How Crypto’s Meltdown Changed the Regulatory Debate


It’s harder to argue for your parents to leave you alone when you’ve just wrecked your car. As digital assets lost more than $2 trillion in value and a number of prominent businesses exploded in 2022, most notably the FTX exchange, the debate over cryptocurrency regulation shifted sharply. The turmoil also raised the stakes in a battle already brewing in Congress over which of the nation’s top market regulators, the Securities and Exchange Commission or the Commodity Futures Trading Commission, should take the lead on crypto oversight. Separately, the SEC has made it clear that it considers most digital assets to be securities, a designation that brings with it a comprehensive set of requirements, while the top US banking regulator issued a sweeping statement on the dangers of crypto.

1. How did the debate change?

The collapse of FTX and the criminal fraud charges against its co-founder, Sam Bankman-Fried, led to widespread embarrassment in Congress and among regulators. He and several other top FTX executives had donated heavily to the campaigns of Democrats and Republicans and taken a leading role in an effort to craft a new regulatory regime that reflected the priorities of some in the crypto community. While regulators pointed to the fact that crypto’s woes had not destabilized traditional financial markets, they faced criticism for failing to take action to avert the industry’s worst abuses.

2. What were crypto leaders pushing for?

Crypto leaders and financial titans such as Citadel Securities had joined an industry push from 2022 for a Senate bill that would have given the CFTC, the US futures and derivatives watchdog, more power to regulate crypto assets. Currently, the CFTC primarily oversees crypto futures. The largest crypto trading platforms argued that the assets they list should be considered commodities – that is, goods whose values ​​rise and fall separately from the profitability of the business that produces them. Even after FTX’s downfall, CFTC Chairman Rostin Benham said the implosion was an example of why his agency needs more power to oversee cryptocurrency trading.

3. What is the case for the SEC?

Many opponents of the Senate bill said the SEC’s rules provide more protection for small investors. Formed in the wake of the 1929 market crash, the SEC sees its core mission as protecting investors by requiring ample disclosure of financial entities. SEC Chairman Gary Gensler, a former head of the CFTC, has responded to criticism that traditional regulations don’t match the realities of cryptocurrency by saying the agency could waive some of the rules to better suit digital assets while ensuring investors is protected. whose exchange works with the agency to register.

4. What has the SEC done?

It has made clear that it believes many digital assets look like the kind of investor-funded businesses that are considered securities and therefore fall under the rulebook. Anxiety among crypto traders increased when the SEC took the unusual step in an insider trading case in mid-2022 of identifying nine crypto assets that it deemed to be securities.

5. What does it mean that something is a security?

For the SEC, the question is whether something resembles a stock sold by a company to raise money. Specifically, the SEC asks whether a venture involves an investment of money in an enterprise whose profits will come from the efforts of others — a four-part assessment known as the Howey test, from a 1946 Supreme Court decision. For example, in 2020 the agency sued Ripple Labs Inc., claiming that the company financed its growth by issuing XRP digital tokens to investors betting that their value would rise. If a token is designated as a security, those who create it are subject to the same set of rules that govern stock market listings, such as registration and reporting requirements. For crypto exchanges, the designation means they cannot offer for public sale any token that does not meet these requirements, in addition to imposing strict investor protection requirements for platforms.

6. Which coins are considered securities or not?

There is a lot of ambiguity in that question. US regulators agree that Bitcoin, by far the largest digital asset, is not a security. It was started by one or more unknown people who go by the pseudonym Satoshi Nakamoto and does not exist as a way to raise money for a specific project. In 2018, Ether, the second-largest token, was also considered not to be a security: While the Ethereum Foundation originally issued Ether to raise money, it had grown into something sufficiently decentralized that it probably wasn’t a security, a senior SEC official said – a position Gensler has refused to support. And when Ethereum in September switched to a new system for recording transactions that depend on coins being pooled or “staked,” Gensler questioned whether the interest offered on such deposits could make staked coins a security.

7. What did the banking supervisors say?

America’s top banking regulators – the Federal Reserve, the Federal Deposit Insurance Corp. and the Office of the Comptroller of the Currency – issued a joint statement on January 3 raising concerns about the risks posed by digital assets, such as fraud, legal uncertainty around custody and misleading statements by crypto firms. In a warning to lenders, they said it is important that uncontrollable risks are not allowed to migrate into the banking system.

8. Is this a problem elsewhere?

Yes. Rules adopted by the European Union that have not yet entered into force will attempt to regulate tokens that refer to another type of asset or function as a digital version of fiat money, such as stablecoins. The UK’s Financial Conduct Authority also regulates digital assets it considers investments that come with rights to repayment or a share in profits. But “payment tokens” like Bitcoin, or “utility tokens” that provide access to a service, remain unregulated in both regions. Singapore regulates both types, but under different laws. It considers coins that are digital representations of other assets, such as unlisted stocks, to be securities provided they are offered by an approved exchange. In 2022, the Monetary Authority of Singapore announced proposals to tighten access to retail crypto trading following the crash of the digital token market. In Brazil, a new law was passed in December that created the country’s first framework for cryptocurrency, with rules of the game for brokerages that offer crypto as well as the daily use of the assets. Brazil’s Congress acted after the FTX collapse increased interest in putting regulations in place.

• A report from the Ministry of Finance on issues related to crypto regulation.

• A look at the crypto industry’s push in Washington to avoid securities regulation.

• Gary Gensler’s first interview about crypto after taking over as SEC head with Bloomberg Businessweek.

• A BGOV OnPoint of cryptocurrency legislation being considered by Congress.

• A Bloomberg QuickTake from 2018 shows how long these battles have been going on.

• The statement on crypto regulation signed by Biden.

• An article about the SEC’s battle with Ripple.

• UK FCA’s breakdown of regulated versus unregulated tokens.

–With help from Ben Bain.

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