Crypto and the US government are headed for a decisive showdown
Maybe see it the law is going to come for crypto sooner or later, the industry has rallied behind an effort to enact a new regulatory framework just for crypto – one that spares the full wrath of Howey test. Companies, including Coinbase, have petitioned the SEC to issue new, digital-currency-specific rules. In the Senate, meanwhile, two different bills would transfer power from the SEC to the Commodity Futures Trading Commission, which is widely seen as lighter-touch and more industry-friendly. At any crypto conference, and in countless op-eds and congressional hearings, you can hear crypto leaders and their supporters complain about the unfairness of “regulation by enforcement.” The government has not provided clear rules, they claim, leaving companies in the dark about how to proceed without being sued.
“The regulatory landscape in the US is murky at best,” says Brandon Neal, CEO of Euler, a decentralized finance project. “Not only does it create a lot of confusion in the industry and the public, but I think it potentially stifles innovation.”
To many securities law experts, however, there is nothing obscure about it. “You don’t run afoul of the SEC’s disclosure laws if you file and disclose,” says Roger Barton, managing partner of Barton LLP. “I believe that the securities laws are clear enough. I don’t know that the SEC needs to make specific rules in relation to crypto.”
It sounds intuitive that new technology requires new rules and regulations. But many securities lawyers believe the general approach exemplified by Howey test is part of why US securities regulation has worked quite well over the years. The downside to providing clarity – and this is why we don’t define ‘fraud’ in the law either – is that as soon as you write down what the parameters are, you’ve given a road map to get around it, says Hilary Allen. “So the test has to be flexible. The downside to that is that there’s going to be some uncertainty in how it’s used.”
Realistically, none of the bills in Congress are likely to become law anytime soon, and the SEC is not going to go into the ground and issue new rules. That leaves “regulation by enforcement” as the only item on the menu. No one can say exactly what will happen to the crypto industry if the SEC starts winning these big cases. The penalty for issuing an unregistered security can range from fines to prosecution if fraud is involved. Perhaps most alarmingly for the industry, anyone who invested in something later deemed to be a security is entitled to their money back. That means crypto startups whose tokens have been written off could face massive class-action lawsuits. Potential crypto-entrepreneurs, meanwhile, are likely to be deterred by the effort and cost involved in registering a security with the SEC.
“The disclosure requirement would increase costs,” Diamond says, “and probably 80 to 90 percent of these projects would never get off the ground.”
The industry largely seems to agree – hence the resistance. In a legal filing, Ripple claims, “To require XRP’s registration as a security is to weaken the main utility. This tool depends on XRP’s near-instant and seamless settlement of low-cost transactions.” More broadly, opponents of the SEC’s approach say it will kill innovation and chase all the most talented crypto-entrepreneurs to countries with more lax regimes.
Whether this would be good or bad ultimately depends on some philosophical questions about crypto. If you think cryptocurrencies are a mind-blowing innovation that will unlock all sorts of previously impossible use cases, then you might think it’s crucial to craft a nimble regulatory regime that helps the sector thrive at the expense of elaborate investor protections. If, on the other hand, you’re not convinced that crypto has done anything other than create a speculative asset bubble, you probably don’t. You might instead conclude that an industry that cannot exist if it has to follow laws meant to protect investors is not an industry worth saving.
