Several Indian bitcoin exchanges have pulled the plug and halted trading following a statement issued by the Reserve Bank of India (RBI) on Tuesday.

The RBI warning advised consumers and investors to steer clear of bitcoin, citing numerous risks associated with digital currencies. The list of concerns outlined by the RBI was more or less standard – lack of regulation, security issues, rampant speculation and volatility. The RBI also pointed out that Indian bitcoin exchanges are operating without regulatory approval, which is hardly surprising given the fact that India does not have a regulatory framework that would encompass digital currencies.

Just two days later several bitcoin operators in India chose to play it safe. They suspended trading, either temporarily or indefinitely. Bitcoin trading platform INRBTC said it was suspending services indefinitely in light of RBI’s warning. It pointed out that RBI’s warning states parties involved in digital currency transactions could be subject to unintentional breaches of anti-money laundering legislation and counter-terrorism laws.

INRBTC said:

"The only option left now is suspend the services until further arrangements can be made," INRBTC said, while adding that all trades which have been executed till December 26, 2013 will be processed completely.

All pending orders will be cancelled and the deposits on those orders will be refunded 100 per cent to the users.”

Another operator, buysellbitco.in, informed investors that it is suspending buy and sell operations until it can outline a clearer framework with which to work.

“This is being done to protect the interest of our customers and in no way is a reflection of bitcoin’s true potential or price,” buysellbitco.in said in a statement posted on its website.

The Hindu

reports that many other bitcoin services in India have gone down. Some of their websites appear to be gone, too. However, other operators are carrying on and they are still offering rupee to bitcoin services.

In its statement of 24th December, the RBI said it is examining issues associated with digital currencies, namely trading, holding and use of digital currencies in India. However, the RBI is limited by existing legislation and since there is no indication that India will enact any new digital currency regulations, it is unclear what the RBI can do.

Essentially if the RBI chooses to apply India’s existing regulatory framework to bitcoin, that may entail the use of standard foreign exchange regulations. This might force bitcoin exchanges to start operating in much the same way as traditional currency exchanges, but there is a problem. The average bureau de change deals only in national currencies, backed by central banks, using spot prices derived from large interbank transactions. It would be extremely difficult to apply regulations crafted for traditional currency exchanges to digital currencies like bitcoin and it might even be impossible altogether.

The RBI is examining India’s payment system laws, too. It is obvious that it will face similar challenges if it tries to apply existing payment laws. The vast majority of international transactions are handled by banks and they rely on SWIFT standards. Legislation tends to reflect this fact and legislation in this heavily regulated industry is not what we would call flexible when it comes to international standards.

At this point it is hard to say whether Indian exchanges that have decided to suspend trading will find a way of getting back into the game. Furthermore it is unclear whether the exchanges that are still working will stay open. Although the RBI said it is looking into the matter, the fact that India does not have digital currency legislation remains a problem, especially if existing legislation is not practically applicable to digital currencies.

These events will undoubtedly create even more volatility and uncertainty, especially in light of China’s clampdown earlier this month. It remains to be seen whether the RBI and the Indian Ministry of Finance will push lawmakers to enact viable digital currency legislation.

As we reported earlier this month, India has a few region-specific concerns that it would like to address, namely e-ponzi schemes and multi-level marketing schemes involving bitcoin. Using unregulated digital currencies for such activities might make it extremely difficult to prosecute or even identify the culprits.

If plenty of people fall victim to such schemes, they might have quite a few questions for regulators and lawmakers, provided digital currencies remain unregulated. The potential political fallout of doing nothing might be embarrassing and too much to stomach for many lawmakers.