Emerging technologies have revolutionized all facets of society. Cryptocurrencies, a form of digital currency that is “secured by cryptography” through a network distributed across a large number of computers, pose the potential to change the world of finance. Regulatory schemes that lead to the mainstream adoption of cryptocurrencies may help increase accessibility and efficiency in international transactions. While the Securities and Exchange Commission’s (SEC) current actions are effective in helping specific consumers, giving the U.S. Commodity Futures Trading Commission (CFTC) a larger mandate will increase transparency and thus, accessibility, to cryptocurrency markets.
A new political climate, influenced by factors such as 2008 financial crisis, the London Interbank Offer Rate (LIBOR) scandal, characterized by high-risk lending led magnified the flaws of a centralized banking system. This growing distrust is part of an underlying anti-government movement driven by the State’s weak performances and failures. Inherent to this is the assumption of the State as a Single Point of Failure (SPOF), where top-down authority is inefficient as they are based on coercion, lacks flexibility, and is exposed to risks associated with corruption, the lack of transparency, and the misuse of power.
Still, financial institutions and governments hold coercive power in validating digital transactions. While physical currency cannot be replicated, digital information can be, requiring the need for centralized oversight. Without such regulation, a payer can send the same digital currency to two different payees, effectively duplicating their money. Thus, consumers and merchants rely on financial institutions, such as payment processors, banks, automated clearing houses, and central banks, as a 3rd parties to regulate and verify transactions.
In contrast, to ensure that cryptocurrency assets are not fraudulently duplicated, validation occurs through a distributed ledger, enforced by a network of users. Cryptocurrency thus serves as a vision for anti-establishment proponents to ultimately democratize money. Users looking to make international wire transfers do not need to fill out lengthy paperwork to create a digital wallet as they do with traditional wire transfers, making large, long-distance transactions accessible to many more people. Practical applications include lowering remittance fees.
Proponents of cryptocurrencies and similar digital assets tout accessibility, transparency, and efficiency. However, as with most mysterious, cutting-edge technologies, regulation is important to prevent scams, frauds, and dubious transactions. The recent crash of cryptocurrency markets has left crypto trade platforms exposed to an onslaught of litigation.
However, investor losses due to alleged cryptocurrency pump-and-dump schemes have led to a steadily growing number of lawsuits, where company officials had artificially inflated the value of their assets and cash out – leaving investors out to dry when the market values plummeted.
Since 2013, the SEC has been aggressive in its regulation of ETF (exchange-traded fund) portfolios with bitcoin, rejecting every effort to do so since then, citing concerns of manipulation and fraud. While this hard stance on regulation seems to facially highlight the need for transparency regarding bitcoin assets, the Chamber of Digital Commerce highlights that “investors are currently forced to access bitcoin outside of any existing financial advisory relationships,” making them especially vulnerable to bad-faith schemes.
Gary Gensler, the Chairman of the SEC, expressed concerns that crypto platforms generally don’t separate functions such as market making (the buying and selling of assets to ensure market liquidity) from safekeeping services. The platform can then trade against their customers’ interests, Gensler argued, a practice that regulated exchanges prohibit.
However, not all crypto assets are made the same. Instead, the Supreme Court limited the SEC’s ability to regulate cryptocurrencies under the four-prong Howey test (SEC v. W.J. Howey Co., 328 U.S. 293 (1946)).
While some federal courts (U.S. v. Zaslavskiy, 2018 WL 4346339 (E.D.N.Y. Sept. 11, 2018)) have ruled that, in some cases, cryptocurrencies may be subject to SEC regulation, companies like Coinbase Global Inc. and Binance Holdings have found arguments around this restriction. Coinbase claims that its platform merely matches users because the platform itself does not buy or sell the asset, while Binance avoids U.S. regulation altogether by claiming that it is a foreign entity.
On the other hand, the Senate gave the CFTC a larger role in regulating cryptocurrencies. The Responsible Financial Innovation act seeks to create clearer regulatory boundaries by granting authority to the CFTC, a crypto-friendly regulator. Rooted in principles, the commission differs from the SEC’s approach, which is grounded in detailed prescriptive rules. The SEC regularly takes adjudicative measures to sanction individual blockchain companies to protect investors from specific threats. There is a clear gap in the cash market for crypto assets, which are not securities. Thus, the SEC can only individually assess specific assets and regulate specific companies to match the standards of the status quo securities markets.
In contrast, the CFTC aims to create a cohesive regulatory regime to address the current “patchwork of state and federal regulators” grounded by the balance of innovation and consumer protection. However, this delegation of authority has raised concerns of some government watchdogs given the CFTC’s limited size and funding. That being said, in the CFTC’s report for the fiscal year 2022, the agency netted $2.5 Billion in sanctions, more than double last year’s revenue. Greater oversight will likely absolve the agency’s funding limitations by giving the CFTC a wider mandate to enforce its sanctions.
While the potential benefits of cryptocurrencies are real, overregulation may just create another centralized currency. Just as the Federal Reserve holds power over the U.S. dollar, SEC prescriptions may stifle the liberating vision of the blockchain. While imperfect, the Senate’s approach to regulation is smart and measured. Allowing cryptocurrencies to exist in commodity spot markets can aid the widespread adoption of nontraditional assets and give consumers, businesses, and governments more options in conducting their financial transactions.
Renqiu Chen is a J.D. Candidate at Cornell Law School and graduated in 2021 from Cornell University’s ILR School with a B.S. After graduating in 2024, Renqiu plans on pursuing a career in New York City.
Suggested Citation: Renqiu Chen, A Cohesive Regulatory Future for Crypto, Cornell J.L. & Pub. Pol’y, The Issue Spotter, (Dec. 5, 2022), http://jlpp.org/blogzine/a-cohesive-regulatory-future-for-crypto.