Let Congress decide who will regulate crypto
Turf battles are nothing new in Washington, but the current furor over which federal agency has the authority to regulate trading in digital assets exposes deep dysfunctions in the modern administrative state. The battle goes far beyond which agency gets more power; the future of the internet may be at stake.
The United States is somewhat unusual in having different agencies to regulate securities, such as stocks and bonds, and derivatives, such as options, swaps, and commodity futures. The Securities and Exchange Commission (SEC) is the regulator of the former, while the Commodity Futures Trading Commission (CFTC) regulates the latter. But jurisdictional boundaries are sometimes blurred, thanks to overlapping mandates between the agencies, as well as with other state and federal financial regulators.
Division of labor and competition may offer some advantages, but in this case the lack of a clear regulator has meant that digital assets have fallen through some jurisdictional cracks. The 60 million Americans who trade cryptoassets do so either overseas, at the mercy of foreign law, or under state money transmission laws designed for payday lending, not financial markets.
It turns out that which agency has jurisdiction matters a lot. While the SEC regulates through detailed rules, the CFTC more often uses a principles-based approach. The former provides security and rigidity, while the latter provides greater flexibility. While strict SEC enforcement may limit downside risk, the CFTC model is more likely to encourage investment in innovation.
These different approaches are also reflected in how the agencies have approached emerging markets for digital assets. CFTC-registered exchanges have been approved to offer Bitcoin derivative products for several years now. Indeed, the CFTC has a history of promoting and regulating financial innovations. Although originally tasked with overseeing vanilla hedges on agricultural commodities, the CFTC has used its broad, principles-based approach to allow countless new derivatives on everything from interest rates to the weather.
Meanwhile, SEC staff have sat on a number of crypto exchange-traded fund (ETF) registrations, and the commission has repeatedly rejected proposals from firms to list a Bitcoin ETF product. In fact, the commission has largely chosen to regulate crypto through enforcement actions against entities it accuses of offering “unregistered crypto-asset securities.” This has led to some bizarre outcomes. One project can explode without consulting the SEC, raise billions of dollars and ultimately pay only a small fine to the commission, while other projects actively seek SEC guidance before launch and are met with staff silence and stares, thus never reaching the starting blocks.
The SEC and CFTC have had battles over jurisdiction before. When stock market index futures boomed in the late 1970s, the agencies signed the Shad-Johnson Accord, which gave each agency a piece of the action. The agreement finally found its way into law a few years later, which is as it should be. Congress, not agencies, should determine jurisdiction.
That’s exactly what recently introduced bipartisan legislation — sponsored by Senate Agriculture Committee Chairwoman Debbie Stabenow (D-Mich.) and Ranking Member John Boozman (R-Ark.), along with Sens. Cory Booker (DN.J.) and John Thune (RS. D.) – seeks to do. The Digital Commodities Consumer Protection Act of 2022 would define cryptocurrencies such as Bitcoin and Ethereum as “digital goods” subject to CFTC jurisdiction.
The logic is good. Bitcoin, Ethereum and most other crypto projects do not have managers, which look more like currencies or gold, which are not under SEC authority. If, however, companies issue digital “tokens” that confer the same rights and obligations on “tokenholders” that would normally pass to shareholders, the SEC would have jurisdiction. Simply calling a stock by a different name should not make it immune from securities regulation.
Critics of the bill argue that the SEC is the tougher policeman, but it is ill-suited to encourage financial innovation. Some standards and regulations are necessary to invest on land and to protect investors, but entrepreneurs and investors cannot be left to worry that regulators might come knocking one day and claim they’ve been breaking securities laws all this time. The CFTC is the right agency to deliver sensible regulation that balances the needs of investor protection with regulatory discretion to encourage innovation.
Crypto is in its infancy. Claims that blockchain technology will offer alternatives to sovereign currencies, enable peer-to-peer investment, reduce transaction costs throughout the financial system, and even create a better Internet remain speculative at this point. But the potential is there, and companies are investing billions. There will be winners and losers, and hopefully breakthroughs.
A robust trading system in the US is essential to ensure that good ideas are funded, while fraudsters are deterred and punished. If Web 3.0 and other blockchain-based technologies are to emerge from American entrepreneurs and enrich American investors, crypto markets and investors need regulatory certainty.
Geoffrey A. Manne is president and founder of the International Center for Law & Economics (ICLE). M. Todd Henderson is the Michael J. Marks Professor of Law at the University of Chicago Law School and an ICLE Academic Affiliate.
