Introduction
The recent past has witnessed the unprecedented and unchecked growth of cryptocurrency. This digital currency, free from the bonds of government control or external manipulation, offers a myriad of advantages ranging from ensuring a high level of security to doing away with banks, thus ensuring more financial accessibility. Cryptocurrency’s organic nature is a defining feature, and probably, it is the most appealing beauty: a single authority, making it theoretically impervious to government involvement or manipulation.
This, coupled with cryptocurrency’s promise to make transferring funds directly between two parties easier without needing a trusted third party like a bank or a credit card company, makes this online currency quite attractive. Because of the lack of third-party intermediaries, cryptocurrency transfers between two transacting parties can be faster than standard money transfers. Flash loans in decentralised finance are an excellent example of such decentralised transfers. These loans, processed without backing collateral, can be executed within seconds and used in trading.
Despite all the positive aspects of cryptocurrency, it’s necessary to note cryptocurrencies tend to have adverse effects; they are very volatile, are not based on any physical goods or services like traditional money, encourage financial crime, and have had a terrible impact on the environment Bitcoin mining, the most popular cryptocurrency, accounts for about 0.4 per cent of total global energy consumption. According to Cambridge University’s Bitcoin power consumption index, yearly Bitcoin electricity usage is higher than in Argentina and the Netherlands.
ESG and Cryptocurrency
Environmental, Social, and Corporate Governance (ESG) serves as a framework for assessing the degree to which an entity is committed to societal objectives beyond profit generation for its stakeholders. The societal objectives underpinned by an ESG strategy often encompass the pursuit of various environmental goals. Confidence in ESG data among investors has seen a substantial increase. Signatories to the United Nations Principles for Responsible Investment (PRI), established in 2006, have committed to incorporating ESG considerations into their investment analysis and management policies and practices.
The primary environmental concerns of ESG focus on mitigating climate change impacts and ensuring sustainable growth. A disconcerting aspect of cryptocurrencies is the inefficiency of the transaction verification process employed by leading cryptocurrencies such as Bitcoin, Ripple, Stellar, and Cardano. ESG typically encompasses issues such as diversity, equal opportunity, consumer rights, and investment. It can be argued that the inherent anonymity in most cryptocurrencies safeguards vulnerable individuals from oppressive regimes and that the ability for anyone with internet access to own Bitcoin fosters financial inclusion. From a corporate governance perspective, the impact of cryptocurrencies is contentious. It has been posited that cryptocurrencies, starting with Bitcoin, are decentralised, implying that any central entity does not control them.
The decentralised model of cryptocurrency eliminates the need for a central authority or institution to authenticate transactions. Instead, participants in the Bitcoin network engage in mining, wherein the participant who solves the puzzle the fastest is granted the opportunity to authenticate transactions and add the most recent batch of them to the blockchain.
The participant is subsequently remunerated the new cryptocurrency, with“proof of work” (PoW). This model allows miners in any geography to take part in a competition to add a set of proposed transactions as a new block to the network by solving a mathematical challenge.This process has been identified as a significant contributor to greenhouse gas emissions. The PoW consensus algorithm, employed to authenticate transactions, necessitates substantial quantities of electricity.
This electricity is frequently generated through the combustion of fossil fuels, resulting in the emission of carbon dioxide and other greenhouse gases that contribute to global warming—making it extremely difficult for a socially responsible ESG investor to invest in cryptocurrencies. The negative environmental and governance impacts go a long way towards cancelling any potential positives for increasing financial inclusion.However, all is not lost. The industry recognises it has an environmental problem and is actively taking steps to reduce it.
The way Forward
A campaign, christened as “Change the Code Not the Climate”, is currently in progress, advocating for a transition of Bitcoin mining from a Proof of Work (PoW) to a Proof of Stake (PoS) format. In accordance with Coin Desk, proof-of-work requires significant amounts of computing power from an entire network of crypto miners to confirm each transaction. However, proof-of-stake spreads the responsibility for validating each transaction among all of the holders of that cryptocurrency. The proponents of this campaign posit that such a transition could potentially mitigate Bitcoin’s carbon emissions by an estimated 99%.
Currently, Ethereum, another prominent cryptocurrency, has been engaged in an ongoing endeavour to transition from PoW to PoS for the past six years. And Ethereum's annualised energy consumption is a testament to the success of this shift. The metric now shows approximately 7.5 TWh, according to the Crypto Carbon Ratings Institute (CCRI). It consumes 15 times less energy than its counterpart, Bitcoin.
There is also an increasing impetus towards adopting more sustainable mining practices, primarily through utilising renewable energy sources. The shift from non-renewable energy sources to renewal sources can drastically reduce the crypto mining carbon footprint. The industry is starting to take steps in the right direction – in 2021, the Bitcoin Mining Council (BMC) was formed to reduce the global warming effects of mining. China banned all Bitcoin mining in May 2021; seemingly, 57% of all Bitcoin is now mined using renewable energy sources.
However, the extant estimates regarding the proportion of renewable energy employed in Bitcoin mining exhibit considerable variation, thereby complicating definitive conclusions. For instance, a study conducted by CoinShares in December 2021 suggested that renewables constituted less than 30% of the energy used in Bitcoin mining. In contrast, the Bitcoin Mining Council estimates this figure closer to 60%.
Furthermore, the Task Force on Climate-Related Disclosures or TCFD has devised multiple adaptable and applicable recommendations regarding climate-related disclosures to better educate investors about possible climate risks regarding investment. If adopted across the board, these voluntary recommendations will allow for more informed decision-making, thus further cementing compliance with ESG.In conclusion, with proper regulatory oversight, the conflict between cryptocurrencies and environmental risk can be solved, for this global regulators will need to drive forward sufficient regulation to ensure both can thrive.