Crypto facing ‘extinction level event’ amid regulator crackdown

One hundred years ago, an Italian immigrant living in Boston started one of the most famous frauds in modern history.

He convinced people to invest in his “Securities Exchange Company”, promising incredible returns.

Millions of dollars were invested. Some people invested their life savings or mortgaged their homes.

At its height three quarters of the local police force had invested in the scheme.

And the man behind it was delivering huge, almost unbelievable returns to his investors.

But his company wasn’t actually doing anything to generate any money — so where did he get the money to pay investors?

From new investors. Whose money was used to pay the old investors. The cycle repeated.

His name was Charles Ponzi.

Ponzi was eventually imprisoned, but the memory of this has recently been evoked by the chair of the modern US Security and Exchange Commission (SEC), Gary Gensler. The agency has launched several lawsuits against big Cryptocurrency exchanges.

“We’ve seen this story before,” he said at the Poper Sandler Global Exchange and Fintech conference on June 8.

“It’s reminiscent of what we had in the 1920s before the federal securities laws were put in place. Hucksters. Fraudsters. Scam artists. Ponzi schemes. The public left in line at the bankruptcy court.”

A cryptocurrency exchange is, at its most basic, a place where people can trade local currencies like the New Zealand dollar into digital assets.

Digital currencies have become the source of dizzying wealth for many but has for the most part been left alone by government agencies that regulate investments.

That was starting to change.

SEC targets US Binance, Coinbase

Some of the big targets for the SEC are crypto exchanges Binance (the US operation) and Coinbase.

The first charges came against Binance.US and its founder Changpeng Zhao on June 5, and include, among other things, allegations of operating an illegal exchange and misusing customer funds.

“Through thirteen charges, we allege that Zhao and Binance entities engaged in an extensive web of deception, conflicts of interest, lack of disclosure, and calculated evasion of the law,” SEC chairman Gary Gensler said.

A day later, on June 6, came the charges against Coinbase, alleging it was operating as an unregistered securities exchange, broker, and clearing agency.

Both companies are fighting the lawsuits. Coinbase’s chief executive Brian Armstrong told CNBC he was disappointed to see the complaint from the SEC.

“We have a long history of being transparent with them and really every regulator around the world that we worked with,” Armstrong said.

“It’s not good for the industry, it’s not good for America, and now we need to get clarity through the courts.”

Legal action controversial

Washington DC based public policy and tech expert Niki Christoff told 1News the legal action was controversial.

She has years of experience in the tech sector in companies such as Uber and Google, and now advises emerging technology firms on navigating Ds.

“Coinbase is the gold-standard for operating with integrity in the United States,” she said.

“Coinbase is a publicly traded company… they went through the front door of the Securities and Exchange Commission to have an initial public offering, they have an audit committee, they have really seasoned executives, so they are being investigated for essentially trading securities without registering with the SEC.”

New Zealand-based financial advisor Darcy Ungaro, who specialises in cryptocurrency investing, described the SEC’s legal action as “regulation through enforcement”.

“The SEC is effectively trying to put a line through what is right and what is wrong and alleging some pretty serious mistakes have occurred… they are effectively engaging with regulation by enforcement, instead of defining what the rules were,” he said.

“For many years we have been predicting a regulatory battle — first they laugh at you then they fight you. This has been anticipated.”

He said the SEC’s case seemed to rest on what the definition of a “security” was.

Crypto facing ‘extinction level event’ in US

All of this was happening in a challenging time for the cryptocurrency space, which Christoff described as facing an “extinction level event” in the US.

“There are three reasons for that, we have bad actors as spokespeople. We have done a really poor job of explaining to the average citizen why they should care about crypto or blockchain — people don’t get it, they don’t understand it, it’s not a priority voting issues, and we are already in a voting season so any normal regular order in Washington DC has ground to a halt which means you have unelected bureaucrats making policy decisions and that has not been good for the industry,” she said.

“What’s interesting is that there are no voters in the United States calling for that, there is no voting constituency that wants to get rid of cryptocurrency so it’s almost like an ideological grudge against the concept of it, and it’s a real shame for innovation.”

Complicating this, she said, were allegations of actual criminal misconduct — and on a big scale.

The most infamous is the collapse of cryptocurrency exchange FTX, which was founded by Sam Bankman-Fried.

“The worst thing that happened to the industry by far was Sam Bankman-Fried — his alleged actions which essentially include defrauding investors is nothing to do with blockchain technology,” Christoff said.

“It has nothing to do with digital assets. If you have taken money and put it in your pocket, that is just an old-fashioned embezzlement crime.

“But because he had [allegedly] duped so many people, so many members of Congress, and so many influencers and reporters, the backlash against him has been enormous, and that has really been a black eye for the industry.”

Bankman-Fried is fighting the allegations in trials expected to start later this year.

Headlines to get worse for industry

But Christoff said the news headlines were just going to get worse for the industry in the United States.

“Blockchain [the technology behind cryptocurrencies] is just another type of technology to increase transparency… there has been a real failure to tell that story in a way that people can understand.

“Blockchain is essentially a digital ledger that keeps a record of information and transactions. Unlike a traditional ledger, that might be held by an institution such as cental bank, blockchain is decentralised. That increases transparency and, ideally, trust.

“But sometime the industry, many times — actually all the time — is ‘clickish’, they use ever evolving vocabulary… and I think you can’t have a revolution in money if you don’t explain to people how it works and how it benefits them,” she said.

And that didn’t happen, Christoff said.

“It became all about tokens, it became almost like a casino gambling environment, you had spokespeople who again, are not the best spokespeople for this industry — not a lot of people rooting for these ‘bros’ to get richer.

“That created a lack of interest from the average American, and that creates a vulnerability here in Washington DC when you don’t have constituency rooting for you.”

The loser ultimately, she said, was innovation, with some big players now looking to overseas markets to operate in.

But there was a silver lining — especially regarding the legal action by the SEC.

“What it means for the wider ecosystem and for everyday investors who want to invest in crypto assets is that there is now going to be some clarity,” Ungaro said.

“So now this is going to be great — eventually — because we will know what the rules are.”