As crypto thaws, regulatory issues could drive investment abroad

After a rough 2022 where the cryptocurrency market crashed, coin prices are turning around and are now nearing year-long highs. But now advocates worry that regulatory confusion in the US could mean new investment goes overseas.

“This is a global technology. Markets tend to overcorrect based on the US,” said Sheila Warren, CEO of the Crypto Council for Innovation. “The global picture is really telling, and that’s what happened here.”

“Consumer confidence has never left globally,” she added.

The two biggest cryptocurrencies, Bitcoin and Ethereum, are up 82 percent and 59 percent respectively since January, as Congress grapples with how to respond to last year’s collapse of the market exchange FTX and stability concerns in the broader crypto industry.

“The collapse of FTX last fall, and the subsequent shockwaves it sent through the crypto sector, revealed that the status quo is simply unsustainable,” Duke University finance lecturer and crypto critic Lee Reiners told the Senate Banking Committee in February.

These hearings have resulted in a flurry of regulatory proposals from lawmakers, ranging from regulating crypto more like stocks and bonds to efforts to better differentiate it from traditional banking.

While FTX’s collapse reduced confidence in the entire industry, it was not the only recent marker of instability. Earlier this year, a South Korean man was charged with manipulating the price of his cryptocurrencies Terra and Luna, which crashed last year.

Crypto-adjacent ventures such as non-fungible token art have also seen massive boom and bust cycles in recent years. While major companies and celebrities launched NFT lines last year, the digital asset market is now almost dead compared to its peak.

All of this is fueling the debate about how to regulate cryptocurrencies, which cuts across the lines of both investment instruments and currencies.

Mixed messages from congressional hearings have left the door open for regulators like the Securities and Exchange Commission to decide their own path of regulation without Congress, which had led to uncertainty among those in the industry, according to Blockchain Association lobbyist Ron Hammond.

“It’s been pretty haphazard … what we’re seeing with the SEC and (Commodity Futures Trading Commission) in particular, they’re not even agreeing with themselves on exactly what regulation makes sense,” he said.

Hammond criticized the SEC for imposing enforcement measures against crypto firms regardless of how closely they work with regulators, which increases costs and makes it more difficult to invest in the US market.

But these SEC notifications are just the agency following the law, Reiners told The Hill.

Last month, the SEC published a warning for investors asking them to be cautious about cryptocurrency investments. Similarly, the Federal Reserve joined other agencies in leveling out warnings to banks earlier this year, encouraging financial institutions to apply more thorough risk management to accounts involving cryptocurrency.

The Fed warning came after the collapse of crypto-heavy Silicon Valley and Signature banks, two of the biggest bank failures in US history.

“I don’t see a situation where developers are really clamoring to come to the US or start in the US because it’s so confusing,” Hammond said. “We have seen companies now start up in Paris, Lisbon, England and Singapore because there they at least know the rules of the road.”

“We’ve noticed that (firms) go to countries that have rules on the books just because they know what they can and can’t do,” he added.

A study by crypto firm Electric Capital found that fewer crypto developers live in the US now than years ago. Analyzing codebase GitHub contributions, around 29 percent of crypto developers now live in the United States compared to 40 percent in 2017.

But in the same time period, the number of developers globally has increased almost tenfold, the study found, and that the number of developers continued to increase even though prices collapsed last year.

“The antipathy toward crypto is a uniquely American phenomenon,” Warren said. “The United States is uniquely myopic on this.”

But Reiners is more skeptical of claims of a “brain drain” in the US crypto industry.

“I think that claim is exaggerated. And I think it’s being intentionally used to try to motivate lawmakers in the United States to pass a regulation that’s favorable to industry interests, he said. “I just haven’t seen—it may exist—but I just haven’t seen evidence to support that thesis.”

Some of that antipathy is driven by simply not understanding the technology, said Hammond, who has been working with lawmakers on crypto legislation since 2017. Now, many more lawmakers are involved.

“The good news is that it went from three to five members who knew what this was in 2017 to 100 or 150 now,” he said. “We’re definitely seeing a trend now where it’s largely based on age. We’re especially seeing the younger members of Congress, and the regulators as well, being much more open to the technology, the promise of it.”

Congress has moved from broad reform to a piecemeal regulatory strategy because of the difficulty of passing major laws in a divided body, Hammond said. The piecemeal strategy also allows Congress to move more slowly and ensure that any enacted regulation is actually effective, according to Reiners.

“The important thing from a regulatory standpoint is that we get it right,” Reiners said. “I see this more as a tortoise and hare situation.”

“The devil is in the details,” he added.

Both Hammond and Reiners expect that the most likely progress will be made in regulating stablecoins, cryptocurrencies that are tied to traditional currencies and can theoretically be used as a stable financial asset.

Stablecoin regulation has been a priority for Rep. Patrick McHenry (RN.C.), Chair of the House Financial Services Committee. The Biden administration has also called for greater regulation of stablecoins, expressing concern about their impact on the assets used to keep them stable.

“Stablecoins are a fairly common bridge between crypto and traditional finance,” Hammond said. “I think it’s a great way for members of Congress who may not know crypto to say, ‘At least I know traditional finance,’ to understand a little bit better what this is.

As for the best interests of the industry, as Congress considers legislation, Reiners believes that no news would be good news.

“I think they are far too focused on regulation. Whatever happens will happen, but the industry needs to think about building tools, products and services that people actually like and find useful, he said.