In this piece, I argue the crypto industry currently lacks proper disclosure practices at the level that regulators (and serious investors) will expect in the future.
“No proper disclosures” has been a refrain used by the SEC in their attempt to paint the industry’s non-compliance.
You can read it on the above link (no paywall) as a preamble to my additional commentary on this topic.
I’ve poured over 3 recent significant legislations pertaining to digital assets:
the EU’s Markets in Crypto-Assets Regulations (MiCA)
Each one of these recently published regulatory actions mentions the disclosure aspect several times and offers some guidelines for meeting them. However, none of them were detailed enough, nor specific enough about the peculiarities of digital assets and emerging (or established) projects that depend on the token’s utility.
Last month, Paradigm published an excellent essay, The Current SEC Disclosure Framework Is Unfit for Crypto. Although it is clear the current framework and practices do not squarely apply, what would proper disclosures entail? That is where we should be focused, going forward.
Of course, several cryptocurrency projects claim to be sufficiently decentralized, and beg the question: are disclosures necessary? However, being decentralized is not a cop-out for the avoidance of responsibility to disclose comprehensive information about the performance and evolution of a given project.
My counter-argument here is that even the most decentralized tokens such as Bitcoin and Ethereum could benefit from more cohesive disclosures about their evolution via performance metrics and indicators to prove their market status.
Saying that a given protocol is open, therefore anyone can see their on-chain data is not enough, and certainly not a good reason for stopping to disclose a comprehensive view about the ecosystem. The problem with blockchain related data is that information is disjointed, tough to read and not cohesive enough for human comprehension or interpretation. Granted, a flury of analysts publish their own spins on given projects, but the quality of many such reports can be improved, and they don’t replace the requirement for base level data and information.
Furthermore, given the realtime nature of the blockchain, disclosures could be continuously available, and not a one-time regularly scheduled event. And the silver lining behind this approach is that decentralized protocols could disclose their performance autonomously, as I’ve explained in that previous blog post.
Disclosures don’t only protect consumers against excessive and unchecked promotion, they also allow for better correlation between success realities of projects and their market valuations. In essence, disclosures help make token holders and institutional investors better informed and more comfortable with digital assets.
The formalization of disclosures is coming to crypto projects, whether decentralized, centralized or nascent. We should better prepare for it and embrace it.
The SEC has momentum, and they can move much faster than Congress, sadly. The only way to make headways is to throw the SEC a curveball, distract them, think out of the box, do something different, or wait for an unexpected event to change the variables.
Some candidate ideas could have a faster gestation period than passing a Bill.
It can go either way, and the type of outcome will determine how significant this might be for the industry.
4/ State Legislation Mess
In the absence of federal agencies’ leadership, several states are enacting legislation touching pieces of the blockchain industry. Although this patchwork of local regulation may or may not be congruent with the national strategy, it’s possible that one such Law might tip the attention and create a new sense of urgency. Notable mentions are California’s DAO Bill, Texas’ Mining Bill, Florida’s proposal to ban CBDCs, Wyoming’s Bill on private crypto keys, etc. Regardless, this underscores the mess this is creating.
5/ Self-inflicted Event
The SEC’s arrogance was asserted when they either sued or fined the top four US actors, Ripple (XRP), Coinbase, Kraken, and Gemini. It’s possible that something starts to crumble under Gensler’s dictatorial and domineering style of leadership.
6/ A Major US Bank Endorsement
Although major US banks have been absent from any crypto cheerleading, that can change on a dime. These banks are under pressure to become more open-minded about the inevitability of the blockchain and cryptocurrencies. If one of them makes a bold move, others will be fast followers.
7/ Unexpected Turn in the FTX Trial
The trial is set for October, but it could get delayed, or we might see a speedy outcome. There hasn’t been a shortage of unexpected twists and turns, and that will probably continue as more layers of the onion get peeled.
8/ The US Dollar Tumbles
Many are sounding the alarm bell on the continuing weakness of the US dollar versus other world currencies, some of which are competing to replace its supremacy. Then you need to compound the US Fed’s insatiable appetite to print more USD, and the theory that cryptocurrency is a good alternative hedge against the devaluation of the dollar. The chart to keep an eye on is the US Dollar Index (DXY), which has been on the decline, dropping from 110.88 in November 2022 to 101.61 in early May 2023.
9/ Senate Flip
Midterm elections could flip the Senate toward a Republican majority which might embolden the US House to act more aggressively pertaining to cryptocurrency.
Of course, the probabilities are low for some of these scenarios, but everything is possible. We need a breakthrough because the current path for change is very slow.
And breakthroughs often come as a result of unexpected surprises.
As expected, the Democrats praised Gary Gensler and threw him soft ball questions.
Unsurprisingly, the notable Congressmen that skewered Chairman Gensler the most were Reps. Patrick McHenry, Tom Emmer, and Warren Davidson. To add to this wonderful trio, a newcomer, Rep. Byron Donalds delivered a final coup de grâce that summed it up.
Nice finale by @RepDonaldsPress to SEC's Gary Gensler: "Congress never gave you a framework for regulating digital assets. Where are you pulling that one from? … We're not giving you authority, you're just taking it, that's part of the issue right now…Congress painted with a… pic.twitter.com/kJdq2wjtih
Contrasted with the fireworks-heavy preceding day, that hearing was a bit of a whimper. Democrats were wishy-washy on supporting stablecoins. Rep. Maxine Waters had the audacity to declare that we “are starting from scratch”, a very sad statement that typified how politics can quickly lead to a stalemate when each side digs deeper into its own positions. Sadly, that Hearing was short, and ended in a status quo situation despite the fact that many in the crypto industry had high hopes for seeing stablecoin-related legislation be the first to get passed, given the many months of preparations.
Terrific Thursday
Thankfully, the European Union saved the week, with something tangible. Almost three years in the making, the Markets in Crypto-Assets Regulation (MiCA) was passed by the European Parliament. Although not perfect, it did usher clarity and an willingness to fold crypto into the traditional financial system. Clearly, the EU doesn’t want crypto to be an outlier. This was a good step in the right direction, especially when contrasted with the US policy of trying to keep crypto outside of the financial system while tightening the noose on it.
Former SEC Chair Jay Clayton said it well this morning on CNBC.
“The courts are not an efficient place to resolve classification issues in securities.” “Europe is trying to figure out how to bring crypto into the financial system, whereas the US policy is on keeping it out of the system.” says former @SECGov chairman Jay Clayton @SquawkCNBCpic.twitter.com/t2i0bCU6Hj
Indeed, the gaps are getting wider, with each passing day that the SEC continues on its current path of crypto exclusion. Rumors has it that Senator Elizabeth Warren also has something planned.
Republicans appear to have the upper hand in terms of increasing the heat on the SEC.
Yep. To correct a long series of abuses, I am introducing legislation that removes the Chairman of the Securities and Exchange Commission and replaces the role with an Executive Director that reports to the Board (where authority resides). Former Chairs of the SEC are ineligible. https://t.co/VBnkgt8bhM
Two questions remain: Can the US Congress move fast and pass at least one piece of legislation to put the breaks on the SEC’s damaging path?
Can the US House of Representatives oust Gary Gensler as Rep. Davidson seems to be determined to do when he introduces his awaited legislation hopefully next month?
This movie will surely have multiple future seasons and episodes, but the US spectators are getting tired of being taken around in circles.
The US Congress needs to take a strategic approach to Crypto by grabbing the bull by the horns.
The US Congress should stop proposing crypto-related Bills like throwing mud at a wall to see what sticks.
A search on the federal GovTrack website with the keyword “cryptocurrency” reveals eighty-one (81) cryptocurrency-related Bills have been introduced by Congress since 2014. They are spread across various topics: taxation, CBDCs, stablecoins, token classification, commodities aspects, consumer protection, ransomware, mining, foreign issues, and code of conduct for ownership by US officials.
These are good topics because they are part of the nitty gritty aspects of blockchain, but that’s not the right approach. Tackling these matters one by one requires some good knowledge of crypto because they are nuanced topics where details matter. Except for a minority, most Congress Members do not have sufficient knowledge about blockchain and cryptocurrency to go granular on it. Therefore these are not the right starting points hoping that one of them will pass or make a significant impact on the currently stagnating regulatory environment for crypto.
Instead of getting lost in the weeds, Congress needs to be more strategic about it. They should just focus on passing a single Bill as a manifesto declaring crypto as essential to US security, its economy, prosperity, and ongoing technological leadership.
Let’s call it “The US Cryptocurrency Leadership Act”. This Act would direct all government agencies to facilitate and prioritize innovation around blockchain-enabled technologies, cryptocurrency, and their adoption across society, government, and business.
Japan’s Liberal Democratic Party has this text in their recently published Japan’s NFT Strategy for the Web 3.0 Era: “The arrival of the Web 3.0 era is a great opportunity for Japan. But if we continue as we are now, we will surely miss the boat. We should design our national strategy to develop our digital economy in the Web 3.0 era, utilizing NFT and crypto assets, and position it as a pillar of growth for new capitalism.”
This was an excellent example of how to state the intent of a country’s leadership. As for the US, here’s what the text of this hypothetical Cryptocurrency Leadership Act would look like. The first paragraph is taken verbatim from the White House Framework for Responsible Development of Digital Assets which started off well but went downhill right after.
US Cryptocurrency Leadership Act
The digital assets market has grown significantly in recent years. Millions of people globally, including 16% of adult Americans, have purchased digital assets—which reached a market capitalization of $3 trillion globally last November [2021]. Digital assets present potential opportunities to reinforce U.S. leadership in the global financial system and remain at the technological frontier.
While US government agencies and regulators are already aware of the potential risks pertaining to their oversights, the US needs to prioritize the innovative and entrepreneurial aspects of this emerging market to allow it to achieve its full economic growth potential.
Blockchain technology and cryptocurrency are essential innovations that the US must lead in. Just as the US achieved leadership with e-commerce and web-enabled businesses during the early days of the Internet, we need to seize the opportunity of this next technology phase representing the Internet of money.
Today, the US has some catching up to do. The lack of regulatory clarity has already hindered the full entrepreneurial potential of this sector.
More than one million tech jobs in the US are at risk of fleeing. Thousands of companies are already involved and affected. Billions of dollars in venture capital have been poured into startups and potentially promising projects.
The US leadership will have implications for our economic security, trade, and the strength of the US dollar. Therefore, the US must develop a sound strategy focused on blockchain-based technologies and cryptocurrencies, and let innovation play the role it should.
The risks within cryptocurrency are manageable, but they should not become impediments to making progress toward the propagation of this technology.
With that in mind, we are ordering the SEC to reverse its current course and provide additional clarity and openness toward cryptocurrency. Instead of focusing on enforcement actions that are costly and damaging, they should rather dig into their panoply of existing capabilities, and redirect their resources to start updating rules and regulations pertaining to cryptocurrency and blockchain-enabled technologies.
Within 90 days, being the lead agencies, the SEC and CFTC must come back and present together updated regulatory actions that are coordinated and aligned within their current scope and mandates in order to make crypto more friendly in the United States.
Coordination is important and should be accomplished vertically within each topic instead of horizontally by governmental agencies. Today, various departments have published what they see from their vantage point, but this siloed approach has resulted in overlapping and sometimes conflicting conclusions (e.g. the SEC disagreeing with the CFTC on the status of Ethereum). Instead, we need to tackle these various topics, one by one across agencies, which would result in a cohesive view that is coordinated and harmonized. For example, there should be a single token classifications report that transcends any particular agency treatment. This approach would yield more clarity because the market is organized that way.
Here are the parts that should be addressed by this strategic report, along with our expectations on the direction that should be taken.
Exchanges: create a new license class for digital assets exchanges crypto including details on risk, KYC/AML, and reporting standards, along with specific requirements for all allowed services: listings, custody, brokerage, audits, fees, marketing, ancillary services, etc.
Tokens: we should allow token-based innovative business models to be tested, iterated upon, and perfected in order to maximize their chances for widespread adoption at scale.
ICOs and token generation events: we need to allow tokens to be created, and a path for them to become tradable at a given time in their maturity cycle.
Licenses: we need a single place where all required crypto-related licenses are clearly visible in order to make navigation of the regulatory maze more approachable.
Exchange Traded Funds (EFTs): EFTs proposals should be considered without prior bias or prejudice against them for being in the crypto space.
Consumers: US consumers should be allowed to trade cryptocurrency or participate in emerging token projects at some maturity levels, and based on risk factors related to their income and net worth brackets.
Disclosures: disclosure standards for token-based projects should be published and followed by tokens that are listed on US exchanges.
AML/KYC/CFT: existing processes around these practices should be rolled in
Taxes: clarity around tax treatment for crypto assets, including staking, and other DeFi-related income.
NFTs: we need confirmation that NFTs are not securities, rather they are collectibles. They are potentially the future of loyalty programs, community rewards, and membership perks, therefore the NFT market shouldn’t be burdened by regulatory uncertainty.
DeFi: DeFi is not perfect, but it’s innovative. It should be allowed to continue growing with the right guardrails, not roadblocks.
DAOs: DAOs should be allowed to register as corporations.
Banks: banks should be allowed to offer on/off ramps to crypto, hold a % of their assets in cryptocurrency, become certified custodians, and own or back USD-based stablecoins.
Mining: Responsible cryptocurrency mining practices should be allowed according to published energy consumption standards. No state should ban mining.
In the meantime, the SEC and the CFTC should place a moratorium on all crypto-related lawsuits, except for clear fraud cases.
With this Act, it is useful to compare the advent of blockchain technologies and cryptocurrency to the arrival of the automobile at a time when the transportation infrastructure consisted of dirt roads. Gradually, the shift was made to paving roads and later creating highways, along with updating the rules of conduct. These updates allowed cars to reach their full potential as they became faster and safer.
Today, if we don’t allow for the paving of new infrastructure rails and if we don’t modernize parts of our regulations, we will see a disastrous mismatch similar to what might have happened if fast/modern cars would have continued to drive only on dirt roads: chaos, traffic jams, and dust in the air would have been part of that outcome.
This Cryptocurrency Leadership Act also calls for the creation of a joint government-private sector salvation committee consisting of a bipartisan group of 10 government members and 10 private sector leaders working hand in hand to oversee the direction and implementation of this new chapter in US cryptocurrency policy.
Let’s take the high road on crypto. Let’s be strategic about it.
Let’s hope the US Congress can start thinking about passing this one Act to unlock this industry’s potential, unchoke the choking, and pave the way for US leadership.
Napster was killed to save copyrights. What does killing crypto save? Nothing.
There are interesting analogies between Napster’s rise and fall during the 1999-2001 period and today’s situation with the cryptocurrency sector in the US.
Napster was a popular peer-to-peer file-sharing network written and launched in 1999 by then-18-year-old Shawn Fanning. It was originally conceived as a workaround to his increased frustration with dead MP3 dead links emanating from central music websites he was visiting. Napster proposed to solve this vexing situation by bypassing these websites and stringing together users’ personal computers where MP3 files were stored. (MP3 is a compression standard that preserves CD-quality sound files)
Suddenly, Napster became famous for sharing digital music between users. At its height, it boasted 80 million users after passing 25 million in its first year. Its popularity rivaled top applications, email, and instant messaging.
Sadly, Napster’s success could not last because it couldn’t control copyrights over its network. So, in essence, it became illegal.
During its short life, Napster sparked the peer-to-peer technologies movement and captured the imagination of its application outside of music. Fawning’s invention was “file sharing via a peer-to-peer method.” Soon after, more than 200 startups with various file-sharing solutions entered the P2P file-sharing market. P2P became the essential tech of the day, just as AI is today.
Proponents of Napster opined that users were just sampling the music and that it was contributing to more CD sales. Others argued it was a wake-up call against distribution companies’ excessive monopolies and their being adverse to accepting new technologies.
During its ups and down, Napster was described as revolutionary and world-changing. It even placed temporary doubts in the music industry’s business model, forcing it to defend its intellectual property. Napster was unstoppable, except by court order.
Soon enough, the Recording Industry Association of America (RIAA) filed a lawsuit against it. The National Association of Recording Merchandisers joined them with a panoply of artists such as rock band Metallica and rapper Dr. Dre. Ultimately, these groups won, forcing Napster’s shutdown in 2001.
Technically, none of the information resided in a central server in Napster’s possession. Everything was spread across millions of user computers, but Napster was guilty of “tributary” copyright infringement. In essence, Napster facilitated other people’s infringement, not violating copyright itself.
There are uncanny parallels between crypto and the blockchain today about how a new revolutionary technology becomes so popular that it generates enough fear to warrant an assault against it.
The difference this time is that crypto is not an illegal technology. Furthermore, it’s not the private sector that wants to shut it down. Instead, it’s the US Government, its agencies, and regulators.
They are doing so by dramatizing crypto’s pitfalls while ignoring its virtues. Sadly, every tool at their disposal is being deployed to erect barriers, manufacture choke points, instill fear, launch lawsuits, impose arbitrary fines, and do almost anything short of declaring crypto illegal.
The most recent Economic Report of the President featured 30 pages bashing the technology behind crypto in a very biased way. Operation Choke Point 2.0 has been well documented as an overt series of actions the Biden Administration took to discredit the crypto industry. And the cherry on the cake became the SEC’s increased pace of litigations against several crypto actors.
But crypto is not Napster. So yes, they do share a native element: peer-to-peer technology. But the analogy stops there.
Sending money at the speed of the Internet isn’t breaking any laws. It only challenges existing financial rails and infrastructure. It’s a competitive factor anyone can adopt.
Napster was killed to save copyrights. So, what does killing crypto save? Nothing, except that it might kill about 1 million crypto-related jobs that are at risk of leaving the US to more welcoming parts of the world such as the European Union, UK, Switzerland, UAE, Hong Kong, Singapore, Australia, and Japan, who are going out of their way to welcome crypto businesses.
While US regulators and government agencies have been attacking the crypto industry, the USD as a reserve currency for global commerce is being challenged by the Chinese Yuan. Countries like Brazil, France, Russia, Iran, and Saudi Arabia are gradually replacing the USD in favor of the Yuan for their trade, including with Latin America, Asia, and Africa.
If not for the assault on crypto, the US would already be in a leading position with a crypto-enabled digital dollar that could quickly be adopted worldwide as a de facto standard. In another world, the same agencies currently attacking crypto would focus their efforts on backing it. Even US banks would immediately throw their weight behind cryptocurrency more decisively if it weren’t for the government pouring hot water on it so frequently.
There is also a political dimension. The crypto agenda is so polarized today, as some believe it might be a crucial swing voter issue during the next US elections.
Crypto is not Napster. Don’t kill it. The collateral and consequential damage will be irreversible and too grave to ignore.
