We track crypto regulation closely because in every major technological shift of the last 300 years, regulatory clarity has been the common precursor to mass adoption. While crypto’s distributed nature makes it especially nimble and able to proliferate even absent any state guidance, it’s still clear that institutional capital at large will continue sitting on the sidelines until that regulatory clarity is imminent. It’s also clear that, in the absence of clear guardrails, bad actors like FTX will simply keep playing regulatory arbitrage, seeking out jurisdictions (like the Bahamas) where anything goes.
In Technological Revolutions & Financial Capital (2002), economist Carlota Perez documents how, in the post-crash years of all major tech revolutions – canals (1790s), railways (1950s), steel (1890s), oil (1930s), and the internet (2000s) – regulatory policy was what turned said crash into an inflection point towards the Golden Age of each technology’s adoption. She describes that, in this recompositional period, legislation functions as acknowledgement that the industry isn’t going away, an invitation for new capital formation, and an invitation for entrepreneurs to build.
Source: Perez, Carlota. Technological Revolutions and Financial Capital: The Dynamics of Bubbles and Golden Ages
In each “technology revolution”, the technology goes through a period (or sometimes several iterations) of Productive Capital (ie: innovation) outpacing Financial Capital (ie: the funding of said Productive Capital); Financial Capital catches up, eventually outpacing the true amount of innovation, eventually leading to a crash. The cycle repeats until the crash is severe enough that either i) the technology fades away as quietly as your neighborhood Segway store or ii) lawmakers recognize that the technology is here to stay and create regulatory guardrails for its healthy deployment.
Source: Perez, Carlota. Technological Revolutions and Financial Capital: The Dynamics of Bubbles and Golden Ages
Unlike the industries above, however, it’s not clear where crypto’s innovation HQ will be; one would assume the U.S., but as the U.S. fumbles its way towards even an attempt at crypto policy, the rest of the world invites crypto builders with open arms. In the last 18 months alone Japan has created a specific regulatory body (the FSA) for crypto, Singapore has publicly said it’s on a mission to create “one of the most facilitative regulatory regimes” for crypto, and the EU launched its first attempt at a comprehensive regulatory framework for crypto. We see the downstream effects starting to play out in the geographic distribution of developers over the last 6 years.
Source: Portfolio Fund, Electric Capital’s ongoing Developer Report (www.developerreport.com)
Still, we’re optimistic that the U.S. is finally finding its path. For those of you who went through the 2018-2019 crypto bear market, you’ll remember that outside of ICO enforcement actions, we didn’t see anywhere near the number of proposed bills, congressional hearings, or committee discussions that we’ve seen over the last 18 months on crypto regulation. During those years, we believed crypto was sticking around, but there wasn’t yet a serious call for legislation that Perez would say signals the inflection point is near. During those years, there was nowhere near the current level of engagement that we see from regulators, policymakers, and the courts today.
By far the most aggressive towards crypto have been the regulatory agencies, so we’ll start there.
Jurisdictional Confusion & Gensler’s Crypto Vendetta
One of the most confusing aspects of U.S. crypto regulation is whether crypto assets should be regulated as securities, commodities, some combination of the two, or neither. Absent clear policy, the U.S. Securities & Exchange Commission (SEC) and Commodity Futures & Trading Commission (CFTC) have started a turf war, each claiming that their agency has dominion over the emerging asset class of crypto. The state of crypto regulation in 2023 has thus one of regulation by enforcement, rather than by policy.
In its 2023 fiscal year, the SEC recently announced a record 780 actions filed, most shockingly one against Coinbase (NASDAQ: COIN), a company that the SEC had greenlit to go public just two years earlier. SEC Chairman Gensler views the existing securities laws as clear enough for him to go after every one of these 780 actions.
But Gensler’s approach is becoming visibly unpopular, both with his own team and Congress alike.
Within the 5 member SEC Commission, fellow commissioner Hester Peirce has repeatedly and publicly dissented with the Chairman’s anti-crypto enforcements. Her language is specific to the overreach of Chairman Gensler. To pull from just a few of her dissenting opinions:
“The Commission has brought many troubling crypto enforcement actions, but the LBRY, Inc. (“LBRY”) case has especially unsettled me…The application of the securities laws to token projects is not clear, despite the Commission’s continuous protestations to the contrary. There is no path for a company like LBRY to come in and register its functional token offering.” - October 2023
“Rather than embracing the promise of new technology as we have done in the past, here we propose to embrace stagnation, force centralization, urge expatriation, and welcome extinction of new technology. Accordingly, I dissent.” - April 2023
“I write regarding Staff Accounting Bulletin Number 121 (“SAB 121”), which is yet another manifestation of the Securities and Exchange Commission’s scattershot and inefficient approach to crypto.” - March 2022
As of late, she’s not alone; a second commissioner, Mark Uyeda, has now issued his dissent alongside Commissioner Peirce on two separate NFT cases this summer. Again, their language is specific to the jurisdictional overreach:
“We understand why the Commission was concerned about this NFT sale. Even though we believe strongly that adults should be able to spend their money as they choose, we share our colleagues’ worry about the type of hype that entices people to spend almost $30 million for NFTs seemingly without having a clear idea about how they will use, enjoy, or profit from them. This legitimate concern, however, is not a sufficient basis to pull the matter into our jurisdiction. The handful of company and purchaser statements cited by the order are not the kinds of promises that form an investment contract. We do not routinely bring enforcement actions against people that sell watches, paintings, or collectibles along with vague promises to build the brand and thus increase the resale value of those tangible items.” - August 2023
Elected officials on both sides of the aisle are calling foul on Gensler’s overreach as well.
In a painfully awkward exchange this summer, Congressman Patrick McHenry (R-NC), Chair of The House Financial Services Committee, found Gensler unable to even answer whether ETH is a commodity or a security. This was immediately after Gensler had claimed that existing laws were enough to tell whether or not a crypto asset was a security. Watch here.
In another hearing, U.S. Representative Ritchie Torres (D-NY) couldn’t get Chairman Gensler to substantiate the claim that all crypto tokens are necessarily investment contracts. Watch that here. There examples go on…Representative Tom Emmer (R-MN) questioning Gensler’s ability to be impartial; the entirety of last month’s Senate Banking Committee hearing going equally poorly for the Chairman; Representative Warren Davis (R-OH) going even so far as to formally call for the removal of Chairman Gensler in a recent SEC Stabilization Bill. At the Executive level, outside of President Biden, not a single 2024 presidential candidate has been willing to endorse the SEC’s track record on crypto. More on that later.
Perhaps most encouraging, though, is that attacks on crypto are failing to hold up in the courts.
Crypto in the Courts
In the wake of FTX, we did not expect 2023 to be the year the courts came to crypto’s defense. And yet here we are. To highlight just a few:
i) SEC vs Ripple - in a December 2020 lawsuit, the SEC alleged that cryptonetwork Ripple had raised over $1.3B in an unregistered securities offering via token XRP. In a July 2023 decision, U.S. District Judge Analisa Torres ruled in Ripple’s favor, stating that the sale of XRP was not a securities offering. A few months later, Judge Torres went further, rejecting the SEC’s interlocutory appeal. Less than two weeks later the SEC dropped its related lawsuit against Ripple executives.
ii) Uniswap - in April 2022, a group of plaintiffs filed a class-action lawsuit against the developers of Uniswap, the most widely used DEX (decentralized exchange) in crypto. The industry watched with bated breath, not just because of Uniswap’s size, but because the verdict would signal whether developers could be held responsible for the behavior of its users. Specifically, the lawsuit argued that Uniswap was responsible for the scam tokens that the plaintiffs had purchased on the exchange. Ultimately, Judge Katherine Polk Failla decided that “due to the protocol’s decentralized nature, the identities of the scam token issuers are basically unknown and unknowable, leaving plaintiffs with an identifiable injury but no identifiable defendant”, comparing the claims to holding “an application like Venmo or Zelle liable for a drug deal that used the platform”. While the lawsuit took place in a lower federal court and doesn’t establish precedent, we view the signal as encouraging, especially since Judge Failla is also presiding over the SEC’s ongoing case against Coinbase.
iii) SEC vs Grayscale - in June 2022, the SEC denied Grayscale’s application to convert GBTC into a spot ETF. There’s a longer story about how this denial may have meaningfully contributed to the ultimate collapse of FTX, but fast-forward to August 2023, and the D.C. Circuit Court of Appeals ruled that the SEC had been “arbitrary and capricious because the Commission failed to explain its different treatment of similar products”. The judgment continues, “In the absence of a coherent explanation, this unlike regulatory treatment of like products is unlawful. We therefore grant Graysacle’s petition for review and vacate the Commission’s order”. While this by no means guarantees the passing of a spot Bitcoin ETF – for context, the SEC has rejected over 30 spot BTC ETFs since the Winklevoss twins first sought approval in 2013 – this summer’s verdict did renew institutional interest, most notably from BlackRock’s CEO Larry Fink. Alongside BlackRock’s ETF application, Fink stated “We are hearing from clients around the world about the need for crypto”. Yes, this is the same Larry Fink who called Bitcoin an “index of money laundering” in 2017. We forgive you Larry!
iv) Outstanding – So what’s left? The biggest outstanding cases currently are SEC vs. Coinbase and the DOJ’s possible case against Binance. Both are still in process, so expect more in future letters.
Politically
In 2023, there’s no question that policymakers understand the need for crypto legislation. Whether because, like Sen. Elizabeth Warren (D-Mass), they believe crypto should be outlawed entirely or, like Rep. Tom Emmer (R-Minn), they believe that without clear policy “the United States will miss a huge opportunity, and Americans will suffer for it”.
We track individual bills as they make their way through both chambers (House or Senate), but we pay just as much attention to overall sentiment, especially given how often any one bill may get held up, amended, held up again, combined with other policies, and still never hit the President’s desk.
As a very abbreviated refresher, bills become laws as follows:
- Introduction of a Bill - bills can be introduced in either the House or The Senate by a member (or members) of Congress who sponsors it.
- Committee Review – the bill is then assigned to a committee. That committee does research and may make changes to the bill.
- Floor Action – assuming the bill makes it out of its committee, the bill is then put to the chamber for debate, for amendments, and for a majority vote.
- Other Chamber – after passing one chamber, the bill moves to the other chamber where the bill can be passed, rejected, ignored, or passed in a different form.
- Conference Committee – if different versions of the bill are passed, a bi-chamber conference committee is created to compromise on the final bill. This bill is then sent back to both chambers for a final vote.
- Presidential Action – the President can now sign the bill into law, veto it, or ignore it. If the bill is vetoed, Congress can override the veto with ⅔ majority vote in both chambers.
Below is our 30,000 view of the most critical bills we’re tracking as of this letter. Our friends over at The Blockchain Association deserve ongoing credit for working with lawmakers to shape (or stop) each of the below bills:
Looking beyond any immediate legislation, though, the sands of time also seem to be in crypto’s regulatory favor on several fronts as well:
i) FTX is Behind Us – after a month-long trial and nearly 1 year to the day after the collapse of FTX, a jury ruled SBF guilty on all 7 counts of fraud. The verdict is significant beyond its impact to future legislation, but we believe the trial was particularly helpful in making publicly clear that SBF’s fraud was less about crypto and more about traditional financial fraud. Senators and Representatives weren’t just paying attention out of curiosity; a staggering 196 members of Congress (more than 1 in 3) had received donations from FTX executives over the years and were waiting to clear their name. At the same time, the global crypto market cap has more than recovered from its FTX drawdown, and elected officials are seeing clear signs that both constituents and other nations are warming to a post-FTX crypto world.
ii) Crypto is becoming less about party lines and more about innovation lines – One of the many blessings of the 2022-2023 bear market is the hype-free space this period has given Congress to draft bills, discuss in committees, and thoughtfully get up the learning curve on digital assets. We’ve been encouraged at how deep many members of both parties have gone! Against the backdrop of other nations’ proactive approach to crypto, the pro-crypto refrain in both chambers has organically become: regulatory clarity is needed to ensure the U.S. can innovate and doesn’t fall behind. Further, and as discussed in our letter this summer, we believe AI’s surge into the mainstream this year has brought an immediate premium to representatives who actually seem like they can keep up with technology. For this and other reasons, publications like The New Yorker are questioning, “Are we a teetering democracy of gerontocrats? The polls show that much of the American electorate fears just that.” Crypto hawks like Brad Sherman may continue to wave their fists at crypto, but these days they come off as increasingly ignorant, increasingly out of touch, and increasingly alone. Senator Elizabeth Warren remains crypto’s most pernicious foe, but even she’s been caught with egg on her face after citing false data about crypto allegedly financing Hamas. Put simply: it’s no longer acceptable – and we’d argue, now actively negative – to be seen as anti-tech innovation.
iii) Presidential Tea Leaves – Moving over to The Executive Branch, President Biden’s 2023 Economic Report of the President was disappointingly uneducated and undeveloped since last year’s Executive Order on digital assets. It did acknowledge that “some crypto assets appear to be here to stay”. Unfortunately, though, President Biden’s default continues to be that “the crypto asset space is covered by existing regulations”, even applauding that “regulators are expanding their capabilities to bring a large number of new entities under compliance”. Thankfully, he’ll be under pressure to modernize this stance going into the 2024 election because, as his odds of winning continue to fall, his challengers don’t seem to think the anti-crypto baton is one worth picking up.
Source: https://www.nytimes.com/2023/11/05/us/politics/biden-trump-2024-poll.htm
Source: https://projects.fivethirtyeight.com/biden-approval-rating/
As for the rest of the candidates’ crypto positions – in brief:
- President Trump (R): skeptical but not antagonistic during his first term; launched his own NFT collection in 2021 ($5M of royalties earned); held over $2.8M of ETH as of August 2023.
- Vivek Ramaswamy (R): believes most regulatory agencies like SEC are unconstitutional and that Americans should have the right to own crypto and build crypto companies.
- Gov. Ron DeSantis (R): vocally anti-CBDC; has criticized Biden administration’s war on crypto; Florida has been notoriously friendly to crypto under his tenure.
- Robert F. Kennedy Jr. (Ind.): appeared as keynote speaker at Bitcoin Miami 2023; has personally invested in BTC; vocally anti-CBDC
- Gov. Nikki Haley (R): not historically pro or anti-crypto
- Rep. Dean Phillips (D): no clear crypto policy yet
- Gov. Gavin Newsom (D - not yet announced): recently signed The Digital Financial Assets Law for California, which although still ambiguous on many fronts, seems to invite participation from the industry to help shape the guidelines. Outside of this, not historically pro or anti-crypto.
So while crypto legislation isn’t imminent just yet, we’re optimistic that the U.S. is slowly, messily, but finally on the right track.