## online-annex-ch2

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### A Basic Taxonomy
- Digital money and crypto assets can be classified by:
  - Issuer: private or public.
  - Denomination: existing monetary unit or new unit of account.
  - Convertibility/redemption into a sovereign currency: fixed face value or prevailing market value.
  - Type of backing: reserve assets of varying stability/liquidity and possible public backstops (for example, access to emergency liquidity).
- Implications: Classification relates to “money-like” properties (fungibility with national currencies) and risks to end-users and financial stability.
- Categories and definitions:
  - Central bank digital currency (CBDC)
    - Public digital form of money issued by a central bank.
    - Commonly denominated in the national currency and typically convertible to other forms of central bank money.
    - Retail CBDC: accessible for all domestic users as a substitute for cash.
    - Wholesale CBDC: accessible only to selected financial institutions to improve market efficiency.
    - Example: Sand dollar (The Bahamas) — launched in October 2020; the only fully operational CBDC and it is retail.
  - eMoney
    - Privately issued digital alternative to cash.
    - Providers are regulated and supervised with a legal obligation of redemption at face value and a requirement to have means to do so.
    - Reserve assets can only be highly safe and liquid; eMoney providers must have sufficient capital.
  - Crypto asset
    - Private digital asset that depends primarily on cryptography and distributed ledger technology (DLT) for record keeping.
    - Stablecoin (a subtype)
      - A crypto asset that aims to maintain a stable value relative to a specified asset (or a pool of assets).
      - Stablecoins that maintain a peg to sovereign money are more likely to be used as digital money.
      - Stablecoins vary in backing assets and therefore should receive substantially different regulatory treatment.
      - Depending on design and usage, they could fall under payments, securities, or banking regulations or require bespoke regulation.
      - Stablecoins share many ML/TF risks with other crypto assets; design choices can allow anonymous peer-to-peer transactions via "unhosted" wallets.
      - Note: “Global stablecoins” refers to stablecoins with potential reach across multiple jurisdictions and substantial volume; BigTech involvement is one feature considered by some jurisdictions.
    - Non stablecoin crypto assets
      - Examples: Bitcoin, Ether.
      - Issued in their own denomination, use DLT, are not backed by other assets, and cannot be redeemed by the issuing entity.
      - Generally do not represent money because of volatile value and lack of public backing.

- Online Annex Table 2.1. (taxonomy summary as presented)
  - Publicly Issued: Central Bank Digital Currency
    - Denomination: National currency
    - Redemption: None (not a claim but convertible to other forms of central bank money)
    - Backing: Central bank balance sheet
    - Example: Sand dollar (The Bahamas)
  - Privately Issued: eMoney
    - Denomination: National currency
    - Redemption: At face value
    - Backing: Full backing only by highly safe and liquid assets, capital, and bankruptcy remote structures
    - Example: AliPay, mPesa, Wyoming license
  - Privately Issued: Stablecoins
    - Denomination: National currency or commodity
    - Redemption: At face value or market value of reserves
    - Backing: Full or partial backing by a variety of assets
    - Example: Tether, USD Coin
  - Privately Issued: Non stablecoin crypto assets
    - Denomination: Own
    - Redemption: None
    - Backing: None
    - Example: Bitcoin, Ether

### Features of the Crypto Ecosystem
- Crypto ecosystem entities (examples): crypto exchanges, wallet providers, miners, stablecoin issuers.
- Core functions performed by entities:
  - Establish governing rules.
  - Store private access keys for users.
  - Trade crypto assets.
  - Issue, create, and destroy crypto assets.
  - Manage reserves.
  - Provide custody and trust services for reserve assets.
  - Operate the infrastructure.
  - Validate transactions.
- Functional execution modes:
  - On-chain: actions executed on the DLT network; usually public but can be anonymous (for example, privacy tokens).
  - Off-chain: actions executed on a network (for example, an exchange) but not on the DLT itself; can be public depending on the network operator.

### On-Chain and Off-Chain Functions (Online Annex Table 2.2)
- On-Chain
  - Transactions: Executed on blockchain using cryptography.
  - Data availability: Transaction history is (usually) public but anonymous.
- Off-Chain
  - Transactions: Executed on a network (for example, exchange) but not on the blockchain.
  - Data availability: A network operator (for example, exchange) can record personal identification, online identifiers as well transaction information data.

### Centralization, Decentralization, and Regulatory Considerations
- Centralized entities
  - Act as intermediaries for specific functions (for example, matching buyers and sellers).
  - Governance is “off-chain” and set by a single entity.
- Decentralized entities
  - Operate without an intermediary.
  - Example: decentralized finance platforms offering financial services.
  - Can exist and operate fully autonomously without legal incorporation and typically without being subject to traditional financial regulations and oversight.
- Regulatory focus: Whether entities are centralized or decentralized is an important consideration for regulation.

### Crypto Exchanges and Their Distinctive Roles
- Most large crypto exchanges are centralized (for example, Binance, Huobi).
- Functions and differences with traditional exchanges:
  - Allow direct trading access to retail investors.
  - Can trade off their own inventory (have trading desks exposed to principal risk).
  - Provide off-chain custody services.
  - Provide “on and off-ramps” between sovereign currencies and crypto assets/stablecoins.

### Wallets, Anonymity, and ML/TF Risks
- Ownership/control relies on private “keys” stored in “wallets.”
- Wallet classifications:
  - Hot vs cold: hot wallets are connected to the Internet; cold wallets are kept offline.
  - Hosted vs unhosted: hosted wallets are provided by third-party providers; unhosted wallets are not.
- Risks:
  - Unhosted wallets can make it difficult or impossible to determine control of crypto assets, enabling concealment of illicit financial activity.
  - Privacy tokens are designed to be anonymous and untraceable by obscuring origin/destination and concealing identifiable information.
  - Ownership can be “pseudo anonymous” since forensics around a public address can potentially trace back to a real-world identity.

*IMF | October 2021. Online Annex 2.1. Technical Note.*

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_Source: https://www.imf.org/-/media/files/publications/gfsr/2021/october/english/online-annex-ch2.pdf_