China

Can NFTs happen in a crypto-less China? Amazingly, yes.

Using clever workarounds, Chinese NFT players are managing to weather a regulatory ban on cryptocurrency.

A photo illustration of bitcoin

No matter what workarounds Chinese NFT marketplaces choose, the result is that most NFT transactions in China feel detached from cryptocurrency.

Image: Yu Chun Christopher Wong/S3studio/Getty Images

The NFT craze has come to China, but you can hardly see any trace of crypto in it.

In the past two months, Chinese social media and gaming giant Tencent has built an NFT purchase and collection app, ecommerce platform Alibaba sold 50 NFT mooncakes in a stunt to promote a metaverse product and half a dozen startups are competing to be the winner of the localized non-fungible token trading market in China.

There hasn't been anything as eye-catching as the $69-million NFT artwork buys like Beeple's "Everydays" yet. But a bevy of major players in China — from Big Tech, blockchain startups, art auction houses and retail brands — have joined the NFT hype.

Many of the reasons they are dipping their toes in the open sea of NFT works are hardly different from that of their Western counterparts: the blockchain-enabled protection of IP rights, excitement over a new way of trading and curating artwork and the free press they get for being associated with a trendy concept.

But in China, NFTs aren't about making quick cash. Instead, NFT players in China are trying to steer clear of cryptocurrencies, even though NFTs are, in their nature, deeply intertwined with crypto. The difference both took place on the verbal level, with companies omitting the "token" when translating "non-fungible token" into Chinese, and on the technological level, with some abandoning the global Ethereum blockchain infrastructure altogether.

As China has doubled down on banning all crypto transactions this year, the localization of the NFT craze is another example of how Chinese blockchain believers try to decouple blockchain applications from cryptocurrencies in order to protect the former from regulatory attention.

It's unclear how successful that effort has been. "We haven't seen how a clear line can be drawn between NFT and crypto without compromising the value proposition of NFT," Kelly Pu, a Hong Kong-based partner of consulting firm Bain & Company, told Protocol.


Stay away from Ethereum

In the West, NFTs are almost inseparable from crypto. The majority of NFT artworks, including the best-known ones like CryptoPunks or Bored Apes, are minted on the Ethereum blockchain. Therefore, sellers and buyers have to own Ethereum wallets and ETH, the second-largest cryptocurrency in the world, to make any NFT transactions.

The problem: Mining, trading and exchanging crypto into fiat money is banned in China. Without legal access to ETH, there's no safe way to sell or purchase an NFT the way it is done outside China. "If someone wants to develop NFTs in China, they have to be decoupled with overseas cryptocurrencies or even the blockchain infrastructure like Ethereum," Jay Si, a Shanghai-based attorney at the Chinese law firm Zhong Lun, told Protocol.

Chinese companies, big and small, have come up with varying home-brewed solutions.

Alibaba and Tencent have abandoned Ethereum and turned to their own, semi-private blockchain infrastructure. Both companies said the NFT artworks they are selling are minted on their respective "alliance chains," a form of hybrid blockchain that isn't completely decentralized but instead controlled by a selected group of members.

The two Chinese tech giants have been developing these alliance chains since at least 2019, sometimes in collaboration with government bodies, to make use of blockchain technologies without the risks that come with decentralization. As the demand for NFTs rises, these hybrid blockchains have come in handy.

But in the mind of die-hard blockchain fans, the sacrifice of decentralization and therefore transparency undermines the very thing that makes NFTs different from traditional art transactions. "Like many others, I don't think NFTs based on alliance chains can be called 'NFTs,'" Shi Qi, founder of the Hangzhou-based NFT marketplace startup NFTCN, told Protocol.

Instead, her company uses an Ethereum sidechain as the infrastructure but strictly separates all crypto-related procedures from its buyers and sellers, meaning "the users don't feel the existence of cryptocurrencies even though they are using a public blockchain," Shi said.

She declined to elaborate on the technical details but said the company has consulted attorneys and is closely following Chinese policies. NFTCN says that even though it was only incorporated in May, it is now working with over 1,000 Chinese artists and has processed over 10 million RMB worth of NFT transactions.

Si, the Shanghai-based attorney, warns that an Ethereum-based approach will expose companies to more risks than the approach taken by Alibaba and Tencent. "The main obstacle will be legal compliance. [Companies] need to be especially careful," he said.


The less finance-y, the safer

No matter what workarounds these Chinese NFT marketplaces choose, the result is that most NFT transactions in China feel detached from cryptocurrency. Artworks are priced directly in RMB and transactions are made with popular non-crypto payment methods like bank cards, Alipay and WeChat Pay.

This difference is crucial, as blockchain and crypto have experienced very different receptions from Chinese officialdom. Blockchain made its way into China's 14th Five Year Plan — the country's most important economic blueprint — named as one of the key technology sectors the country is looking to build, giving it instant credibility and elevated standing. By contrast, crypto activities have been essentially banned and purged from the country. To survive and even prosper, this means blockchain companies need to actively dissociate themselves from crypto in their branding, no matter how close the technologies actually are.

The primary reason behind this discrepancy is the Chinese government's acute aversion to financial risks. Cryptocurrencies are notorious for their volatile values, which makes speculation rampant; they also provide new ways for money to be laundered and for capital to leave China. In June, Zhou Xiaochuan, China's former top central banker, publicly commented that crypto is not a good payment method because it has also been traded as a form of digital asset.

Outside China, an NFT can be an investment, but within China, major players are downplaying the financial aspect. When Alibaba found out in June that one of its NFT products was being resold at thousands of times its original price, it swiftly banned NFT resales on its second-hand marketplace Xianyu. When Tencent launched its NFT trading app in August, the artworks on the app were banned from being resold or even given as gifts.

Instead, these NFTs are often branded as a way to support artists and show off one's contribution to their work, much the same way a fan would buy a record to support a musician and display it at home. By downplaying NFTs' financial value and amplifying their cultural cachet, Chinese marketplaces hope to reduce unwanted attention from regulators.

That is, of course, not guaranteed. While no NFT-specific regulations have come out in China yet, the risk of it happening is high. "Blockchain, telecommunications, cryptocurrency, art auctions: There are heavy domestic regulations in every stage of the process. I believe the government will take action the moment illegal practices emerge," the attorney Jay Si said.


Is it still worth it without the crypto?

Much of what's unique about NFTs vanishes when crypto is taken away, Kelly Pu, the consultant, said.

In a traditional NFT transaction, crypto makes the exchange "frictionless and trustworthy." "Without it, developers/publishers/marketplace will have to go through an intermediary to manually process the transactions, which incurs friction and cost, and not to the best interest of developers/publishers," Pu wrote to Protocol. She can't see a viable business model under current regulations in China.

Nevertheless, the market is teeming with activity. The fact that NFTs in China aren't really connected with crypto hasn't bothered Chinese mainstream brands, events and artists. The 2022 Asian Games, set to be held in Hangzhou, China, released 20,000 NFT torches on Alipay, the payment app of Alibaba. Mainstream artists with state affiliations are putting their work out as NFTs on auction. Some of the largest deals, like the internationally acclaimed artist Cai Guo-Qiang's debut NFT work that sold for $2.5 million, happened in Hong Kong, where crypto transactions are still legal. But that difference is often lost in the hype.

The media attention itself, irrational as it often is, is important, added NFTCN founder Shi Qi, and it's a major reason why more artists are now producing NFT work or at least considering it. "60 million RMB for an avatar," one headline exclaimed. "The unstoppable trend of artwork with sky-high prices. Is NFT a gimmick or a real investment opportunity?" asked another.

"When there is news coming out frequently about which person sold which work for how much, [the artists] are finally beginning to pay attention and learn about decentralization," Shi said. "The attention it [has] brought is helping this industry develop."

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