Does Crypto Really Need the U.S.?

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A recent survey by Coinbase revealed that 20% of adults residing in the U.S. own cryptocurrencies, a significant statistic by any measure.

In March 2022, President Joe Biden issued an executive order regarding digital assets, directing federal agencies to thoroughly analyze various aspects and issues within the crypto ecosystem. Also, it mandated them to provide recommendations for how the United States can assume a leadership role in the global digital asset sector while simultaneously addressing potential risks to monetary stability and consumer protection posed by this rapidly growing industry.

Federal agencies and even Congress are dedicating considerable attention to crypto but are yet to define a clear course of action, especially in terms of regulation.

Several fundamental questions about cryptocurrency regulation in the United States remain unanswered:

What criteria determine whether a token qualifies as a security, and which tokens should be regulated as commodities?
Which agencies should oversee different aspects of cryptocurrencies?
How long will it take to establish and implement a uniform regulatory framework?

What is evident today is that relevant authorities, instead of focusing on the upsides of crypto and the executive order’s directive of establishing the U.S. as a global leader in the digital asset sector, have chosen to prioritize “amplifying” and “dealing with” the numerous “potential risks associated with crypto”.

The consequences of this regulatory crackdown on cryptocurrency in the U.S. are becoming apparent. Cryptocurrency businesses are moving away from the country, and new ones are hesitant to establish themselves here.

Over the past year, Nexo withdrew from the U.S. market due to unproductive negotiations with regulatory authorities. Similarly, Kraken discontinued its cryptocurrency staking services in the U.S. in response to regulatory enforcement actions that led to a $30 million fine.

Even Binance, the world’s largest cryptocurrency exchange, briefly considered cutting ties with its U.S. partners and is now reevaluating its investments in the American market.

It’s uncertain whether top regulators are perturbed by these developments, but realistically speaking, they should be, because even if crypto companies depart the U.S., crypto itself will not cease to exist, and other regions that choose to leverage its advantages will hold the aces.

As long as crypto exists, ordinary Americans will continue to purchase and trade it, investors will keep pumping in capital, and entrepreneurs will keep creating new projects within the crypto sphere.

Now, let’s revisit what initially prompted this discussion.

Hazy Crypto Regulations & Aggressive Enforcement Actions

The primary issue plaguing the U.S. crypto industry is not necessarily the enforcement actions taken by regulators but, rather, the lack of a clear and comprehensive regulatory framework designed specifically for cryptocurrencies.

Regulators have failed to provide a concrete legislative definition of cryptocurrencies and their classification as financial instruments. Instead, they have opted to enforce existing regulations specifically designed for traditional finance.

For instance, the SEC’s dispute with Paxos over its BUSD stablecoin raised questions about why BUSD was singled out rather than other stablecoins. It also raised the question of how and why a stablecoin could be deemed a security in the first place.

In February, the SEC charged Kraken with failing to register the offer and sale of their crypto-asset staking-as-a-service program, in which investors transfer crypto assets to Kraken for staking in exchange for advertised annual investment returns of up to 21%. To settle the SEC’s charges, Kraken agreed to stop offering or selling securities through crypto-asset staking services or staking programs immediately and pay $30 million in disgorgement, prejudgment interest, and civil penalties.

Hester M. Peirce, a commissioner at the agency, commenting on the case, admitted that it would have been wiser to establish clear staking guidelines beforehand rather than relying on enforcement actions. She went as far as to criticize the SEC’s approach, describing it as a “lack of regulatory clarity.”

Following Kraken’s decision to shut down its staking services, SEC Chairman Gary Gensler, in a CNBC interview, remarked on how supposedly straightforward it was to register with the regulator.

In his words:

“Kraken knew how to register. Others can do it, too; it’s just a form on our website. They can engage with our capable staff and review teams.“

“The storefronts and casinos people are investing in need to comply and disentangle bundled products. The business model is rife with conflicts,” says SEC Chair @GaryGensler on #crypto. “If this field has a chance of survival, it needs laws to protect the investing public.” pic.twitter.com/FGRrYE1Aov

— Squawk Box (@SquawkCNBC) February 10, 2023

Unsurprisingly, many disagreed with Gensler, asserting that crypto projects face difficulties registering even when they genuinely desire to and have the necessary legal support.

Kraken’s CEO, Jesse Powell, responded to this comment by tweeting;

“I wish I had seen this video before paying a $30 million fine and agreeing to permanently close our U.S. service.”

Jason Gottlieb, Chairman of the digital assets department at Morrison Cohen LLP, explained that many crypto products lack a clear pathway for registration. He noted that when they seek information about the registration process, they receive vague responses and are informed that they won’t receive legal advice.

Rebecca Rettig, Chief Policy Officer of Polygon Labs, expressed a similar viewpoint on Laura Shin’s Unchained podcast. She mentioned that when companies attempt to register with the SEC, they often hear, “We’re not sure how to classify your registration.” Worse still, they may later receive a Wells Notice or a subpoena from the SEC’s enforcement division.

Brian Armstrong, CEO and co-founder of Coinbase, criticized the lack of clarity surrounding cryptocurrency regulation in the U.S., likening the SEC to “soccer referees” in a game of pickleball. Armstrong’s comments come after Coinbase received a Wells Notice from the SEC on March 22, 2023.

The CFTC has not been left out of the picture, as the agency recently made headlines with its crackdown on DeFi firms Opyn, ZeroEx, and Deridex for violating federal laws governing digital asset derivatives trading. The agency alleged that these firms operated unregistered trading platforms and engaged in illegal leveraged digital asset transactions.

CFTC Commissioner Summer K. Mersinger publicly disagreed with the agency’s actions, advocating for public engagement instead of enforcement.

Mersinger pointed out that the CFTC’s 2022-2026 strategic plan had earmarked DeFi for enhanced stakeholder interaction and regulation based on guiding principles, but its actions, in her words, “do not promote responsible innovation — they shut it down, banishing innovation from U.S. shores.”

Notably, the flurry of legal actions from U.S. regulators has received some degree of support from some; for instance, not many kicked against the SEC’s lawsuit against Terraform Labs founder and CEO Do Kwon after the Terra-LUNA collapse, which resulted in the UST “stablecoin” depegging from its 1:1 dollar peg, and the LUNA token’s value plunging by 99%, resulting in the loss of billions of dollars.

Another classic example is the public reaction to the SEC and DOJ’s prosecution of former FTX CEO Sam Bankman-Fried and other FTX executives in connection with FTX’s nasty implosion last November, which also led to billions in financial losses.

While everyone agrees that violations should be appropriately punished, without clear rules or guidelines for digital assets, how can founders, developers, issuers, and even courts determine what constitutes a violation?

What Would Happen If Crypto “Leaves” the U.S.?

It’s unlikely that crypto will completely leave the U.S.; however, if the current situation persists, crypto companies and projects might choose to move to other countries because the crypto industry operates globally and provides opportunities beyond the United States.

Paul Grewal, Chief Legal Counsel at Coinbase, despite being American himself, has encouraged stablecoin issuers to ponder whether the current U.S. environment is the optimal place to develop their projects.

If U.S. crypto enthusiasts, who champion its potential in financial innovation, fail to persuade lawmakers who view it as a risky venture, countries with crypto-friendly and transparent regulations will become magnets for crypto companies and talent.

We are currently witnessing a migration of investments and an increase in crypto exchanges in Europe, thanks to its recently implemented comprehensive regulatory framework for crypto-assets.

Similarly, the UAE has emerged as a favored destination for crypto exchanges, courtesy of its new regulatory regime for digital assets. Singapore, too, stands out as a hub for Web3 projects due to its clear-cut rules and crypto-friendly atmosphere.

Interestingly, conducting crypto-related business in places like Hong Kong and Japan is not straightforward, as they enforce stringent regulations for crypto exchanges and listed tokens. However, these regions do provide explicit guidelines and expectations for projects seeking to operate within their jurisdictions.

A more pragmatic concern revolves around investor protection. While the SEC primarily focuses on safeguarding U.S. investors, failing to regulate the crypto sector effectively may compel investors to turn to offshore options with weaker protections.

An illustration of this is the case of FTX, a Bahamas-based crypto exchange whose collapse resulted in bankruptcies for U.S. companies and substantial losses for U.S. venture capitalists.

Another example is the downfall of Singapore-based Terra, which had devastating consequences for a surgeon in Massachusetts. This surgeon lost his life savings due to the project’s failure.

Interestingly, the earlier-mentioned crackdown on BUSD encouraged users to shift towards Tether (USDT), a stablecoin known for concerns regarding its reserves and lack of transparency.

These instances illustrate how crackdowns can benefit offshore players who operate beyond regulatory control while adversely affecting U.S. investors and the overall economy.

What Can the U.S. Do?

U.S. lawmakers should adopt a proactive approach to crafting new regulatory frameworks for the crypto sector. Relying solely on the SEC’s relentless enforcement of existing laws is not the most effective strategy.

While the U.S. House of Representatives has initiated steps toward new regulations, much work remains to establish precise guidelines and frameworks.

Also, the U.S. must set clear rules for stablecoins rather than addressing individual issuers on a case-by-case basis. They should also take a more proactive approach in defining guidelines and expectations, particularly for companies seeking guidance.

Another issue that must be addressed is what agencies would be responsible for enforcing regulations in the sector. Countries like Japan benefit from having a single regulator, the Financial Services Agency, overseeing the entire crypto industry.

Currently, crypto is regulated by different entities like the SEC and CFTC, and crypto exchanges are primarily regulated at the state level. To eliminate this confusion, the U.S. Congress should specify the roles and responsibilities of each regulator.

Even if the U.S. establishes the most transparent regulatory system globally, some companies may still choose to operate overseas to avoid scrutiny. Nevertheless, there will always be customers who prefer the investor protections provided by secure and regulated exchanges. U.S. regulators should aim to provide customers with that option.

For instance, Japan has a regulation mandating the separation of customer and corporate assets on exchanges. This regulation was crucial in ensuring FTX Japan customers recovered their funds after the exchange crashed.

In Conclusion,

While a total crypto ban in the U.S. is unlikely, the current situation could have serious consequences. Some companies may move their operations abroad, while others might operate in regulatory gray areas within the country.
The SEC could eventually take action against some of these projects, but it would come too late for many Americans who’ve already lost their savings.
So, it’s up to U.S. lawmakers and regulators to create clear rules instead of making abrupt moves against service providers. Ultimately, the U.S. has a lot to lose if it takes a backseat in the crypto revolution.
To avoid this, it’s essential to prioritize creating clear regulations. This will encourage innovation and allow American citizens to benefit from the exciting possibilities of cryptocurrency.

Disclaimer: This article is intended solely for informational purposes and should not be considered trading or investment advice. Nothing herein should be construed as financial, legal, or tax advice. Trading or investing in cryptocurrencies carries a considerable risk of financial loss. Always conduct due diligence.

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