By John Ruwitch and Pete Sweeney
SHANGHAI (Reuters) - China's government banned financial institutions from trading in bitcoin on Thursday, in what analysts said was a restrained first step towards regulating the digital currency that has exploded in popularity in China and soared in value in recent months.
A statement by the central bank and four other agencies said that, while the computer-generated currency does not yet pose a threat to China's financial system, it carries risks. It did not, however, curtail the use of bitcoin by individuals.
"I think it's measured and it's positive," said Zennon Kapron, of the financial consultancy Kapronasia. "It does add legitimacy to the idea that it could be a nationwide accepted currency."
The value of bitcoins on Chinese exchanges fell after the announcement, however, with one expert predicting the price could halve in the short-term. Digital currencies are generally highly volatile.
Bitcoins have seen their value relative to the dollar skyrocket some 800 percent in the past two months as speculators have piled into the currency, according to bitcoinity.org.
While there is no official data available, bitcoin market operators say Chinese nationals are major participants in the market and hold an outsized share of the total number of bitcoins in circulation. Shanghai-based BTC China has recently become the world's largest bitcoin exchange by volume.
A statement on the website of the People's Bank of China (PBOC) said that the government would act to prevent money laundering risks from bitcoin, which is not backed by a government or central bank.
The PBOC may have cause to be concerned about bitcoins, which are anonymous, untraceable, and can be carried on memory sticks or transmitted electronically, because they represent a potential hole in the country's capital controls.
However, analysts point out that, given the tiny value of the total bitcoins in circulation relative to other currencies, it is unlikely to have much impact on the wider economy.
EYES ON BITCOIN
More cause for worry is the way these digital currencies have engendered a new wave of creative criminality focused on hacking online platforms and stealing bitcoins stored there, and their potential for use in money laundering, bribery and purchases of illicit products such as drugs and weapons.
The government will require trading platforms that deal in virtual currencies such as bitcoin to register with telecommunications authorities, it said.
The notice was issued jointly by the PBOC, the Ministry of Industry and Information Technology, the China Banking Regulatory Commission and the China Securities Regulatory Commission and China Insurance Regulatory Commission.
"This is an industry that will need to be governed or regulated. The safety and the well-being of the common user has to be taken into consideration. All this is expected," said Ron Cao, Managine Director at Lightspeet Venture Partners, which recently invested $5 million (3 million pounds) in BTC China.
"'We've got a long way to go. This thing needs to be regulated at some point. We're studying it. Don't jump into it.' My read is that's the tone of the message."
Bitcoin traders sold on the Chinese government's announcement.
On the Chinese platform FXBTC.com, the yuan-bitcoin exchange rate dropped as much as about 20 percent after the news before rebounding slightly to around 5,800 yuan per bitcoin in heavy trading.
On BTC-e, the dollar-bitcoin rate had fallen about 11 percent to about $945 from $1,063 before the news.
Cao said he would not be surprised to see the value of bitcoins fall as much as 50 percent over the next week or two.
Many bitcoin proponents say the currency's volatility will have to flatten out before it can be adopted more widely as a near-frictionless means of payment and regulation may help.
More regulation was likely, although the initial ban on financial institutions may eventually be lifted, analysts said.
"I would be cautious about jumping the gun and taking today's announcement as indicative as how the space will be regulated in the future," said Mark Natkin, of Beijing-based Marbridge Consulting.
"Once they have a better idea of how the market works and which players are likely to emerge as the leading players, then they'll come out with firmer regulations, with more specific licensing requirements," and possibly minimum capital requirements for firms entering the sector, he said.
(Additional reporting by Jonathan Standing, Aileen Wang and Anita li; Editing by Alex Richardson)