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How Has Blockchain Technology Fared in China? –from a case study of LRB to the most recent NFT cases

March 27, 2023

The disputed work Chubby Tiger Receiving Vaccination (Image source: TheTMCA.Com)

By Cynthia Li

Little Red Book (“LRB” in the rest of the blog), the leading Chinese lifestyle social media and E-commerce platform indulges its over 200 million monthly active users with a metaverse experience. The company launched an in-app feature called “R-Space” in November 2021,^{^[1]} providing LRB users with a one-stop shop to buy and showcase blockchain-based digital collectibles.^{^[2]} Activating R-space is no fuss. LRB requires interested users to submit their legal name, phone number, Resident Identity Card number, and a short video to the platform for verification purposes. Once the security check passes, the “R-Space” tab will appear on the user’s profile page. In the spirit of community building, not only does a collector have access to her own collection, but she can also enjoy others’ collections by visiting their R-Space.

Digital fashion is one of the most popular categories that collectors buy in R-Space.^{^[3]} LRB seized the lucrative opportunity to monetize Gen-Z’s openness to owning something entirely virtual and craze for fashion items. Head of R-Space Kirin Lee explained that luxury brands, streetwear, and virtual fashion would be central to the platform’s long-term NFT strategy.^{^[4]}Trendsetters shop for digital garments from R-Space, taking pictures of themselves wearing designer pieces that cannot be manufactured in the real world and sharing the pictures with fans. This rise of digital fashion enhances LRB’s authority as the go-to lifestyle app.

Looking into R-Space

R-Space is also a marketplace for NFT collectors. The process of buying an NFT in R-Space is arguably easier than on OpenSea. Collectors do not have to create a wallet or buy cryptocurrency before any transactions. Collectors simply start shopping with the Chinese currency RMB, and R-Space holds their collections in digital wallets. Notably, all of the NFTs purchased in R-Space are minted on chains that are monitored by the government. Examples include Tencent’s Zhixin Chain, a consortium that is monitored by the company,^{^[5]} and Conflux, the only government-endorsed permissionless chain (also known as public blockchains) in China (more on this in later paragraphs). Maybe you have already guessed, Ethereum, Arbitrum, and other permissionless chains popular for NFTs are not endorsed by the government, and thus projects that draw enormous attention such as BAYC are not sold in R-Space.

Another difference between R-Space and marketspaces in the United States is that trading between consumers is prohibited. Collectors can only purchase NFT for their own enjoyment or to gift a friend. The lack of a secondary market effectively strips any financial value of NFTs sold in R-Space. However, R-Space NFTs still share some similarities with the regular NFTs: they are based on blockchain technology, digital, non-fungible, scarce, and accessible to the public.^{^[6]}

The exclusion of the NFTs on “permissionless” chains greatly limits the collector’s choice. LRB salvages this shortcoming by collaborating with those artists whose NFTs are minted on permissionless chains. One of the latest such collaborations is between LRB and Degen Toonz,^{^[8]} a series of 8888 NFTs on Ethereum Blockchain, also one of the most sought-after NFT projects in 2022.^{^[9]} Degen Toonz’s charismatic pop culture design gathered a sizable collector base in China before the collaboration.^{^[10]} The partnership entails multiple use cases on LRB for holders of Degen Toonz, such as posting on the main feed and using it as their profile picture. While complying with the government’s regulation on cryptocurrency, LRB became more attractive to NFT collectors by collaborating with loved NFT artists, thereby establishing its reputation as a platform for NFT enthusiasts. LRB provides foreign creators an opportunity to expand their collector base in China. The platform also enabled Chinese NFT collectors who collect from foreign creators to build communities on their native social media.

View of the author’s R-Space. The author is the 143rd owner of the fairy wings which is limited to 500 pairs. Owners can “try on” the wings by uploading a full-body picture of themselves — This blog’s author’s profile page (personal information is blurred). The entrance of “R-Space” is highlighted with a yellow textbox

LRB went to Meta(verse)

LRB made an unprecedented leap toward the metaverse on January 24, 2023, by integrating Conflux Network, a Layer 1 permissionless blockchain. The mission of Conflux Network states that “Conflux is building a borderless transactional and technological ecosystem for globally-minded crypto projects, extending beyond China to North America, Russia, Latin America, Europe, Africa, and the rest of the world.” Conflux Network is the first permissionless blockchain integrated by the platform.^{^[11]}This integration is groundbreaking because permissionless blockchains like Conflux Network allow its users to participate in consensus without authorization from the administrator. Conflux Network announced on Twitter: “This integration brings NFTs a step closer to mass adoption, where people are actively using Web3 technology on a daily basis within a Web2 system.” Ming Wu, Conflux’s chief technology officer is optimistic for a bright metaverse future in which many more Chinese companies will integrate with permissionless blockchains. LRB collectors gain more metaverse freedom from this integration which displays NFTs minted on Conflux in R-Space after going through a predefined process. Under Conflux Network Official’s announcement on Twitter, the company commented “this integration brings NFTs a step closer to mass adoption, where people are actively using Web3 technology on a daily basis within a Web2 system.” Ming Wu, Conflux’s chief technology officer is optimistic for a bright metaverse future in which many more Chinese companies will integrate with permissionless blockchains.

Conflux is making bigger waves in metaverse development in China. On February 15, 2023, Conflux Network confirmed a partnership with China Telecom to develop and pilot a blockchain SIM (BSIM) card service in Hong Kong. The BSIM is alleged to make Web 3.0 and the Metaverse more accessible for China Telecom’s customers.^{^[12]} This partnership led to a 20% surge of the Conflux native token CFX in the hours following the announcement.^{^[13]} Nevertheless, the metaverse in China is not as free as Conflux Network claims. China has a complex regulatory environment for digital spaces.

Cryptocurrency and Digital Collections

China has been a firm opposer of cryptocurrency. In September 2021, the most powerful regulators, including the central bank, issued a crackdown on cryptocurrencies, which is essentially a blanket ban on all crypto transactions and mining.^{^[14]} The government justifies the ruthless ban because it claims cryptocurrency speculation could disrupt the country’s economic and financial order.^{^[15]} LRB’s bundling up with creators and integrating Conflux Network, although apparently at odds with the official ban on cryptocurrencies, is safely within the regulatory limits.

A collage of cool digital garments posted by LRB users. LRB upgraded its simulation technologies as a part of its fashion strategy to enable hyper-realistic try-on. ^[7] (Image source: R-Space实验室）.

To understand why LRB’s business maneuvers are perfectly legal, keep one important distinction between blockchain technology and cryptocurrency in mind; the Chinese government’s hostility only extends to cryptocurrency activities, yet the government has advocated for blockchain technology.^{^[16]} In a speech in 2019, President Xi Jinping said blockchain technology is an “important breakthrough in independent innovation of core technologies”.^{^[17]} Since then, the government has built Blockchain-based Service Network, a global infrastructure to deploy and operate blockchain applications.^{^[18]} Also, note that Conflux Network is a singular case –it is the only regulation-compliant permissionless chain in the country. No permissionless chain can integrate with a Chinese business without the government’s blessing.

Because of the specific regulatory environment of cryptocurrencies in China, NFTs are promoted and transacted differently in China than in the United States. NFTs transacted in China, such as the ones touted by R-Space, are officially named “digital collectibles” (“数字藏品”), despite the fact that NFT is still widely used in daily communications. The market avoids using the direct translation of NFT to dodge regulatory risks. The word “ token,” as in non-fungible-token, is likely to cause investigation from a government that bans cryptocurrencies altogether. The localized term “digital collectibles” sufficiently describes the digital properties’ nature and de-emphasizes NFT’s transactional value. Essentially, the market has spoken in codes.

The fact that digital collectibles can only be purchased by RMB alludes to some transactional differences between them and the NFTs overseas. Firstly, digital collectibles can only be uploaded to blockchains co-managed by government-selected participants who have the authority to revise data thereon when needed.^{^[19]} Secondly, the government tightly controls the tradability of NFTs, preventing them from becoming securities. Regulatory documents, such as the Notice on Further Preventing and Disposing of Hype Risks in Virtual Currency Transactions, have been published to deter NFT-related hype. Moreover, there was no secondary market for digital collectibles. Platforms such as OpenSea do not exist in China. Since digital collectibles are enmeshed in so many transactional limitations, their commercialization value is far less desirable than that in the US.^{^[20]}

China Cultural Protection Chain and Digital Asset Trading Platform

In the beginning of 2023, a development led by the government made headlines. The government announced China Digital Asset Trading Platform (中国数字资产交易平台), the first secondary marketplace, would go live in January 2023. As of the time this article was written, the platform was still under construction. There is minimal information about how it will impact the market and policies. What we know is that the platform will run on a blockchain dubbed China Cultural Protection Chain. The platform will be managed by two state-owned and private entities, China Technology Exchange and Art Exhibitions China, and a private company Huban Digital.^{^[21]} The launch of this platform offers beams of hope to parties who are interested in monetizing digital collectibles in China. However, how much difference this platform would bring to the table is unknown. That the platform asks its users to pay for transactions and platform fees with RMB indicates that the government’s stance on cracking down on cryptocurrencies has not changed.

Despite the major differences between digital collectibles and NFTs, consumers around the globe see this blockchain application as both a freeing of creative expressions and a business opportunity. Getting the right intellectual property protection is crucial to safeguard NFTs in any country. The next paragraphs will briefly introduce some legal attempts to regulate digital collectibles and several cases involving digital collectibles.

Copyright law and Hangzhou Internet Court

In the United States, NFTs are likely to find their legal protection under the U.S. Copyright Act.^{^[22]} Because the Act expands its understanding of the word “writings” in response to advancements in technology, it is probable for NFT owners to find protection through copyrights. In China, Article 3 of the Copyright Law defines copyrightable works as “works of literature, art, natural sciences, social sciences, engineering, and technology” created in any of the following forms: “(1) written works; (2) oral works; (3) musical, dramatic, quyi, choreographic, and acrobatic works; (4) works of the fine arts and architecture; (5) photographic works; (6) cinematographic works and works created by a process analogous to cinematography; (7) graphic works such as drawings of engineering designs and product designs, maps and sketches, and model works; (8) computer software; and (9) other works as provided for in laws and administrative regulations.”^{^[23]}Digital collectibles are intellectual creations that can be fixed in a form, so they can be copyrightable in China as long as they merit originality and fit one of the listed categories of works.

In April 2022, China ruled its first digital collectible case. Shenzhen Qice Diechu Culture Creation Co., Ltd sued Hangzhou Yuanyuzhou Technology Co., Ltd for copyright infringement. The plaintiff Qice, a company that owns the copyright over an artwork named Chubby Tiger Receiving Vaccination, discovered that a user of Yuanyuzhou, a digital collectibles marketplace, was found selling a digital collectible that was based on the artwork. The defendant Yuanyuzhou sought protection from the Safe Harbor Principle, which states that a network service provider may be protected in a “safe harbor” against any infringement claim regarding any third-party content posted/offered on its platform if it has exercised a reasonable duty of care and it has adequately followed a notice and takedown procedure.^{^[24]}

The Hangzhou Court, which specializes in internet-related cases, found the defendant’s argument objectionable from the fact that Yuanyuzhou is unlike a traditional platform. It charges gas fees and commission fees, so it is more than a mere network service provider. The court reasoned that Yuanyuzhou must assume the duty of care to a higher degree, given it profited from the transaction. Yuanyuzhou failed to exercise its duty of care in monitoring for IP infringement, so the court held Yuanyuzhou liable for assisting the user who created the disputed digital collectible in infringing Qice’s rights. The court’s discussion on the role of marketplaces will likely set standards for future litigations. Marketplaces in China, therefore, should establish mechanisms for reviewing the copyrights of minted works to prevent potential liabilities.

Most importantly, the court found that the right to sell a digital collectible Chubby Tiger Receiving Vaccination resides with Qice, the copyright owner of the work. This finding indicates that the Chinese court believes that only the copyright owner of a work has the right to create and sell an NFT version of the work.^{^[25]} Under the copyright law in China, “…the creator/author of the relevant works is the owner of the related copyright unless otherwise agreed by the involved parties.” The court’s finding signals that Chinese legal authorities seem to hinge on the traditional principles of copyright ownership, where the owner of the original work should still be the owner of the digital collectible unless otherwise agreed by the involved parties. This preference differs from the situation in the United States where the minting process is seen as a possible generator of ownership.^{^[26]}

A more recent case became a milestone protecting digital collectibles. In December 2022, the same Hangzhou Internet Court ruled that digital collectibles are virtual assets. The dispute was between an unhappy consumer who sued a marketplace for refusing to deliver a digital collectible. In February of the same year, the marketplace published a digital collectible for sale. The product came out with a detailed purchase notice, including the listing price, purchasing times, and the total number available. The notice also asked purchasers to use the accurate phone and ID numbers in the transaction to ensure each individual can only purchase the product once. Otherwise, the order would be canceled and refunded. The marketplace canceled and refunded the consumer because he submitted inaccurate personal information. The consumer sought that either the marketplace performs the contract or compensate him 10 times the payment amount.

The reasoning of the Hangzhou Internet Court started with determining whether Chinese laws recognize and protect the underlying good. The court found that digital collectibles share attributes with traditional properties. Digital collectibles have value and scarcity. They are also subjected to transactions. The court also identified that digital collectibles are different from traditional properties because they are virtual creatures powered by technology. It concluded that digital collectibles are virtual properties that are protected by Chinese laws. Albeit laws and regulations related to the protection of online virtual assets have not been released, legal practitioners in China have advocated that they should be protected by reference to the rules on property rights.^{^[27]} The court further commented that digital collectibles are subjected to rules that are similar to those that apply to items sold on e-commerce sites.^{^[28]}

Conclusion

In summary, the metaverse hype in China is as high as it is in the rest of the world. Under the heavy-handed governmental regulations, Chinese entrepreneurs and art world participants might have to find their own way to fully exploit the value brought by blockchain technology. In the meantime, for metaverse fans, it is hopeful to see the emergence of a national-backed secondary market and progress in relevant law-making.

About the Author

Cynthia Li, a graduating senior at the University of Michigan, is the undergraduate intern for the Center in Spring 2023. She studies art history and political science. She is interested in artworks that adopt the law as a creative medium. She can be reached at yueningl@umich.edu.