On May 18, the National Internet FinanceAssociation of China, the China Banking Association and the Payment andClearing Association of China highlighted the risks of cryptocurrency trading.

The three financial industry associationsissued a statement that bans financial and payment institutions frominvolvement in the cryptocurrency business, in the latest effort to clamp downon speculative trading and price volatility.

Financial institutions, including onlinepayment platforms, should not offer clients any service involvingcryptocurrencies such as registration, trading and clearing and settlement, thestatement said.

It also forbids institutions from providingsavings, trusts or pledging services for cryptocurrencies as well as relatedfinancial products.

Bitcoin, the world's largest cryptocurrencyby volume, hit a three-month low of $38,514.42 on May 20, nearly 40 percentbelow the peak of $64,829.14 in mid-April, according to CoinDesk, a news sitespecializing in cryptocurrencies.

An index that measures sentiment in thebitcoin market, the Crypto Fear & Greed Index, has fallen to "extremefear" levels not seen since April last year, according to a report on May20 by Alternative, an international software service provider.

Ethereum, another cryptocurrency, droppedby 5 percent on May 20 to below $3,200. Dogecoin, a cryptocurrency that startedas a joke and has been talked up by Tesla CEO Elon Musk, fell 16 percent to$0.4189.

According to BTC126.com, a Chinese fintechinformation platform, about 234,000 investors suffered large price drops in thecryptocurrency market which led to mandatory liquidations and total loses ofabout 14 billion yuan .

Expertsback government’s hard line on cryptocurrencies

China should maintain its hard line oncontrolling virtual currencies to prevent wild speculation that may cause majorfinancial losses to investors, according to experts.

Cheng Shi, chief economist and managingdirector of ICBC International, said investors are concerned about largefluctuations and the "non-ideal" transaction speed of Bitcoin.Cryptocurrencies are unlikely to become a broadly used currency, as they arenot supported by any real value, which may lead to price manipulation anddigital fraud, Cheng said.

In order to prevent market fluctuationsthat may hurt domestic investors, regulations are expected to be tightened toprevent financial risks, said Michael Taylor, a managing director of Moody'sInvestors Service.

Chinese regulators have long seencryptocurrencies, including Bitcoin and Ethereum, as crypto assets, instead ofreal currencies. The authorities closed all cryptocurrency exchanges in Chinain 2017 and banned initial coin offerings, which allowed enterprises to raisefunds by issuing new digital tokens.

Li Bo, vice-governor of the People's Bankof China, the central bank, said planning is underway to improve the regulatoryenvironment for alternative investments to ensure speculation won't result inserious financial risks.

Regulators are trying to balance digitalinnovations and risk control, as the digital economy rapidly expands, Li said.

Shan Hui, Goldman Sachs' chief economist inChina, said digital innovations are already the dominant driver of economicgrowth, accounting for over 60 percent of GDP growth from 2016 to 2019.

In addition to tougher controls on thecryptocurrency business, recent regulatory measures have included antimonopolyrules, privacy and data protection and restrictions on online lending. Theseare necessary steps for regulators to catch up with the economic reality ofrapid growth and significant innovation in the internet industries, Shan said.

"In the short term, rules andrestrictions are likely to slow growth in targeted areas. But in the longerterm, they will help foster an environment for sustained competition andreduced risk," she said.

Bitcoinextended its losses after the crackdown

Bitcoin extended its losses after Chinavowed to crack down on the cryptocurrency's mining and trading activities. Itwas a doubled move against virtual currencies coming just after three Chinesefinancial regulators banned financial institutions from crypto-relatedbusinesses on May 19.

China powers most of the world's bitcoinmining. According to data from the Cambridge Center for Alternative Finance,China accounted for over 70 percent of the world's computing power for bitcoinbetween September 2019 and April 2020.

Cryptocurrency mining has drawn regulatoryattention in China in recent years. In April 2019, China's National Developmentand Reform Commission put cryptocurrency mining on a preliminary list ofindustries it wanted to eliminate, citing concerns including energy-wasting andregulation. However, the final version released in November removedcryptocurrency mining from the list.

In June 2019, China's central bank, thePeople's Bank of China, issued a statement saying it would ban all domestic andforeign cryptocurrency exchanges and Initial Coin Offering websites.

By the end of April 2021, north China'sInner Mongolia Autonomous Region said it would "clean up and shutdown" all cryptocurrency mining operations to reduce carbon emissions inthe coal-based region.

Beset by the escalating regulations inmajor economies, bitcoin failed to recover from its tumble week after Tesla'sCEO Elon Musk's tweets doubting its environmental impacts. The U.S. TreasuryDepartment on May 20 also called for new rules that would require largecryptocurrency transfers to be reported to the Internal Revenue Service and theFederal Reserve flagged the risks cryptocurrencies posed to financialstability.

China's Hong Kong also proposed on May 21that cryptocurrency exchanges operating in the city will have to be licensed bythe markets regulator and will only be allowed to provide services toprofessional investors.

At time of writing, bitcoin is traded at$37,000 each, about half from its all-time high a month ago of over $63,500 andsimilar to the level of the beginning of the year. 

Chinabacks digital yuan at the same time

Meanwhile, China is piloting its owndigital yuan or e-CNY. The country has already started trials for the e-CNY inseveral cities including Shenzhen, Chengdu and Suzhou.

Different from general cryptocurrenciessuch as Bitcoin, the e-CNY is controlled by a single entity, the Chinesecentral bank, as opposed to a decentralized network.

Experts say the reason behind these movesis to lower financial risks and discourage speculative trading.

"From my own research and the researchof my colleagues, I already know two facts," Zhang Xiaoyan, associate deanof PBC School of Finance at Tsinghua University told CGTN.

"The first is that a lot of thesecryptocurrencies have been used in illegal transactions, for instance,transactions on drugs. These kinds of dark web transactions should not beencouraged," Zhang said, estimating that illegal transactions make upbetween one-fourth and one-third of all cryptocurrency exchanges.

"The other fact I know from previousdata and academic research is that there's a lot of manipulation in thisparticular market," Zhang said, adding that this is a new territory andregulations have not caught up yet.

She said banning cryptocurrency transactionsalso aims to protect the backbone of the Chinese economy, small andmedium-sized enterprises, which contribute over 60 percent of GDP and more than80 percent of employment in the country, according to the Ministry of Industryand Information Technology.

A number of foreign media and investorshave argued that the ban was China's attempt to clamp down on the foreigndigital trading market. Some have alleged that promoting the digital yuan is tohelp it replace the U.S. dollar in the future.

Zhou Xiaochuan, president of the ChinaSociety for Finance and Banking, pointed out that the premise of this argumentis wrong.

"Some international media have arguedthat no matter what, the Chinese digital yuan will not be able to replace thedominant position of the U.S. dollar. I think that the premise of that argumentis already wrong. The purpose of developing the digital yuan is to keep up withthe modernization of payment systems, increase efficiency and lower costs. Wedid not design it to replace U.S. dollar," Zhou made the remarks at theTsinghua PBCSF Global Finance Forum on May 22.

On May 18, the southern province of Hainancompleted its first payment with digital yuan in its cross-border importe-commerce. Earlier in May, several cities in China including Hong Kong SpecialAdministrative Region also finished the first phase of tests using digital yuanfor cross-border payments.

Zhou said these moves boost the broader useof the Chinese yuan globally, noting that China is still at the early stage ofthe internationalization of the digital yuan and needs more policy support.