U.S. dropped the ball on crypto regulation

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WASHINGTON — The U.S. has dropped the ball on cryp­to reg­u­la­tion, accord­ing to Secu­ri­ties and Exchange Com­mis­sion­er Hes­ter Peirce, and she says the knock-on effects of that fail­ure keep her up at night.

“There’s a lot of fraud in this space, because it’s the hot area of the moment,” Peirce told CNBC on the side­lines of the DC Blockchain Sum­mit this week. “The oth­er piece that does con­cern me is the way that we’ve sort of dropped the reg­u­la­to­ry ball.”

She con­tin­ued, “We’re not allow­ing inno­va­tion to devel­op and exper­i­men­ta­tion to hap­pen in a healthy way, and there are long-term con­se­quences of that failure.”

The com­ments come as the cryp­to mar­ket melt­down continues.

A broad sell-off in dig­i­tal assets has erased more than half a tril­lion dol­lars from the entire mar­ket in the space of a few weeks thanks, in part, to tur­moil in a sub­set of cryp­tocur­ren­cies dubbed stablecoins.

The name comes from the fact that these dig­i­tal cur­ren­cies are specif­i­cal­ly designed to be sta­ble, with val­ues pegged to the price of real-world assets such as com­modi­ties like gold, or fiat cur­ren­cies like the U.S. dol­lar. The price moves of sta­ble­coins are sel­dom worth men­tion­ing because they’re not sup­posed to fluc­tu­ate much. But the col­lapse of UST — one of the more pop­u­lar U.S. dol­lar-pegged sta­ble­coins — had a con­ta­gion effect across the entire cryp­tocur­ren­cy ecosys­tem. Those shock waves have also lit a fire under law­mak­ers and regulators.

“We can go after fraud and we can play a more pos­i­tive role on the inno­va­tion side, but we have to get to it, we’ve got to get work­ing,” said Peirce.

“I haven’t seen us will­ing to do that work so far.”

The SEC’s crypto remit

The SEC’s job descrip­tion when it comes to reg­u­lat­ing cryp­tocur­ren­cies is amorphous.

Wall Street’s top reg­u­la­tor over­sees secu­ri­ties, and until recent­ly it was dif­fi­cult get­ting Chair Gary Gensler to pin down which of the more than 19,500 cryp­tos fall under his juris­dic­tion, ver­sus the com­mod­i­ty tokens which would be bet­ter left to law enforcers at the Com­mod­i­ty Futures Trad­ing Commission.

But in recent tes­ti­mo­ny before the House Appro­pri­a­tions Com­mit­tee, Gensler offered some clar­i­ty, say­ing the SEC has juris­dic­tion “over prob­a­bly a vast num­ber” of the cryp­tocur­ren­cies in cir­cu­la­tion. The SEC chief also con­ced­ed that bit­coin was “maybe” not under its purview — which, for him, were strong words on the subject.

Gensler’s recent take on bit­coin’s reg­u­la­to­ry juris­dic­tion runs in par­al­lel to ex-SEC chief Jay Clay­ton, who pre­vi­ous­ly said that cryp­tocur­ren­cies are “replace­ments for sov­er­eign cur­ren­cies,” and if you “replace the dol­lar, the euro, the yen with bit­coin … that type of cur­ren­cy is not a security.”

The SEC has spent the last few months beef­ing up its ros­ter and broad­en­ing its remit with respect to dig­i­tal asset regulation.

In April, Gensler said Wall Street’s top reg­u­la­tor plans to reg­is­ter and reg­u­late cryp­to plat­forms, and ear­li­er this month, the agency announced it would almost dou­ble the staff respon­si­ble for pro­tect­ing investors in cryp­tocur­ren­cy mar­kets — bring­ing its Cryp­to Assets and Cyber team up to 50 ded­i­cat­ed positions.

“The cryp­to exchanges should come in and reg­is­ter,” con­tin­ued Gensler on Capi­tol Hill last week, “Or, frankly, we’re going to con­tin­ue to bring, use what Con­gress has giv­en us, in our enforce­ment and exam­i­na­tion functions.”

Gensler also recent­ly told House law­mak­ers that the rules are “actu­al­ly quite clear.” If you are rais­ing mon­ey from the pub­lic and the pub­lic antic­i­pates a prof­it based on the efforts of that spon­sor, that’s a secu­ri­ty, accord­ing to the SEC chair. Gensler says that dif­fers from a com­mod­i­ty, which both lacks an issuer and also has no pub­lic buy­er antic­i­pat­ing a return based on the efforts of the sin­gle par­ty behind the product.

A call for more clarity from Congress

But a lot of par­tic­i­pants would wel­come more clar­i­ty from law­mak­ers. The SEC’s Peirce tells CNBC that while the SEC is already act­ing using the author­i­ty that it has, she thinks “it would be help­ful if Con­gress came in and said, ‘SEC, here’s the role we think you should be play­ing. CFTC, here’s the role for you.’ ”

“One could argue that the SEC would be a good reg­u­la­tor of retail exchanges, if we decide to have a fed­er­al reg­u­la­tor, but again, that’s real­ly up to Con­gress to make that call,” con­tin­ued Peirce, who not­ed that there is a lot of work to be done with­in exist­ing author­i­ties since tra­di­tion­al finan­cial insti­tu­tions want to get involved in cryp­to. “They need reg­u­la­to­ry clar­i­ty from us in order to do that.”

Sens. Cyn­thia Lum­mis, R‑Wyo., and Kirsten Gilli­brand, D‑N.Y., are aim­ing to pro­vide that clar­i­ty with a bill that lays out a com­pre­hen­sive frame­work for reg­u­lat­ing the cryp­to indus­try and divvies up over­sight among reg­u­la­tors like the SEC and CFTC. Lum­mis tells CNBC that they hope this reg­u­la­to­ry blue­print for dig­i­tal assets “hits the sweet spot between reg­u­la­tion that is clear and under­stood, and does not sti­fle innovation.”

But until Con­gress pass­es some hard and fast rules around how to reg­u­late cryp­to, the dynam­ic will remain reg­u­la­tion by enforcement.

Since the SEC launched a unit ded­i­cat­ed to cryp­to asset over­sight in 2017, it has brought more than 80 enforce­ment actions against cryp­to asset offer­ings and plat­forms.

The agen­cy’s law­suit against San Fran­cis­co-based start-up Rip­ple could be a bell­wether court battle.

In 2020, the SEC alleged that Rip­ple, its CEO Brad Gar­ling­house and the com­pa­ny’s exec­u­tive chair­man vio­lat­ed secu­ri­ties laws when it sold $1.4 bil­lion worth of XRP, the world’s sixth-largest cryp­tocur­ren­cy. Amid the wider sell-off, XRP is down 42% in the last 30 days, accord­ing to CoinGecko.

Rip­ple says its token is not a secu­ri­ty — and so goes the con­tin­ued con­fu­sion over which dig­i­tal coins fall into which reg­u­la­to­ry bucket.

The ambi­gu­i­ty at one point also extend­ed to ether, the world’s sec­ond-biggest cryp­tocur­ren­cy by mar­ket cap, when in 2018, an SEC direc­tor said that “the Ethereum net­work and its decen­tral­ized struc­ture, cur­rent offers and sales of Ether are not secu­ri­ties transactions.”

How the Rip­ple legal bat­tle plays out could be a sign of things to come — and could poten­tial­ly force the SEC’s hand on defin­ing which of the near­ly 20,000 cryp­to tokens fall under its jurisdiction.

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