Central Bank warns public against virtual currencies

What is a virtual currency?
A virtual currency is a digital representation of value that can be digitally traded and function as a medium of exchange, a unit of account or a store of value, but does not have legal tender status in any jurisdiction.

Do virtual currencies have legal status?
Virtual currencies do not have legal tender status. This also differentiates virtual currencies from fiat currency – which is a real currency (notes and coins) and with legal tender status – which circulates and is accepted as a medium of exchange in the issuing country. For instance, the Uganda Shilling (a fiat currency) is Uganda’s legal tender, solely issued by Bank of Uganda. E-money is not a virtual currency. E-money, such as mobile money operated by mobile telephone networks and value held on credit cards is a digital representation of fiat currency used to electronically transfer value denominated in fiat currency.

What is the different between Virtual Currency and digital currency?
The terms virtual currency and digital currency should not be confused, as the latter can be used to refer to either a virtual currency (non-fiat) or e-money (fiat currency), or both. Virtual currencies can be either convertible or non-convertible.
A convertible or open virtual currency, such as the Bitcoin, has an equivalent value in real currency and can be exchanged for real currency, subject to private participants ‘willingness to exchange.’ This notwithstanding, convertibility is not guaranteed at all by law. On other hand, a non-convertible or closed virtual currency, such as Q-coins, is intended to be used within a strictly limited or particular virtual domain and cannot be exchanged for fiat currency.

Who issues the virtual currencies?
In respect to an issuing authority, non-convertible virtual currencies are centrally issued by a central authority that establishes rules, maintains a central payment ledger and has authority to redeem the currency.
In contrast, convertible virtual currencies may be either centralised or decentralised. Decentralised virtual currencies such as Bitcoin and Lite-Coin, are not centrally administered, monitored, nor overseen.
Decentralised virtual currencies, also known as crypto-currencies, are distributed in that transactions in these open-source peer-to-peer virtual currencies are validated by a distributed proof-of-work system, supported by math-based cryptography.

How are virtual currencies distributed?
Most virtual currencies ride on Distributed Ledger Technology, a combination of components, including peer-to-peer networking, distributed data storage and cryptography that, among other things, facilitates data storage, record keeping, electronic transactions and transfer of a digital asset.

Where do these currencies come from?
Virtual currencies are a digital representation of value which is electronically issued and controlled by its developers, electronically used (stored, transferred/circulated, traded) and accepted among the members of a specific virtual community.

Are there bitcoins in Uganda?
Virtual currency schemes, such as Bitcoin, may be operating in Uganda. However, the magnitude of their operation is not a certainty at the moment, given that their domain is neither regulated nor overseen within Uganda. This motivated Bank of Uganda’s press releases in February 2017, warning the general public about these virtual currency schemes.

What are the risks associated with virtual currencies?
By operating in a virtual world, with no specific jurisdiction, virtual currencies can capitalise on potential regulatory arbitrage and pose a number of risks in economies within which they are used. At the forefront of concerns about virtual currencies, is they can be misused to facilitate money laundering, terrorist financing, tax evasion and other forms of illicit activity. For instance, in May 2017, perpetrators of malicious code (‘ransomware’) that affected multiple computer infrastructure across the world extorted ransom payments by Bitcoins.

Virtual currencies can facilitate such vices because they allow greater anonymity, where participants, sources and beneficiaries of funds, do not have to be identified – with real world identity. Moreover, there is no central oversight authority, regulatory and legal frameworks to regulate and oversee the virtual currencies’ domain, enforcing principles of safety, anti-money laundering, countering terrorism financing and legal compliance.

Threat to price stability is another concern. As they get widely adopted, virtual currencies will affect the conduct of monetary policy; by modifying the quantity of money, influencing money velocity, use of cash and impact the measurement of monetary aggregates. Even in cases where the central bank opts to issue its own virtual currency, as legal tender e-currency, it could have significant implications for the central bank’s liabilities and open-market operations.

The anonymity of participants, transactions and inadequate liquidity management could pose risk to settlement finality. Then, price volatility and lack of a transparent price formation mechanism can fuel instability. Furthermore, the susceptibility of virtual currencies to use in illicit activities, such as money laundering and financing of terrorism, could easily prompt disruption to their use as medium payments and value transfer, potentially causing instability in the financial system.
There are also concerns that virtual currencies could gradually challenge the business models of the conventional financial system, depriving the banking system of deposits. This may impact other financial services such as intermediation of credit and insurance, affecting general economic growth.

What is the future of virtual currencies?
While the development, use of virtual currencies and distributed ledger technology is still at an early stage, it is expanding, though it is still difficult to predict how they could shape the future of payments. These innovations promise improved efficiency in payments, funds transfer and deepening of financial inclusion. However, they also pose risks, as highlighted above, especially in the absence of appropriate oversight and regulation.
Mindful of the foregoing benefits and risks, different jurisdictions have taken disparate responses. Some are embracing the technology while others are still skeptical. The choice is dependent on the trade-off between the risks and benefits to the jurisdiction, plus their capacity to avert the associated risks.