Monetary Policy on Virtual Currency in Kenya

C52/7542/2017

10/10/2017
 Introduction

Virtual currency is an asset stored in an electronic form that can serve as a medium of

exchange just as physical currency (BIS, 2015). At present, Bitcoin is the most prevalent form of

virtual currency with an outstanding value of close to $15 billion as of 2017 (McCallum, 2015).

Bitcoin is an open source, peer-to-peer crypto-currency that was established by Satoshi

Nakamoto in 2008.The system is based on public-private key technology and decentralized

clearing of payments to allow quasi-anonymous transactions. This form of virtual currency is

independent and does not belong to any legal entity. The proponents of Bitcoin espouse that it

possesses all the characteristics that makes it an ideal currency for traders and consumers

(Nakamoto, 2008).

In the realm of Bitcoin adoption in Africa, Kenya is among the countries that has

embraced the technology. Kenya has been at the forefront of technological adoption as a way of

spurring long-term economic growth. There is recognition of the potential new technology has

regarding alleviation of social problems in developing nations. Specifically, the advent of mobile

money M-PESA in the Kenyan context highlights the potential new technology has regarding

alleviating poverty (GSMA, 2017). Moreover, BitPesa a Kenyan digital currency exchange has

been able to raise $1.1 million meaning that Bitcoin could be a cheaper way for Kenyans to

move money across borders (Heuler, 2015). There is also wider acceptance of the technology by

technical solution companies together with several travel companies that accept Bitcoin in

exchange for their services (Otitoju, 2015). However, to reap the benefits of this revolutionary

technology, there is need for a lucid regulatory approach that will addresses abuses of the

technology, including fraud, money laundering and tax evasion.

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 Betting on Bitcoin: Could Bitcoin be the next revolutionary medium of exchange?

To fully comprehend the functioning of Bitcoin, it is advisable to typify a transaction. In

any given transaction on the platform, both participants have a private and public key. To

approve the rights to a balance of bitcoin, the payer needs its private key. To identify the payee,

the payer needs to use the payee’s public key that is open to every individual in the system. In

order to give a go ahead on the transaction, the bitcoin software requests the peers on the

network to acknowledge that the payment is valid. The moment the transaction is confirmed, all

other peers are informed that the balance of payer was transferred to the payee. To make use of

the money, the new owner needs to repeat this process (Luther and Olson, 2014). In this context,

a peer is a computer with the special software that maintains a blockchain. A blockchain on the

other hand “comprises of a distributed, shared and encrypted database that serves as an

irreversible and incorruptible repository of information” (Wright, 2015, p. 8). Blockchain

technology relies on computing power from a global network of nodes which maintains an open

and public database (Tapscott, 2017).

The smoking gun of the Bitcoin system is the way transactions are grouped in a block.

The implication is that there is no central clearing authority as is the case with fiat currency. It is

crucial within the system for all peers on the network to complete their “proof-of-work” and

thereby share it with others by adding the transactions to the blockchain. Since all peers observe

the transaction, it is impossible to spend the same balance (Franco, 2014). Franco (2014) further

elucidates that Bitcoins have an upper hand when compared to fiat currency in that it cannot be

confiscated and avoids capital controls. With internet connectivity, you can have access to your

bitcoin meaning there are no warehousing costs involved. The Bitcoins are easy to transport

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because the only essential required to log into the system is the private key which can be saved in

a storage media such as USB flash drive.

Further on the benefits of the Bitcoin system, Bitcoin provides automatic record keeping.

Precisely, records of all payments done in the blockchain are produced instantaneously. Also, it

is deflationary meaning it considers a fixed money supply. Though a deflationary currency is

detrimental to an economy, the Austrian school of economists are of the premise that deflation

would be produced by advancement in technology (Clegg, 2014). Despite the ensuing

advantages of Bitcoin, it is not without shortcomings. According to Franco (2014), Bitcoin is an

open source hence it can easily be replicated. There is therefore room to make substitutes for the

Bitcoin. The resulting outcome is that, a situation may arise where there is competition among

virtual currencies. It is in this regard that government intervention becomes eminent with

reference to the level of acceptance of virtual currency.

Moreover, it is important to note that Bitcoin does not have the backing of a central

authority for instance in the Kenyan case, the Central Bank of Kenya. As a result, it is volatile

making it a daunting task to use it as a store of value. The canary in the coal mine is the inability

of the Bitcoin system to assure its users of the stability of the value. Governments may want to

ban virtual currencies, but it is a difficult task because of the structures in which the technology

is built. The only way they can achieve a prohibition is through ban for exchanges and payment

processors (Bradbury, 2014).However, since virtual currencies could increase the resilience of

the economy in the case of turmoil of existing financial structures, Bitcoin could be useful as an

alternative payment system (Nakamoto, 2008).Consequently it is a viable option for the Kenyan

government to make a move towards developing a policy focusing on the development and use

of a sovereign virtual currency that is systematic and transparent.

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5
Problem definition

The Central Bank of Kenya issued a directive warning banks and private individuals to be

wary of Bitcoin since it is not a legal tender. The move has discouraged software developers

working on the ways in which the financial systems could reap benefits from the Bitcoin

technology. The directive also had a deleterious effect on the local bitcoin startup known as

BitPesa who had their bank account shut down. The technology is however gaining mileage in

the public sector. It appears that the government has embraced the blockchain technology but

shunned away from Bitcoin citing criminal related activities as the reason. In that regard,

development experts have shifted their attention to the potential of blockchain technology to

address challenges relating to academic certification, land transactions as well as election

processes. Within the blockchain technology, nobody can change the information in blocks since

they are chained to each other. The crux of this innovation is that there is a central authority that

is incorruptible. Consequently, records cannot be altered thus making the technology applicable

to several fields in Kenya that are prone to corruption and fraud.

Given the ensuing benefits, it is important to advocate for a policy that will cater for the

virtual currency innovation so that innovation is not hampered in the country given the benefits

accrued by the blockchain technology. The regulatory stance need to be reviewed so that the

country can curve a niche in the technological progress in the financial sector that comes with

virtual currency. Arguably, the ban on Bitcoins is because they are done on a decentralized

system which makes Kenyans easy targets for online fraudsters. However, with the development

of policy framework on virtual currencies, users will be aware of the functionalities and

modalities of virtual currencies and the restraints making it possible for them to participate in the

investment opportunities provided by the blockchain technology.

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Innovation Diffusion Theory (IDT)

The theoretical underpinning of adoption of a monetary policy on virtual currency holds

credence on the innovation diffusion theory. Diffusion is the way in which an innovation is

adopted by individuals in a certain community. An innovation is “an idea practice, or object that

is perceived as new by an individual or another unit of adoption” (Rogers, 1995, p. 11).

According to Rogers (1995) diffusion is multi-facet, in the sense that it comprises several

theoretical underpinnings that relate to the overall notion of diffusion. Precisely, diffusion is the

process by which an innovation is communicated through certain channels to members of a

society over time (Rogers, 1995, p.5). Therefore, the IDT theory postulates that “potential user

make decisions to embrace or shun an innovation based on views that they form about the

innovation” (Agarwal, 2000, p. 90).

Roger’s diffusion of Innovation theory argues that the fourth estate which is the media as

well as interpersonal contacts provide information that influence people’s opinion about a given

technology. For instance, with Bitcoin a focus on how the technology can be used in fraudulent

activities such as money laundering might form a negative perception towards the technology

without taking into consideration the benefits that can be accrued from the technology within

certain limits of control. Roger’s Innovation theory model has networks through which

information filters depending on the role of the opinion leaders about the technology. It is in this

respect that an innovation is either rejected or accepted. The opinion leaders influence the

audience through contact with them while change agents and gate keepers also play a role in the

process of diffusion and judgement.

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Rogers’ Diffusion of Innovation model

(Source: Rogers, 1995)

Opportunities and the potential of the Bitcoin technology

The Bitcoin technology has a great potential with respect to bringing about efficiency in

the financial system. At the moment, the financial system is characterized by high costs of

transactions that are as a result of mismanagement of fund and the eminent disease of corruption.

Though the scope of the technology is limited in terms of remittance in Kenya, Bitsoko a

brainchild of Bitcoins has developed a mobile wallet that facilitates both mobile money and the

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blockchain technology. The technology has cut the cost of sending money tremendously.

Considering the foregoing, it is evident that indeed the Bitcoin technology could be the next

revolutionary medium of exchange in the Kenyan context.

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 Conclusion

Monetary policy on virtual currency in Kenya is essential for the sole purpose of

determining to what scope the Bitcoin technology can operate in Kenya. There is need for

policymakers to consider both the benefits and the shortcoming of the technology while

developing a policy framework to address virtual currency in Kenya. For instance, the policy can

insist on proof of identity in the transactions that take place with the technology. Tools can also

be developed by the law enforcement for linking payments to suspects. Transparency can also be

emphasized with the technology since the blockchain keeps a record of all transactions. With the

above put in place, Kenya will be at the forefront of virtual currency and among the countries

reaping both the benefits of Bitcoins and the Blockchain technology.

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 References

GSMA. 2017. “State of the Industry Report on Mobile Money.”

https://www.gsma.com/mobilefordevelopment/wp-
content/uploads/2017/03/GSMA_State-of-the-Industry-Report-on-MobileMoney_2016.pdf.

Tapscott, Don. 2017. “Transcript of ‘How the Blockchain Is Changing Money and Business.’”

Bank for International Settlements (2015). Digital Currencies. Basel: Bank for International Settlements.

McCallum, Bennett (2015). “The Bitcoin Revolution.” Cato Journal, 35:347-356.

Nakamoto, S. (2008). Bitcoin: Apeer-to-Peer Electronic Cash System. 1st ed. [pdf].

Otitoju, K. (2015), Paper presented to the Commonwealth Working Group on Virtual

Currencies, 24 August 2015, London, UK.

Luther, W. and Olson, J. (2013). Bitcon is Memory. Journal of Prices & Markets, 3(3),
pp. 22-33

Franco, P. (2014). The Wiley Finance Series: Understanding Bitcoin: Cryptography,

Engineering and Economics. Cornwall, UK: Wiley.

Clegg, A. (2014). Could Bitcoin Be A Financial Solution For Developing Economies?

Bradbury, D. (2014). BTC-e Pulls Support for Ruble As Russia Bans Bitcoin.

Agarwal, R. (2000), Individual Acceptance of Information Technologies. Educational Technology

Research and Development,40, 90- 102

Rogers, E. M. (1995). Diffusion of innovations (4th Ed.). New York: Free Press

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