China’s Crackdown on Digital Currency: What It Means for Bitcoin – Fortune

It’s been another rollercoaster ride for bitcoin. After breaking the $5,000 mark this weekend, the digital currency has dropped around 15%—in large part because China brought a screeching halt to the novel form of fund-raising known as “initial coin offerings.”

According to one expert, China’s ban on these ICOs—which have allowed companies to raise over $1 billion this year by selling digital “tokens”—will have both short and long term effects for bitcoin and other digital currencies.

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“Chinese investors have played a crucial role in the growth of the ICO market and the recent rise in valuations,” says Robert Crea, an attorney with the law firm K&L Gates, who specializes in regulatory issues surrounding digital currencies. “The Chinese ban may impact liquidity in the ICO market by limiting the number of investors in the marketplace and the number of cryptocurrency exchanges. If Chinese investors are restricted from participating, markets could experience diminished liquidity, heightened volatility, and downward price pressure.”

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China’s crackdown on ICOs follows similar moves by the United States, Canada, and Singapore in recent weeks, but appears to have had a larger impact on the market.

The ICO phenomenon began last year as startups realized they could raise large amounts of capital without the legal or regulatory constraints that go with traditional venture funding. In conducting “token” sales, the startups claimed the tokens provided a way for buyers to access new software programs they were building. But as the tokens can also be sold on digital currency exchanges, the ICOs in many cases resembled the sale of unlicensed securities.

This explains—in part—China’s actions, as reported by Bloomberg on Monday:

The People’s Bank of China said on its website Monday that it had completed investigations into ICOs, and will strictly punish offerings in the future while penalizing legal violations in ones already completed. The regulator said that those who have already raised money must provide refunds.

The effect of China’s decision on the market is twofold. First, it chills the overall appeal of digital currency as a speculative investment. Secondly, it undercuts demand for the two most popular digital currencies, bitcoin and Ethereum, which are typically used to buy the tokens for sale in an ICO.

Since the weekend, the price of Ethereum has fallen even more sharply than bitcoin, dropping from a high of nearly $400 to around $298 as of Tuesday morning, according to data from Coindesk. Bitcoin was trading just under $4,400.

While China’s ICO decision caused prices to fall, the crackdown may not be permanent: One analyst told Bloomberg the government may in the future allow ICOs to resume on approved platforms or even vet them on an individual basis.

This is part of Fortune’s new initiative, The Ledger, a trusted news source at the intersection of tech and finance. For more on The Ledger, click here.

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