Following David Woo's initial $1300 fair-value price target for Bitcoin [8], the BofAML strategist has had to suffer through some significant changes; not the least of which is China's increasingly strict Bitcoin regulation. The shifts, he notes, raise key questions about the future of Bitcoin as he asks "is this the end of Bitcoin?"
Via BofAML's David Woo,
Although this has yet to be officially confirmed, there are reports that the People’s Bank of China (PBOC) has banned third-party Bitcoin payment companies from making renminbi deposits to Bitcoin exchanges. The news follows a move by PBOC two weeks ago preventing Chinese traditional financial institutions from handling Bitcoin transactions noting the risks Bitcoin posed because of its volatility, ease of use for money laundering, and risks that it can be used by criminal organizations.
What does this mean?
Two largest Bitcoin exchanges in China, BTC China and OkCoin have stated they cannot accept new yuan deposits, though current balances may still be exchanged for BTC or withdrawn. Bitcoin prices have fallen significantly on the back of the news and the CNY’s share of overall transactions has fallen from the high of 78% on 12/15 to 33% on 12/18 (see chart below).
[9]
The last time CNY's share of transactions was below 40% on two consecutive days (Nov 6-7), Bitcoin was trading at $313 in USD terms, below current prices of $670. The government appears to be looking to hamper Bitcoin speculation with this move effectively preventing new inflows to the Bitcoin ecosystem in China. New yuan-based investors will have no ability to purchase Bitcoins on the mainland.
The easiest way to understand this latest development is that China is adopting the same tougher regulatory stance as the US. This tough stance is the reason there are very few Bitcoin exchanges in the US. China’s relatively lax regulation, until recently, in this regard explains the strong growth of Bitcoin exchanges there. Unlike the US, Chinese exchanges are not required to gain regulatory approval as money services businesses (MSBs) prior to opening. In the US, with a few exceptions, all states require Bitcoin exchanges to obtain MSB approval. If the China story turns out to be correct, the success or failure of Bitcoin exchanges in their quest to acquire licenses as money transmitters in the US over the next 2-3 months becomes even more crucial.
Given China is now taking a tougher regulatory stance with regard to Bitcoin, the regulatory arbitrage between CNY and USD exchanges will likely be minimized. Indeed, the premium of BTCCNY premium has turned negative recently in response to these tougher regulations (see chart below). In the past, China was seen as an easier place to set up operations because of the lower regulatory thresholds.
[10]
Switzerland is another important country to watch in this regard. The Swiss federal government is currently writing a report assessing Bitcoin opportunities for the Swiss financial sector. Additionally, they are assessing if Bitcoin can be considered a legal foreign currency and regulated under their existing laws which would potentially provide a legal way forward for institutional Bitcoin investors.
Is this the end of Bitcoin?
These reports raise key questions about the future of Bitcoin. The outcome of Bitcoin exchanges currently applying for money services businesses licenses in the U.S over the next 2-3 months becomes even more important should the China news turn out to be correct.
There are three sources of uncertainty over the licensing process.
First, it is not clear whether the states will coordinate to set common requirements for granting licenses (this will take more time) or that they will act independently of each other.
Second, how onerous will the requirements on anti-money laundering provisions be? It is easy to see how this is a non-trivial challenge for the would-be exchanges. While it is likely that people setting up Bitcoin accounts will have to disclose their identity and transactions as a first step, it is unclear whether regulation would also require disclosure of transactions within their Bitcoin-denominated account.
In addition to uncertainty with regard to licensing, Bitcoin's tax treatment is also an important issue. The General Accounting Office has asked the IRS to draft regulation to clarify the taxation of Bitcoin transactions and capital gains.
Together these factors will likely mean that Bitcoin users make a small sacrifice by ceding some of the anonymity Bitcoin provides. However, we view such sacrifices as a necessary part of legitimizing Bitcoin within the regulatory framework and potentially paving the way for more wide-scale use.