India moves to isolate banking sector from cryptocurrencies

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India moves to isolate banking sector

Tough stance from the RBI

The RBI’s current position resembles the approach the central bank already used in 2018. At that time, the regulator prohibited supervised financial institutions from dealing with cryptocurrencies or providing services to individuals and legal entities connected with such assets.

In practice, this cut Indian crypto exchanges off from the banking system, although private ownership and trading of cryptocurrencies were not directly banned.

In March 2020, India’s Supreme Court overturned that circular after a legal challenge from crypto exchanges and the Internet Mobile Association of India. The court recognized the RBI’s right to take preventive measures but said the regulator’s decision failed the test of proportionality. In particular, the central bank had not proved that the institutions under its supervision had suffered harm because of cryptocurrencies.

In May 2021, the RBI clarified that banks could no longer cite the invalidated circular when warning customers about cryptocurrency transactions. At the same time, the regulator emphasized that financial institutions must still comply with KYC requirements, anti-money laundering rules and foreign-exchange regulations.

Why Indian authorities oppose cryptocurrencies

Indian authorities are wary of cryptocurrencies not only because of speculation and the risk of losses for investors. For the regulator, this is also a question of control over the monetary system. If businesses and the public start using bitcoin, stablecoins or other digital assets more actively for payments and savings, part of the money flows could move beyond the oversight of banks and the central bank. Against the backdrop of a weak rupee, this risk becomes especially sensitive: citizens and companies may see dollar stablecoins as a way to protect themselves from devaluation and hold liquidity outside the national currency.

That is why the RBI is trying to separate cryptocurrencies from the banking sector. For India, where foreign-exchange controls are in place and financial stability is important, a mass shift into crypto assets could put pressure on the rupee, make capital flow controls more difficult and increase dependence on private dollar tokens. At the same time, demand for cryptocurrencies shows the other side of the problem: users are looking for faster transfers, access to global liquidity and protection from the weakness of the national currency.

As a reminder, the Reserve Bank of India amended its framework for assessing foreign-exchange risks.

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