Regulatory Experts Alleviate Our SEC Scaries

Regulatory Experts Alleviate our SEC Scaries

Since crypto’s inception, the regulatory landscape in the United States has perpetually remained in a zone of ambiguity. Yet, projects built and launched networks, products and tokens in the face of this uncertainty. In June, the SEC filed complaints against two the the world's largest crypto exchanges, Coinbase and Binance, raising concerns about regulatory compliance in the crypto space.

The SEC claimed the the exchanges have been operating as unregistered securities exchanges, brokers, and clearing agencies, and this failure to register has reportedly deprived investors of significant protections. In the lawsuit against Coinbase, the SEC alleges that several tokens offered by the exchange qualify as securities.

This barrage of crypto regulatory news and enforcements has given many crypto holders a case of the “SEC scaries”. To understand the SEC’s recent activities and alleviate concerns, we hosted a discussion with three regulatory experts.

• Rebecca Rettig, Chief Policy Officer, Polygon Labs

• TuongVy Le, Partner and Head of Regulatory & Policy, Bain Capital Crypto

• Marisa Tashman Coppel, Senior Counsel, Blockchain Association

In this conversation, we delve deep into the role of the SEC, the challenges of categorizing crypto assets, and the potential implications for issuers and holders of digital assets. We will also discuss the path to regulatory clarity for digital assets and share tips on how you can stay updated and get involved in promoting clear blockchain regulation.

We encourage you to listen to the full conversation on Twitter Spaces here.

Maggie: What is the role of the SEC and why is this regulatory body important?

Vy: The Securities and Exchange Commission (SEC) is responsible for regulating the securities markets in the United States. A security is defined as a financial instrument that includes various types such as stocks, bonds, investment contracts, and notes, which was defined by the Supreme Court in the famous Howey Case. The SEC has jurisdiction over securities trading, including national securities exchanges, securities broker-dealers, and securities clearing agents. The SEC's role is to ensure fair trading, market integrity, and investor protection. Securities laws are designed to facilitate fair investment opportunities for investors and to enable companies to raise capital in a regulated manner.

Maggie: Why is it challenging to categorize crypto assets as commodities or securities?

Rebecca: Between 2013 and 2017, a crowdfunding mechanism called Initial Coin Offerings (ICOs) emerged in the cryptocurrency space. ICOs involved raising funds from retail investors by promising returns in exchange for money. The SEC began considering whether these ICOs fell under the category of investment contracts, based on the Howey Test, which evaluates factors like investment of money, common enterprise, expectation of profit, and reliance on the efforts of others.

During an ICO, individuals would send Bitcoin or cash in exchange for tokens in a new blockchain network or application. The tokens were expected to have value due to the efforts of the project team. The fundraising mechanism of ICOs resembled investment contracts. However, there is debate among lawyers about whether the tokens themselves qualify as securities.

Some argue that the tokens are not securities, but rather the promises made regarding their value and the contractual arrangements associated with them. In 2015, the CFTC found in an enforcement action against Coinflip, Inc. that Bitcoin and other virtual currencies are defined as commodities. This created a jurisdictional conflict in the United States over whether tokens and fundraising mechanisms are considered securities or commodities.

Maggie: Why can't we create new regulatory classifications or categories for crypto assets?

Rebecca: Different countries have adopted various classifications for assets, including cryptocurrencies, based on their functionalities. In the European Union (EU), for example, regulations have been implemented that consider the specific features and uses of tokens. These regulations differ depending on whether the tokens are stablecoins or used for validation on a network, among other factors.

In the United States, the regulatory landscape is characterized by two prominent agencies: the SEC and the CFTC. The US regulatory framework has been well-established and is often viewed as robust due to its historical effectiveness.

Marisa: Up until now, the narrative with crypto and digital assets has been largely financial. And now it's starting to change with the various different use cases with Web3 and the story of ownership really being highlighted in a more robust way than it has been historically. But it's easy for the regulators to hold on to that financial narrative and try to fit it into two buckets that we have (the CFTC and the SEC). Part of the work that we're doing at the Blockchain Association is to try to put other use cases in front of members of Congress and also regulators themselves to help them understand that it doesn't always have to be financial.

Vy: The Treasury Department and federal banking regulators have also been involved in examining and providing guidance on cryptocurrencies. They began exploring the regulatory aspects of crypto before the SEC or the CFTC became actively involved. For instance, the regulation of payment stablecoins, a specific type of cryptocurrency, is currently being addressed through legislative proposals in Congress. The focus of these proposals is to establish a prudential framework for regulating payment stablecoins, which falls outside the jurisdiction of the SEC or the CFTC.

Maggie: What happens when tokens are named as securities by the SEC?

Vy: Over the past year, the SEC has taken the approach of considering certain tokens as securities in the context of lawsuits against individuals engaged in unlawful activities related to those tokens. Instead of directly charging the tokens themselves, the SEC has filed cases against individuals for offenses like insider trading, alleging that specific tokens were involved. This situation puts the tokens in a challenging position as they cannot directly defend themselves against these accusations.

Recent cases involving Coinbase and Binance resulted in the SEC alleging that some of the tokens listed on these exchanges were unregistered securities, leading to market reactions such as Robinhood delisting some of these tokens. While this approach by the SEC puts token issuers in a difficult position, it is something that the SEC has done multiple times.

Maggie: What should users holding these digital assets consider?

Marissa: It's important to note that when the SEC alleges that a token is an unregistered security, it is merely an allegation and not a definitive ruling. The SEC's complaint expresses their view of the law and their assertion that the asset in question is an unregistered security. However, no court has made a final ruling on this matter. For the SEC to proceed with an enforcement action based on this allegation, they would need to make additional allegations and eventually have the case ruled upon by a court. In the cases involving Coinbase and Binance, both companies are prepared to contest the allegations so there is a possibility of obtaining a favorable ruling.

Maggie: Separately from the recent lawsuits, Coinbase has been engaging with the SEC. In 2022, Coinbase made a request for regulatory clarity from the SEC, and recently asked a federal court to force the SEC to respond to it. What’s going on here?

Rebecca: Coinbase has been in discussions with the U.S. Securities and Exchange Commission (SEC) regarding compliance and registration. They have not received a clear path forward from the SEC. As part of the process, anyone can file a request for rulemaking. The SEC is currently engaged in a separate rulemaking process to update the definition of an exchange, which includes considerations of decentralized finance (DeFi) protocols and validators. Coinbase has requested additional rulemaking specifically related to digital assets, but the SEC has not indicated whether they will address it or how they will handle the rulemaking process. Coinbase has filed a rare legal action called a request for a writ of mandamus, asking the Third Circuit court to order the SEC to engage in rulemaking. In response to the court's order to explain their actions regarding rulemaking, the SEC stated that they have the right to bring cases against violators of existing laws and that they are considering rulemaking. The SEC has consistently indicated that they are not obliged to respond to rulemaking within a specific time frame due to other regulatory priorities.

Maggie: What is the path to gaining clarity for digital assets?

Marisa: The two main paths for shaping regulations around digital assets are through agency rulemaking and legislation by Congress. Agency rulemaking involves the process of creating rules by engaging with the public through notice and comment, eventually finalizing the rules based on public input. However, the power to create laws lies with Congress. Congress can draft legislation that provides more clarity on how to regulate digital assets and can delegate regulatory authority to specific agencies.

Maggie: How should the audience stay up to date with all this regulatory activity? 

Marisa: Certain organizations in the space that work on crypto policy such as Coin Center, Blockchain Association, and DeFi Education Fund. Laura Shin's Unchained Newsletter, and crypto press newsletters and podcasts are great ways to keep up with the policy world, as well.

Maggie: How can members of SheFi get engaged in helping promote clear blockchain regulation?

Marissa and Rebecca: Call your congressperson and try to have a meeting with them or their staff and discuss the importance of digital assets. Reaching out to your representatives in Congress and telling them that you care about crypto and you want to see good crypto legislation in the United States to keep innovation and jobs here.

We encourage you to listen to the full conversation on Twitter Spaces here.

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