Court has applied the test of proportionality to this case and found that the regulatory directions of RBI are imbalanced and biased and not attuned to the advancements in the fintech realm.

Issues raised:

 The major issues that could be concluded from the facts and statements of the petitioners are as follows:

  1. Whether the virtual currency is equivalent to a real-time currency? 
  2. Whether is RBI empowered to regulate the matters bearing upon virtual currencies?
  3. Does the regulatory framework of RBI encompass virtual currency?
  4. Whether the restrictions laid down by RBI are constitutionally valid?

Contentions:

Contentions of the petitioner:

The contentions raised by the petitioners (Cryptocurrency exchanges Koinex, CoinDCX, Throughbit, and CoinDelta) in challenging the RBI’s circular highlight several significant legal and regulatory issues surrounding the treatment of virtual currencies. Here’s an overview of their major contentions:

1. The petitioners argued that the RBI overstepped its authority granted by various acts such as the Banking Regulation Act, 1949, Reserve Bank of India Act, 1934, Payment and Settlement Systems Act, 2007, and as virtual currencies (VCs) were not subject to these regulations. 

2. The petitioners argued that an outright prohibition on banks and financial institutions from dealing with them is disproportionate. They advocated for a regulatory approach that allows for the continued operation of virtual currency exchanges under appropriate oversight.

3. The petitioners asserted that virtual currencies do not possess the same characteristics as traditional money or legal tender and function more as goods or tradable commodities rather than as mediums of exchange or units of account. Therefore, the RBI should not have regulatory jurisdiction over them.

4. The petitioners alleged that this constitutes a “colourable exercise of power” by the RBI which means that RBI indirectly applied its power where it could not do so directly. The petitioners also highlighted inconsistencies in the RBI’s approach and pointed out that the RBI’s prohibition on VCs was not aligned with the actions of other regulatory bodies.

6. The petitioners pointed to regulatory approaches in other jurisdictions, particularly non-authoritarian ones, where virtual currencies are regulated rather than outright banned. They argue that the RBI’s approach is overly restrictive compared to international norms.

7. The petitioners contended that virtual currency exchanges have already implemented measures such as anti-money laundering practices and Know Your Customer (KYC) procedures. Therefore, there was no justification for the RBI to prohibit banks and financial entities from dealing with them.

8. The petitioners argued that the RBI’s circular infringed upon their fundamental right to carry on occupation, business, or trade guaranteed under Article 19(1)(g) of the Constitution.

9. Finally, the petitioners question the legal standing of the RBI’s circular, suggesting that it does not carry the same weight as executive or legislative actions and should not be equated with judicial acceptance.

Contentions of the respondent:

1. The RBI’s authority to issue the circular stemmed from the Banking Regulation Act, of 1948, the Payment and Settlement Systems Act, of 2007, and the Reserve Bank of India Act, of 1934, thus falling within its statutory mandate.

2. The decision to issue the circular was a measured response to the potential risks associated with virtual currencies, reflecting a proportional regulatory approach.

3. Virtual currencies were being utilized akin to legal tender for transactions, including purchases on platforms like Amazon, indicating a convergence with traditional currency functions.

4. There existed the risk of unmonitored remittance of funds abroad, posing potential challenges to regulatory oversight and financial stability.

5. The RBI had an inherent responsibility to safeguard the integrity of the national payment system, necessitating proactive measures to address emerging threats posed by virtual currencies.

6. The fiscal and economic policies articulated by the RBI held the weight of legal mandate, warranting deference from the judiciary and non-interference with regulatory prerogatives.

7. Extensive research and analysis informed the RBI’s decision-making process, with the circular grounded in comprehensive literature on virtual currencies, supporting the necessity and rationale behind its issuance.

Rationale:

The case of Internet and Mobile Association of India (IAMAI) vs. Reserve Bank of India (RBI) holds extraordinary relevance in the world of law, particularly in the intersection of financial regulations, emerging developments in the fintech world, RBI’s role in regulating the virtual currencies, and constitutional rights. 

The case addresses the pressing issue of how to regulate cryptocurrencies within existing legal frameworks. The petitioners in the case contended that RBI transcended its power to lay down directions regarding currencies and credit systems as the virtual currencies do not fall within the purview of the relevant acts and regulations like the Banking Regulation Act, 1949, the Reserve Bank of India Act, 1934, the Payment and Settlement Systems Act, 2007, etc. that empower RBI to issue such directions. Therefore, this case highlights the need for separate, clear, and comprehensive regulations especially governing virtual currencies. 

The Supreme Court’s scrutiny of RBI’s circular raises questions about the scope of regulatory powers vis-à-vis fundamental rights guaranteed under the Constitution. The petitioner asserted that the fundamental right of the petitioners under Article 19 (1) was infringed by the circular issued by RBI. Respondent i.e. RBI insisted that these regulations fall within the “reasonable restrictions” under Article 19 (6). The Court found that the restrictions imposed by RBI were not reasonable. This emphasizes the significance of balancing regulatory objectives with individual freedoms. 

The application of the test of proportionality by the Supreme Court demonstrates a growing trend toward assessment of the rationality of regulatory measures in light of their impact on stakeholders. This case sets a precedent for evaluating the proportionality of regulatory actions, particularly in the context of emerging technology like cryptocurrencies. 

The Court’s acknowledgment of the need for supervisory and regulatory frameworks to evolve in tandem with advancements in the fintech world underscores the importance of ensuring consumer protection, financial stability, and mitigation of risks while simultaneously fostering innovation and boosting technological evolution. 

The implications of this case beyond Indian borders have to be understood given the interconnectedness of financial markets and the decentralised nature of VCs. This case provides insights into how global regulatory bodies are grappling with the regulatory challenges posed by digital currencies and approaches of different countries in this milieu. 

Defects in law:

 After examining the case and the judgment, certain points come to one’s notice that there is a lack of a robust regulatory framework for cryptocurrencies. 

  1. The Supreme Court recognized that a cryptocurrency is equivalent to a real currency as it exhibits all the characteristics of a real currency and amounts to a digital depiction of value. So, according to the Supreme Court RBI does hold the power to regulate cryptocurrencies as it has the potential to affect the financial system of the country.
  2.  The SC also held that RBI did not impose an outright proscription on the virtual currencies but just directed the banks and financial institutions to refrain from dealing and trading in VCs.
  3. The Court also held that RBI has repeatedly cautioned the traders and the users about the risks associated with VCs. So, it cannot be said that RBI was abrupt with the imposition of these restrictions. 
  4. It was also confuted by the court that RBI is making a “colourable exercise of its powers” as it is only acting as it is expected i.e. in the overall interest of the country and its citizens. 
  5. It was also held by the Supreme Court that RBI cannot be expected to act in alignment with other regulators. 

Having said that, the Court held that RBI has failed to act proportionately in terms of the regulatory impositions and protection of individual fundamental rights. It held that these restrictions have contravened the fundamental right given under Article 19(1)(g) of the Constitution.

In the author’s opinion, the court has erred in defining proportionality in its true sense as it has already acknowledged that the ban on the VCs was not blanket but only in restriction of the trading by the RBI-regulated bodies. The fundamental right does not come into question as the restriction is justified given the risks associated with VCs and the lack of knowledge regarding them. It has not been taken into consideration that banks and FIs hold a fiduciary position for the common citizens of the country who invest their money relying on the bank’s discretion. It is not too far-fetched to hold the banks and financial institutions responsible for their investment ventures as they are essentially investing the people’s wealth. Therefore, the restrictions are reasonable taking people’s welfare into contemplation. Currently, given the nature of the VCs, there is a discourse regarding the regulatory measures to be taken for its proper functioning. So, even if there are less invasive methods available for the regulation of crypto, the said measures are not completely effective. 

Inference:

This particular case has a valuable contribution in deciding the balancing nature of the regulations taken for the emerging challenges in the fintech world. However, it cannot be ignored that the crypto has a lot of risks associated with them. Therefore, RBI is bound to direct the financial bodies regulated by it to refrain from trading in virtual currencies when they are entrusted with people’s funds. 

References:

 Internet and Mobile Association of India v. Reserve Bank India, SC 2020, writ petition no. 373 of 2018

2 Para 13, Statement on Development and Regulatory Policies, April 05, 2018.

3 Prohibition on Dealing in Virtual Currencies (VCs), April 06, 2018.

4 The Banking Regulation Act, 1949, Sec 35A and Sec 36(1). 

5 The Reserve Bank India Act, 1934, Sec 45JA and 45L.

6 The Payment of Settlement Systems Act, 2007, Sec 10(2) and Sec 18.

7 Indian Constitution, Art 19 (1)(g)

8 Indian Constitution, Art. 19(6)