The SEC is putting its cards on the table claiming that DeFi falls under the securities rules

The US Securities and Exchange Commission’s (SEC) warning shot last week that decentralized finance (DeFi) could be lumped into the expanded definition of what makes a stock exchange is the latest move to formalize what Chairman Gary Gensler has said: Crypto belongs at home in the securities world and will be regulated that way.

The crypto industry has long called for specific rules or guidance from the SEC that would give digital asset companies certainty about how to comply or properly steer clear of the agency’s jurisdiction. The agency’s decision to explicitly fold DeFi into its proposal for a new exchange definition further underscores that the crypto-finance movement will not receive tailor-made regulations. On the contrary, the agency is making targeted adjustments to its rules to ensure that crypto is kept within existing securities regulations.

“We see this new technology, and we’re not willing to make any adjustments to accommodate it,” SEC Commissioner Hester Peirce said Monday on CoinDesk TV, further detailing her criticism of the move last week that she opposed. “If you don’t look exactly like established firms, we’ll just manage to kill you or drive you offshore or force you to turn yourself into a centralized entity.”

The latest maneuver, in which the agency voted 3-2 to reopen an existing proposal to expand how it defines operations that must be regulated as securities exchanges, aims to bring in new technologies that will now include DeFi. To comply with this and other SEC initiatives, crypto operations must decide whether to make fundamental changes – such as increased centralization – and some of these changes could threaten what is different about their approach to money and investments.

“The SEC is simply seeking to ban DeFi protocols in America,” said Jason Gottlieb, a lawyer who handles crypto clients at Morrison Cohen in New York. “In doing so, the SEC is substituting its own opinions for the prerogative of Congress on a major issue central to the future of the American economy.”

Gottlieb said the change “would sweep decentralized software protocols into a regulatory framework that wasn’t built for them and that they literally, technologically, cannot comply with.”

Gensler stuck to his usual message as the commission voted on the exchange definition proposal, which is now open for a 30-day comment period before the rule can be finalized in another vote.

“Investors in the crypto markets must receive the same time-tested protections that securities laws provide in all other markets,” Gensler said.

His SEC has now mostly set up its pieces on the regulatory battlefield:

“Nothing about the crypto markets is inconsistent with securities law,” Gensler said in testimony prepared for a Tuesday hearing of the House Financial Services Committee. The chairman is facing the Republican majority committee for the first time this year and is expected to be grilled on his crypto positions, which often run afoul of GOP preferences.

“Calling yourself a DeFi platform, for example, is not an excuse to defy securities laws,” Gensler intends to tell lawmakers.

At this stage, the SEC’s approach to crypto can likely only be steered in a different direction by legislation from Congress or developments in litigation, such as the outcome of its legal dispute with Ripple Labs over whether XRP was an unregistered security.

The latest enforcement action against the exchange Bittrex on Monday – and a similar case last month against Beaxy – puts to work Gensler’s rhetoric that today’s crypto exchanges are wrongly trying to fulfill multiple (and sometimes conflicting) roles without registering. Gensler has often criticized crypto platforms for setting themselves up as exchanges, brokerages, custody operations and clearinghouses — each of which should be registered for federal oversight.

But DeFi proponents had hoped that their decentralized approach would keep them outside of such regulations by setting the transactions on a peer-to-peer level without companies acting as middlemen. If the SEC approves a final version of the proposed exchange definition, calling the transactions “decentralized” is not enough.

“If pushed, there will be ways to innovate,” said Joshua Ashley Klayman, who heads the crypto practice at Linklaters in New York, saying the industry is full of “exceptionally smart people” who will find ways to keep going. “It may not look like it does now, but I think the industry will continue to evolve.”

Commissioner Peirce, who has routinely been called “Crypto Mom” ​​for her past support of the sector, said this latest move on DeFi marks a “very important moment.” Several of the questions she tried to ask the SEC’s legal team before the commission’s vote were met with uncertainty from staff. The agency’s proposal did not define DeFi or say exactly how those transactions would fit into the rules, but SEC officials said such operations would be measured on a case-by-case basis against the standards.

“At the end of the day, it’s going to be the enforcement department that’s going to end up making the call,” Peirce said.