Economics

Bitcoin Cross-Border Transactions Under IMF’s Scrutiny

An IMF Analysis of Bitcoin Cross-Border Flows

Bitcoin, as a unit of account and a decentralized digital ecosystem’s value transfer mechanism based on blockchain technology, enables secure and transparent transactions without the need for trusted intermediaries. This capability positions Bitcoin as a formidable competitor to traditional cross-border payment systems tied to banking networks.

Despite its price volatility and lack of backing by tangible assets or state authorities, Bitcoin has garnered significant interest from both the private and institutional sectors.

Bitcoin transactions, characterized by user pseudonymity and categorized into on-chain and off-chain, have complicated the identification and analysis of global cross-border capital flows.

The IMF, in an extensive research report utilizing three complementary datasets, has studied Bitcoin cross-border transactions. This report, enriched with data-driven analyses, explores capital flows within Bitcoin cross-border transactions, unveiling new insights into the challenges and benefits inherent in this space.

Structure of the Report: 1. Overview of the IMF’s Perspective on Bitcoin and Its Transactions. 2. Methods of Identifying Bitcoin Cross-Border Transactions and Assumptions for Measuring Resulting Capital Flows. 3. Findings and Facts Based on Statistical and Empirical Analyses of Bitcoin Cross-Border Transactions.

The IMF’s Ambiguous Yet Holistic Approach to Bitcoin

The IMF, widely regarded as a cornerstone of global financial stability and a key player in international economic cooperation, adopts an ambiguous yet comprehensive stance on Bitcoin. It is ambiguous because it is unclear whether the IMF supports or opposes Bitcoin. Comprehensive because the IMF considers Bitcoin’s advantages and disadvantages, thoroughly evaluating its implications.

To simplify, here are two distinct actions the IMF has taken regarding Bitcoin:

IMF: Bitcoin; A Threat to Global Economic Stability

IMF: Bitcoin; A Threat to Global Economic Stability

In 2021, when El Salvador legalized Bitcoin as a payment solution for businesses, the IMF warned against adopting Bitcoin and cryptocurrencies, citing potential risks to consumer protection, financial integrity, and economic stability in adopting nations.

The IMF noted: “While Bitcoin and cryptocurrencies have the potential to enhance payment systems’ efficiency, El Salvador’s decision to legalize Bitcoin is risky.”

IMF: Bitcoin; An Essential Financial Tool

On the other hand, an IMF report from April 2024 highlights Bitcoin’s role as an essential financial tool for preserving wealth. Amid global financial instability, Bitcoin has emerged as a vital channel for cross-border financial flows.

The report, titled “A Primer on Bitcoin Cross-Border Flows”, sheds light on Bitcoin’s decentralized nature and its utility in circumventing traditional banking systems, especially in regions grappling with economic challenges or strict capital controls.

The IMF highlights substantial Bitcoin transaction volumes originating from countries like Argentina and Venezuela, where citizens face hyperinflation and stringent financial regulations. In such regions, Bitcoin is not merely a speculative investment but a critical tool for wealth preservation and access to global markets.

The IMF also cautions about significant risks associated with Bitcoin’s extensive use for cross-border flows, such as: Lack of Effective Oversight: This can hinder regulatory efforts to curb illicit activities, including money laundering. Privacy Features of Cryptocurrencies: These pose challenges to monitoring financial transactions.

The IMF’s distinctive approach underscores Bitcoin’s unique attributes compared to traditional financial systems. Bitcoin capital flows, unlike traditional foreign investments tied to economic indicators like currency strength, exhibit stronger correlations with sentiment-driven parameters in the crypto space, such as the Fear and Greed Index, which measures users’ confidence amidst market volatility.

Residents of countries with restrictive financial regulations increasingly turn to Bitcoin to transfer capital across borders with greater freedom.

The International Monetary Fund

Overall, the IMF’s stance on cryptocurrencies appears to be as follows: the International Monetary Fund believes governments must consistently strengthen regulations and oversight of the Bitcoin ecosystem and other digital currencies. This global institution attributes not only useful and positive potential to these assets but also risks such as:

  1. Price volatility
  2. Environmental hazards
  3. Associated crimes and frauds

It seems that the IMF advocates for international cooperation and regulatory frameworks that address the unique aspects of cryptocurrencies. Such measures help mitigate risks while supporting the benefits of digital currencies, particularly as a financial tool for economic freedom in countries with restricted financial environments.

Identifying and Evaluating Bitcoin Cross-Border Flows

The IMF has adopted methods and drivers within its assumptions to measure and identify cross-border Bitcoin transactions. This section of the article explores these methods, which provide a basis for understanding the scale and impact of Bitcoin transactions across international borders.

Types of Bitcoin-Based Transactions and Capital Flows

As previously mentioned, Bitcoin transactions can be categorized into two main types: on-chain and off-chain transactions.

On-Chain Transactions:

On-chain transactions are processed and recorded on the core blockchain technology, offering high security and transparency. These transactions are publicly accessible and immutable, making them more suitable for significant value transfers due to this immutable nature of the blockchain.

Off-Chain Transactions:

Off-chain transactions are not recorded on the blockchain and, as the name suggests, are processed outside it. These transactions often occur through third-party intermediaries such as cryptocurrency exchanges, enabling faster processing and lower fees at the cost of reduced security and transparency.

Approaches for Measuring Bitcoin Cross-Border Flows

The IMF employs three complementary approaches to measure Bitcoin cross-border flows:

1. Measurement Based on Data Recorded on the Bitcoin Blockchain

In this method, cross-border Bitcoin transaction analyses rely on publicly available information from exchange wallets and other platforms offering Bitcoin exchange services. This data, logged-in tools called blockchain explorers, is traceable.

Blockchain explorers allow cryptocurrency users to examine all deposit and withdrawal transactions to a specific wallet address. Analysts can use these tools to identify exchange-related flows, including both cross-border and domestic transactions.

By examining all on-chain transactions involving a specific exchange as either a sender or receiver, this method helps gain a deeper understanding of Bitcoin cross-border flows. However, since this method includes both cross-border and domestic on-chain transactions, specialized methods with potential inaccuracies are needed to distinguish between the two.

While this method is not comprehensive, it offers valuable insights due to the transactional data available in blockchain explorers, such as sender and receiver addresses, transferred amounts, timestamps, and other details.

Measurement Based on Data Recorded on the Bitcoin Blockchain

The main challenge in this process pertains to identifying the location of participants in transactions, as their wallet addresses are pseudonymous and not linked to their real identities. Nevertheless, the IMF report indicates that by combining some of this data with information on internal transactions within an exchange, a broader perspective on Bitcoin flows at a global level can be obtained.

2. Measurement Based on Exchange Wallets and Web Traffic

This method combines exchange wallet address information and web traffic data to infer the geographic location of transaction participants. “Chainalysis,” a blockchain-based data analytics platform, implements this approach to measure cross-border flows logged on the network.

Initially, Chainalysis identifies exchange transactions based on public blockchain data and transaction data provided by exchanges. In the next step, it allocates capital flows to countries based on monthly web traffic patterns for each exchange.

For example:

Assume a daily flow of 100 Bitcoins between exchanges A and B. Web traffic data indicates that the locations of users for these transactions correspond to countries X, Y, and Z. Outbound transaction analysis reveals that 70% originated from country X and 30% from country Y.

Inbound transaction analysis shows 50% to country X and 50% to country Z. Chainalysis concludes: 35 Bitcoins moved from X to X,35 Bitcoins from X to Z,15 Bitcoins from Y to X,15 Bitcoins from Y to Z. Therefore, 65% of the flow is cross-border, and 35% is domestic (within country X).

Measurement Based on Exchange Wallets and Web Traffic

The identified flows from this approach rely on two key assumptions:

1. Users do not conceal their online activities using Virtual Private Networks (VPNs).

2. The transaction amounts are, on average, equal.

Overall, the approach based on correlating Bitcoin exchange activity across different countries with web traffic data provides an innovative method for identifying cross-border flows of this cryptocurrency. However, a notable issue with this approach is the use of VPNs to hide users’ identities, which can significantly impact the accuracy of the method and introduce errors.

3. Measurement Based on Fiat Currencies

The third approach identifies Bitcoin cross-border flows based on transactions involving fiat currencies. These transactions, typically off-chain, involve direct exchanges between fiat currencies and Bitcoin or vice versa.

Such transactions often occur on centralized exchanges, making them suitable for identifying the residence of users involved in Bitcoin cross-border flows, as centralized platforms typically adhere to “Know Your Customer” (KYC) regulations.

To better understand the fiat-currency-based approach, it’s useful to consider how platforms offering these types of services (fiat-currency-based Bitcoin exchanges) operate. Here’s how it works:

Suppose platform X is one of the examples under review. Also, User A has $100 worth of Bitcoin in their account on platform X and wishes to sell it to User B in exchange for $100 in an agreed fiat currency.

For this transaction, no movement occurs on the main Bitcoin blockchain. Instead, platform X ensures that $100 is transferred from User B’s account to User A’s account. After confirming the transfer, the platform revokes User A’s claim to ownership of the $100 worth of Bitcoin and grants it to User B. In other words, no on-chain transaction takes place; rather, this flow of funds involving Bitcoin happens off-chain.

Now, to implement the fiat-currency-based method for identifying Bitcoin capital flows on platforms similar to X, it’s sufficient to extract a dataset for each transaction, including a unique identifier, the transaction’s date and time, the amount of Bitcoin transferred, the fiat currency involved in the transaction, the Bitcoin price corresponding to the specified fiat currency, and so on. This data can be obtained from the platform where the transaction occurred.

For example, the table below provides an overview of a dataset comprising nearly 40 million transactions recorded between March 15, 2017, and February 28, 2023, on a global centralized platform called “LocalBitcoins.”

Measurement Based on Fiat Currencies

Using various algorithms, this dataset can be analyzed to determine the percentage of transactions attributed to each fiat currency. Based on these results, it is possible to estimate how Bitcoin capital flows occur.

As a practical and straightforward method mentioned in the IMF report, one can proceed as follows with data like the above table:

Utilize an algorithm to match transactions with each other. Then, focus on those that approximately amount to X Bitcoin and occurred within a short time frame (between time t and t+ɛ). In the newly filtered dataset, transactions where fiat currency A was used to purchase Bitcoin and then sold for fiat currency B can be considered as Bitcoin cross-border capital flows.

It is worth noting that this is not the only method for identifying Bitcoin cross-border capital flows using fiat currencies. There are dozens of other algorithms that can be employed to analyze the results comprehensively, though a detailed examination of them is beyond the scope of this article.

Statistical Results in the Sample Studied by the IMF

The IMF report shows that the three approaches introduced in this article for measuring cross-border Bitcoin flows are, in fact, complementary to each other. This is because there are various types of flows and market participants in Bitcoin (on-chain or off-chain), each relying on different assumptions.

The table below summarizes each method and highlights the advantages and disadvantages of each.

MethodApproach 1 (Blockchain)Approach 2 (Chainalysis)Approach 3 (Fiat Currencies)
TypeOn-chainOn-chainOff-chain
Key AssumptionsUse of blockchain explorersWeb traffic indicates user locationThe fiat currency used indicates user location
AdvantagesDirect use of transaction data on the networkA large number of transactions
Provides a broader representation of the user’s location
Extremely broad sample space
Possibility of accurately identifying the user’s location
DisadvantagesUnable to detect user locationErrors when the user uses a VPNErrors in dominant fiat currencies like Tether (USD)
Limited to the off-chain world

The IMF’s statistical results show that by using these methods and measuring Bitcoin’s cross-border transactions, a deeper understanding of the network of this cryptocurrency and the flow of capital related to it can be obtained. For example, based on the samples studied by the IMF in this report, the following data and facts have been extracted.

Data and Facts Extracted from Bitcoin Cross-Border Flows by the IMF

The International Monetary Fund, in part of this report, presents data based on empirical analysis by its experts and thus provides a set of facts that stem from Bitcoin transactions and cross-border flows based on them.

Facts about Transaction Amounts

The empirical results of this report show that on-chain transactions, in terms of the amount transferred, are generally larger than off-chain transactions. This suggests greater security and a more reliable structure of blockchain technology.

The amount of Bitcoin’s on-chain transactions in this report is reported as an average of 13.34 BTC, which is significantly larger than the average of 0.018 BTC reported for off-chain transactions. The results also indicate that, on average, the amount of transactions decreases over time for both on-chain and off-chain cases.

This issue is attributed to the increasing price of Bitcoin over time. In other words, suppose in 2018 a capital flow of 100 thousand dollars was made via Bitcoin. In that case, the transaction amount from this movement would have been nearly 10 BTC, since the value of each Bitcoin unit was approximately 10 thousand dollars at that time.

Whereas now, if we assume the value of each Bitcoin is 67 thousand dollars, a transaction of approximately 1.5 BTC would suffice to move 100 thousand dollars worth of capital.

Distribution of Bitcoin Inflows by Region in the LocalBitcoins Platform

Geographic Distribution

IMF research results show that the use of Bitcoin is geographically widespread at a global level. Significant cross-border flows occur in regions such as Latin America, Africa, and Asia using Bitcoin, particularly in countries in Latin America such as Argentina, Venezuela, and Peru, where the number of Bitcoin inflows is very high.

Similarly, in African countries such as Nigeria, South Africa, and Kenya, the volume of Bitcoin transactions is significant. Most experts believe this issue stems from economic instability and the need for alternative financial systems in these countries.

In Asia, besides Russia, China also has a high level of Bitcoin-based capital inflows, despite the ban on cryptocurrencies.

Significant Differences Compared to Traditional Capital Flows

This report also shows that Bitcoin cross-border flows behave differently compared to capital flows from traditional methods based on banking systems, especially regarding two criteria:

1. Correlation with Economic Indicators:

Bitcoin-based flows show a different correlation with economic indicators and drivers compared to traditional capital flows. For example, unlike traditional capital flows, the amount of Bitcoin cross-border transactions’ inflow and outflow has an inverse relationship with parameters such as VIX (volatility index of financial markets) and the US dollar strength index.

2. Size:

In some countries, Bitcoin’s cross-border flows represent a significant portion of GDP, especially in regions where capital flows based on traditional methods account for a relatively smaller share of this economic variable. Some experts believe this indicates the growing role of Bitcoin in international finance, especially in emerging markets.

These differences highlight Bitcoin’s unique role in the global financial system.

Regional Inequalities and the Impact of Economic Conditions

According to this report, there are significant regional disparities in the use of Bitcoin, inequalities that are influenced by the region’s economic conditions, regulatory environments, and the adoption rate of this technology in various areas. It is clear that the economic conditions in different regions will also influence Bitcoin’s cross-border flows.

Inflation and Exchange Rates:

The IMF analysis shows that in countries with high inflation rates or unstable exchange rates and economic instability, Bitcoin is often used as a hedge or an alternative solution for transferring value.

Regulatory Environment:

The regulatory environment also plays an important role in the adoption of Bitcoin cross-border flows; in areas with strict financial regulations, we often see more Bitcoin-based activities, as users seek to bypass regulatory barriers.

Conclusion

Bitcoin without Borders and the Need for Informed Regulatory Responses

The comprehensive analysis provided in this report emphasizes the importance of continuous monitoring and evaluation of Bitcoin’s cross-border flows. It is also crucial to become familiar with the innovative methods that the International Monetary Fund introduces for measuring cross-border Bitcoin transactions.

Studying these methods and analyzing the multiple data sources used to identify Bitcoin’s cross-border capital flows provides valuable insights into Bitcoin’s applications and its implications for global financial stability.

Although it is clear that Bitcoin’s cross-border flows have not yet fully replaced traditional capital flows based on conventional methods, the IMF’s findings suggest that significant changes are likely emerging in this area; changes that will keep policymakers alert and require them to accept Bitcoin’s integration into the current capital flow management frameworks and then plan to address the potential macroeconomic risks and financial stability associated with it.

This analysis also indicates that on-chain Bitcoin transactions, recorded on the blockchain, are larger than off-chain transactions, a feature that highlights the strong security features of blockchain technology and greater trust in it to protect larger financial holdings.

In summary, this report states that identifying Bitcoin’s cross-border flows is vital for understanding the evolving role of digital currencies in the global financial system. The study highlights the distinct nature of Bitcoin transactions and emphasizes the need for strong data and methods to accurately analyze these flows.

As Bitcoin and other cryptocurrencies continue to grow in adoption, their impact on cross-border transactions will likely become even more important and will require responsive and informed regulatory approaches.

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