Towards a Proportionate Regulatory Framework for Virtual Currencies

[Anshul Semwal is a 5th year B.A. LL.B. (Hons.) student at the National Law School of India University, Bangalore]

On April 6, 2018, the Reserve Bank of India (‘RBI’), a staunch critic of virtual currencies (‘VCs’), issued a circular banning the trade of VCs. The ban was short-lived as, two years later, the Supreme Court quashed the circular on the ground of proportionality in Internet and Mobile Association of India v. Reserve Bank of India . The Court held that even though the RBI has the power to regulate VCs, the restriction imposed through the impugned circular was disproportionate and hence invalid. A detailed discussion on the judgement can be found in a previous post.

In this post, I argue that the proportionality analysis conducted by the Court, though questionable, is likely to influence future legislative debates on the law governing VC trade.

Arguments Against the Impugned Circular

The impugned circular was broadly challenged on two grounds: Firstly, that VC is a tradable commodity and not an actual currency and therefore is outside the RBI’s statutory remit; and secondly, that a prohibition on banks to facilitate VC transactions is violative of their right to practice any profession, or to carry on any occupation, trade or business, contained in Article 19(1)(g) of the Constitution.

Supreme Court’s Verdict

With respect to the first submission, the Court held that as long as VCs are accepted as valid payment in exchange for goods and services by certain institutions, they would fall within the RBI’s statutory remit. Thus, the Court concluded that the RBI has power to regulate and prohibit trade in VCs.

With regard to the second submission, the Court examined whether the RBI’s measure satisfies the test of ‘reasonableness’ mentioned under Article 19(6) of the Constitution. For this purpose, the test of proportionality was invoked. Thus, onus was placed upon the RBI to present empirical evidence of any damage suffered by its regulated entities due to trade in VCs. However, the RBI failed to make its case and the circular was struck down on the ground of proportionality.

Proportionality-based Rights Review

Proportionality, as a standard of review for assessing ‘reasonableness’, was first expounded by a constitution bench in Modern Dental College and Research Centre v. State of Madhya Pradesh. According to the standard, a limitation of a constitutional right is permissible if (i) the State is pursuing a legitimate aim; (ii) the legislation is a suitable means of furthering the legislative goal; (iii) there is no alternative measure that is less restrictive; and (iv) there is a proper balance between the importance of achieving the aim and the importance of restricting the constitutional right.

Moreover, the Supreme Court has recognized proportionality as integral to Article 19 in recent verdicts such as Puttaswamy (I) v. Union of India, Puttaswamy (II) v. Union of India, and Anuradha Bhasin v. Union of India. Evidently, the proportionality-based rights review is gradually gaining popularity in India as it imposes a heavy justificatory burden on the State and leads to structured and transparent decisions.

The Court’s Questionable Application of the Proportionality Test

In its verdict, the Court cited the four-pronged proportionality test as envisaged in Modern Dental College. However, the Court’s application of this test was problematic and questionable in two main respects.

Firstly, the Court did not follow a structured, step-wise test for the proportionality analysis. It began the analysis by examining whether there are less restrictive ways of advancing the RBI’s aim and if the same were considered by the RBI. Thereby, it directly tested the impugned circular on the third prong (necessity) and overlooked the first two prongs (legitimate aim and suitability). This is problematic since the sequential approach of the proportionality analysis leads to a better-reasoned judgment and ensures that the Court’s duty to give reasons at every stage cannot be easily evaded. Further, as Dieter Grimm wrote: “A confusion of the steps creates the danger that elements enter the operation in an uncontrolled manner and render the result more arbitrary and less predictable”. Essentially, the disorganized application of the doctrine makes it difficult for the common public to cull out the court’s reasoning and for courts in subsequent cases to fall back on the judgment for guidance on application of the proportionality test.

Secondly, in its assessment of the impugned circular on the necessity prong, the Court was deferential to the RBI. Having noted the RBI’s response to the proposed alternatives, the Court held that it “may not scan the response of RBI in greater detail to find out if the response to the additional safeguards suggested by the petitioners was just imaginary”. In doing so, the Court effectively allowed the RBI’s claim on its own assertions rather than on an evidentiary basis. This is contrary to its approach in Puttaswamy (II), where it closely examined the State’s claim rather than accepting it as ipse dixit, while adjudicating on the constitutionality of rule 9 of the Prevention of Money Laundering (Maintenance of Records) Rules, 2005. The comparison between the two judgments highlights the variation in the intensity of review: whereas a heavy onus was placed on the State to justify any right-restriction in Puttaswamy II, a minimal evidentiary burden was placed upon the RBI in Internet and Mobile Association of India. The latter approach is problematic as it significantly dilutes the intensity of review and renders the necessity analysis meaningless.

In any case, the Court, in the ‘climax’ of the judgment, categorically stated that the impugned circular is quashed on the ground of proportionality.

The Disciplining Effect of Proportionality

Since proposed legislations would be subject to judicial review for conformity with the proportionality standard, legislators have an incentive to consider proportionality during the legislative process. Thus, proportionality-based rights review, as Mattias Kumm put it, can have a “disciplining effect on public authorities and help foster an attitude of civilian confidence among citizens”. This practice has been noted before in countries such as Germany, Canada, and Israel where Courts routinely apply the proportionality test to assess violation of rights.

Moreover, proportionality is more likely to be considered by legislators when a previous legislation on the same subject has been struck down. For instance, the Canadian Supreme Court, in RJR-MacDonald, struck down bans on the advertising and promotion of tobacco products on the ground of disproportionate violation of the freedom of expression. Consequently, a new Tobacco Act was drafted keeping in mind the proportionality requirements observed in RJR-MacDonald. The new Act imposed restrictions on ‘lifestyle’ advertisements rather than a comprehensive ban on advertising. Interestingly, the Senate’s Standing Committee on Legal and Constitutional Affairs even called legal experts to demonstrate the proportionality of the new law. The Canadian Parliament’s proportionality-based rights review paid off when the Court, in a fresh challenge, concluded that the Act was proportionate and hence valid.

In the Indian context, the Supreme Court opined in Anuradha Bhasin that the Magistrate, when invoking their power under section 144 of the Code of Criminal Procedure, is duty-bound to balance rights and restrictions based on the principle of proportionality. Therefore, it seems that the Supreme Court is encouraging State authorities to introduce proportionality-based rights review in their decision-making process itself.

Towards a Proportionate VC Regulatory Framework

Even though the RBI’s circular has been quashed, allowing for trade in VCs to continue, there is a draft bill pending with the Parliament that could prove tenuous. The 2019 version of the draft Bill, which was proposed by the inter-ministerial committee headed by former Finance Secretary Subhash Chandra Garg, imposed a fine of Rs. 25 crore and prescribed imprisonment of up to 10 years on anyone dealing in private VCs. However, it is not clear whether or not the current Bill, which has been floated for inter-ministerial consultation by the finance ministry, is of the same nature as the 2019 Bill.

It is likely that the Parliament will rethink its draconian 2019 draft Bill in light of the Supreme Court’s judgment. The Parliament will now have to be more receptive, or at least more resigned, to adopt the proportionality-based rights review because if the legislation does not conform to that standard then the Court may strike it down in the future. This becomes even more plausible since the Court, relying on the European Union Parliament’s 2018 report, has already held that a comprehensive ban on the trade of VCs is not the least restrictive measure.

Conclusion

Due to the Supreme Court’s judgment, any eventual legislation that seeks to ban or regulate trade in VCs must adhere to the doctrine of proportionality. This means that the Parliament must ensure the rationality and suitability of the measure, and assess if there are other feasible measures which are less likely to restrict constitutional rights.

– Anshul Semwal

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