Gary Gensler hurts small investors for Wall Street.
Even those who strongly support cryptocurrency can understand why the Securities and Exchange Commission (SEC) would want to enforce regulations on the industry. Recent events such as the failure of Three Arrows Capital and the fraud committed at FTX would naturally attract scrutiny, and the industry has been too welcoming to obvious fraudsters in the past.
However, the recent wave of enforcement actions by the SEC and other US agencies do not seem to be aimed at protecting investors. A closer examination of everything from the banking crackdown earlier this year to the endless regulation by enforcement suggests that the US government is trying to protect the financial services industry from disruption.
One example of this is the SEC’s massive lawsuit against Coinbase, a company that has always been considered one of the “good guys” in the crypto industry. Its client list includes large asset managers, Fortune 100 companies, and even the US government itself, all of whom have never complained about the integrity of its services. Unlike FTX, Coinbase has never defrauded its customers, has never based itself in an offshore tax haven, and has never been hacked. In fact, the company has repeatedly stated its intention to be regulated and has even sued the SEC to force it to provide a roadmap on how to do so.
What did Coinbase get in return? A 100-page lawsuit full of contradictions, such as some layer-1 tokens being considered securities while others are not. It’s like a town that refuses to tell you the speed limit but frequently gives out speeding tickets. Nobody would take such a place seriously. We still don’t know whether Ether (ETH) is a security, despite SEC Chair Gary Gensler repeatedly telling us that his agency has all the authority it needs to make that determination.
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New technologies often clash with old rules, and regulatory agencies can initially struggle to understand startups because they don’t understand the technology. However, Gensler doesn’t have that excuse. He was a visiting instructor at MIT’s Digital Currency Initiative and taught a well-respected class on blockchain. So how did he go from that level of knowledge and belief to arguing on CNBC that we don’t need crypto?
It seems like Gensler is protecting someone, but it’s certainly not American investors who will eventually have no service providers left. Nor is it the crypto companies that are moving to more friendly jurisdictions. It’s the Wall Street incumbents that crypto threatens. It’s difficult to review the increasingly erratic regulatory approach and come to any other conclusion.
For example, America is one of the few major countries without a Bitcoin exchange-traded fund (ETF). Several companies have tried to issue one, but the SEC has refused to approve any, arguing that crypto markets are unregulated. This is an odd defense because the agency has already approved futures-backed ETFs that buy derivatives tied to those markets, products that are guaranteed to underperform due to their added frictions. But they do keep incumbents like the Chicago Mercantile Exchange and its related brokers relevant.
The SEC has also designated stablecoins as securities, a ruling that kills their usefulness as payment products. Stablecoins should not be controversial. They use a familiar model, expand the dollar’s reach, and create additional demand for Treasuries. The only entities they are bad for are the legacy banks and centralized payment providers that dominate that industry.
The agency has argued that public companies that hold onto crypto for others should treat them as on-balance sheet liabilities and set aside additional reserves. This approach, which does not apply to other assets, makes offering crypto custody cost-prohibitive for all but the biggest custodians.
Crypto offers new ways for startups and decentralized projects to raise money from potential customers and users, reducing funding costs and expanding financial inclusion. However, the SEC has repeatedly insisted on expensive registration regimes that force crypto back into the investment bank-led fundraising system.
Trying to fit digital assets into existing regulatory frameworks designed for stocks and bonds limits their usefulness but benefits Wall Street incumbents who already have the necessary licenses — licenses that have been almost impossible for startups to obtain. The only exception is Prometheum Capital, whose acquisition of a useless license proves this point.
Recent rulings on which service providers can be considered “qualified custodians” seem to be designed to deprive state financial authorities of their ability to charter smaller players who tend to be crypto natives.
After filing a civil suit against Binance, the largest global crypto exchange, the SEC took the added step of requesting that the government freeze all assets on its domestic entity, effectively shutting it down.
The Coinbase lawsuit argues that offering software to people who want to store their own crypto assets should be limited to registered broker-dealers. If upheld, this rule would effectively kill crypto’s killer app of self-custody, forcing all investors back into the arms of intermediaries.
Implementing strict regulations can establish strong barriers to entry for established companies – the hidden truth of every heavily regulated industry. Although large corporations may publicly express their dissatisfaction with the cost of complying with regulations, they secretly appreciate the competitive advantage of being on the opposite side of the regulatory divide. This is one of the reasons why highly regulated industries, such as finance or healthcare, rarely experience a change of leadership at the top.
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The only logical explanation for why the SEC is opposed to Congress clarifying regulations through legislation is to maintain the status quo. Gensler repeatedly claims that the securities laws passed in the 1930s and the Howey test – a Supreme Court ruling that was handed down prior to the invention of the transistor – provide all the clarity his agency requires to regulate cryptocurrency. The rest of the world is not following this approach, perhaps because their traditional service providers are not as prominent as those in America.
Interestingly, some regulators within the United States disagree with this approach, including other SEC commissioners.
Five years ago, in a speech given at an MIT blockchain event, Gensler stated that “blockchain technology” had the “real potential to transform the world of finance.” He went on to say that “It could lower costs, risks, and economic rents in the financial system.” The technology has remained unchanged since then, but Gensler has not. It’s only fair to question whose interests he is safeguarding.