“The Issues Pertaining to Crypto Regulation go beyond the SEC“
In the US, federal regulators and several states are moving to address issues and opportunities in the fast-growing digital assets sector. “Agencies face a complicated task due to the diverse nature of cryptocurrencies,” says Margo Tank, US Co-Chair of the Financial Services Sector and Co-Chair of the Financial Regulatory and Technology Group at global law firm DLA Piper. “Digital tokens can be used in a variety of ways, for example as mediums of exchange, as an investment contract or as a commodity. This can lead to the application of multiple regulatory frameworks which can be overlapping in some cases.”
Whereas the Internal Revenue Service (IRS) treats digital assets as property and taxes them accordingly, the Financial Crimes Enforcement Network (FinCEN) – a bureau of the Treasury Department – has been developing rules requiring anti-money laundering reporting for cryptocurrencies. Meanwhile, the trading of cryptocurrencies and derivative products are under increasing scrutiny by market regulators like the Commodities Futures Trading Commission (CFTC) and the Securities and Exchange Commission (SEC).
“More interestingly, the nature of a crypto token and the jurisdiction it falls under can change over time,” Tank says. “There are cases where an issuer doesn’t need to register the sale of a new digital asset with the SEC based on an exception to the registration requirements. However, after the sale occurs, the asset enters the market, turns into a medium of exchange and requires a different type of regulation.”
Crypto and blockchain regulation in the US has been advancing slower than in smaller markets. Aside from jurisdictional overlap between federal agencies, Tank also attributes the delayed progress to confusion over whether the new laws are even necessary to enable certain types of crypto transactions. “Several states have enacted their own laws to enable blockchain-based services and solutions, although applicable laws existed on a federal level,” Tank stresses, citing the coexistence of the Electronic Signatures in Global and National Commerce Act (Esign) and the Uniform Electronic Transactions Act (UETA) as an example.
“Both enable the use of technology to create electronic records and implement smart contracts.” Smart Contracts are transaction protocols which are intended to automatically execute, control or document legally relevant events and actions according to the terms of an agreement. While Esign was passed by Congress as a federal law in 2000, UETA was used to harmonize laws between different states. According to Tank, the difficulty for lawmakers in general will be balancing competing principles like preserving technology neutrality and promoting innovation to support US businesses against anti-money laundering, consumer and investor fraud protection and stability in the monetary system.
Loss of Influence
“In the past, digital asset companies have often relocated to Gibraltar and other jurisdictions because doing business in the US was too complex, time-consuming and expensive. For US agencies, that meant a loss of influence over a growing asset class.” This, in turn, leads to pressure on regulators to enable some measure of progress. The SEC, for example, has recently allowed Futures-based Bitcoin ETFs to start trading in the US. Market participants had speculated for months that the approval of crypto ETFs in Canada earlier this year would lead US regulators to follow suit.
“Although regulators and US crypto companies have largely been cooperating so far in terms of either limiting or withdrawing product offerings, tensions will rise if regulators fail to provide a clear and certain path for the crypto industry,” Tank predicts. In that case, the legal expert expects another innovation drain out of the US.
“The issues pertaining to crypto regulation go beyond the SEC,” Tank stresses. “The main conversation in Washington at the moment is around stable coins and their effects on the monetary and banking systems.” Stable coins are digital currencies that are pegged to a base asset like the Dollar or the gold price. According to Tank, the focus in this regard is going to be on the Federal Reserve. “A digital Dollar issued by the Fed is under consideration and would be an effective way to stabilize the market. However, it’s going to take more time and studies before the US is going to issue a central bank digital currency – until then, monetary policymakers need to establish regulation on stable coin issuance.” In Tank’s opinion, an important point of discussion is going to be the liquidity and security of the issuers standing behind the issuance of such tokens.
While the People’s Bank of China has issued a blanket ban on cryptocurrencies like Bitcoin, Ether and privately emitted stable coins like Tether after introducing a central bank digital Renminbi, similar actions by US regulators are unlikely according to Tank. Instead, she predicts targeted enforcement action. “The Justice Department has formed the National Cryptocurrency Enforcement team which is going to focus on activity by crypto exchanges and infrastructure providers within the ecosystem to ensure that they aren’t enabling money laundering,” Tank says. “ The Congress is also going to move off the sidelines in order to protect companies that have fallen victim to ransomware attacks.”
This year, there have been several high-profile ransomware attacks: In May, America’s largest pipeline for refined products went offline after a group of hackers infiltrated it. The operator, Colonial Pipeline, said it paid a ransom of $4.4 million in cryptocurrency, part of which law enforcement officials later recovered. In July, IT solutions provider Kaseya announced its systems had been compromised. The hack affected approximately 1500 companies in multiple countries and the cybercriminals responsible demanded $70 million in Bitcoin from Kaseya.
Shift to Renewables
Aside from their role in illicit activities, cryptocurrencies have also come under criticism due to their high energy consumption. Bitcoin mining in particular takes up a lot of electricity – its low sustainability rating has been preventing a higher degree of adoption by institutional investors and, in result, contributed to the high volatility within the market. “I believe that over time, US regulators will address the problem of high energy consumption with explicit environmental production rules for cryptocurrencies. However, I rather expect the overall ESG trend in financial markets to drive better company practices and a shift to renewable energies within the digital assets space,” Tank says.