The US government wants stricter cryptocurrency regulation. It’s unclear who has the authority to do it in Washington.
At the moment, some cryptocurrencies are regulated like commodities, which are basic goods like agricultural products that can be bought and sold through futures contracts. Others are treated like securities, think stocks or bonds. That has allowed both the US Securities and Exchange Commission (SEC) and the Commodity Futures Trading Commission (CFTC) to act as regulators of the crypto industry.
These regulators are bringing more enforcement actions against players in the crypto market as volumes and volatility rise. In recent months, the Justice Department has charged employees of the crypto exchange Coinbase and the nonfungible token (NFT) marketplace OpenSea with insider trading. The US Treasury department sanctioned a decentralized software called Torando Cash that was used to funnel hacked-and-stolen cryptocurrency by North Korea. The SEC has doubled the size of its crypto enforcement team and charged Kim Kardashian for illegally hawking the cryptocurrency EthereumMax without proper disclosures. The CFTC charged a decentralized autonomous organization (DAO) called Ooki DAO for illegally offering margin trading on commodities. In fact, one-fifth of the CFTC’s enforcement actions so far in 2022 have been against crypto-related businesses or individuals, the agency said recently.
Yet neither agency has emerged as the primary regulator of the cryptocurrency industry. That designation will have profound implications for how crypto companies will function in the future.
The metaphysics of defining cryptocurrency
Crypto advocates say they prefer light-touch regulation with fewer disclosures and requirements. That translates into treating cryptocurrencies as commodities under the CFTC, rather than as securities under the SEC which would mean stricter registration requirements, financial disclosures, and scrutiny of fraud and manipulation.
Legislation to do this has already been proposed. Coinbase’s head of policy Kara Calvert recently told the website Decrypt that the company is “very supportive” of new legislation giving the CFTC authority over spot trading of digital assets. (The CFTC already regulates futures contracts for bitcoin and ether.) But given how most cryptocurrency tokens are used, it’s likely no designation will cover every case: most tokens may be classified as securities, while a smaller share will classify as commodities. Regulation will occur via a mix of legislation, agency enforcement, and voluntary initiatives. To stay on the right side of the law, the largest crypto firms, including major brokers and exchanges, will likely register with both agencies in order to stay compliant.
The emerging federal consensus on regulating crypto
Bitcoin, the largest cryptocurrency by market capitalization, is widely considered a commodity. A federal court ruling in 2018 gave the CFTC regulatory authority by designating bitcoin as such.
But CFTC chairman Rostin Behnam and SEC chairman Gary Gensler agree that’s the exception rather than the rule. Despite grey areas including the cryptocurrency ether, most cryptocurrencies function as securities (registered or not). “There are probably many, many more security tokens than commodity tokens, but I believe there are a large number of commodity tokens,” Behnam said during a legal event hosted by Rutgers Law School and the law firm Lowenstein Sandler on Oct. 24. (Highlighting the ambiguity, the SEC’s Gensler disagrees with Behnam on proof-of-stake cryptocurrencies such as ether which he argues likely pass the regulatory test for determining securities.)
The challenge is that the two agencies, he said, are dealing with truly new financial products that don’t easily fit into established legal categories. Digital assets, Behnam says, are “unlike any traditional commodities in that they are speculative in nature and they are being traded by retail market participants,” something the CFTC rarely deals with.
In Congress, multiple bills are being considered that would broaden the CFTC’s authority, something the crypto industry supports. But even if the CFTC becomes crypto’s primary regulator, Behnam has signaled he’s ready to bring the crypto industry into compliance, suggesting more legal battles to come.
At the moment, Behnam said, he feels his agency’s effectiveness is limited. Despite stepping up enforcement, all of the recent enforcement actions against crypto-related entities have come from insider tips. “If we had more funds, if we had more personnel, we could bring more of this fraud and manipulation to light,” Behnam said.
This article has been updated to clarify that Gary Gensler did not attend the Oct. 24 event.