Breaking down the SEC v Coinbase case: what future for the US crypto industry?
Tensions rise between the US crypto industry and the country’s Securities and Exchange Commission.
Good news: legal clarity is inevitable, either through case law or a new regulation adopted in the Senate.
Bad news: this clarity can turn either way, supporting or harming the crypto space.
Last week, the SEC filed lawsuits against Binance US and Coinbase, finally acting on the threats the SEC Chair Gary Gensler has been voicing since last year. Their core message is the same: “all cryptocurrencies except Bitcoin are securities, and therefore companies offering those without proper registration are breaking the law”. The registration in question is the one for securities broker-dealer, and all US crypto players insist it is impossible to implement in the crypto world.
Binance US also got accused of other misdeeds, such as comingling users’ funds, but that’s a subject for a whole other article 😅
We have already analyzed the main lines of the lawsuits, notably the cryptoassets that were and were not mentioned there.
Today, we’d like to give you an overview of the bigger picture that could help us assess the future of the US crypto industry. For this, we will be looking at the SEC v Coinbase and trying to answer several important questions :
🔻How far does the SEC’s jurisdiction go?
🔻How did the SEC decide the cryptoassets were securities?
🔻What arguments does Coinbase prepare to prove otherwise?
🔻How do the lawmakers intend to react?
🔻What happens next?
The SEC jurisdiction ⚖️
The US financial market has a particularity: it is regulated by not one, but two federal agencies:
🔷 the SEC (Securities and Exchange Commission) responsible for securities,
🔷 and the CFTC (Commodity Futures Trading Commission) overseeing the commodities and derivatives.
The SEC claims that (most) cryptoassets are securities and therefore it has authority over the crypto market. The CFTC claims that cryptoassets are commodities, and therefore remain within its own responsibility.
This rivalry has evolved into a full-scale turf war now, with each agency fighting for control over crypto.
The Howey test 🍊
Do you know what cryptoassets and certain orange groves cultivated in Florida in 1946 have in common?
According to the SEC’s Gary Gensler, the groves business is a good way to assess the nature of cryptoassets, and it proves that they are securities indeed.
Yes, we are speaking about the Howey test that the SEC applied to a number of tokens listed at Binance US and Coinbase. The test takes its name from the landmark U.S. Supreme Court case, SEC v. Howey, which established the criteria for defining an investment contract.
In 1946, the Securities and Exchange Commission (SEC) brought a lawsuit against the Howey Company, an entity that offered parcels of land to investors along with service contracts for cultivating and harvesting oranges.
The Supreme Court ruled that these investment contracts qualified as securities because they involved:
- Investment of Money
- in a Common Enterprise (where investors’ funds are pooled together),
- with an Expectation of Profit,
- to be derived from the efforts of others.
Since then, the Howey Test serves as a legal standard to determine if a particular offering or transaction qualifies as a security, triggering the application of securities laws and regulations.
According to last week’s lawsuits, SEC believes the following cryptoassets qualify as securities:
The SEC’s litigated remit of the crypto space now covers over $100 billion worth of the market, or around 10% of the $1 trillion total crypto market capitalization.
Coinbase arguments 🛡️
Compared to Binance US (or probably any other US crypto player), Coinbase is an entity with much more at stake, and it has been gearing up for a legal fight for quite some time already.
Its CEO Brian Armstrong has repeatedly stated his arguments against the SEC accusations:
📌 in April 2021, Coinbase went public, introducing $COIN security on Nasdaq. As any IPO, it was vetted by the SEC, which has thoroughly examined all the aspects of its operation. The agency did not have any remarks then;
📌 in 2022, the SEC had a change of heart. Since then, Coinbase had 30 meetings with its representatives, seeking guidance, all in vain;
📌 Re-Howey test: the decentralized nature of some cryptoassets does not qualify for “Common Enterprise”, and the utility of other cryptoassets excludes their purely “Expectations of Profit” nature;
📌 Coinbase does not mind getting into crypto securities business. It has even acquired a broker-dealer license, but the SEC refuses to activate it. What’s more, there are no clear rules for crypto securities neither;
📌 in July 2022, Coinbase filed a petition for formal regulation of the crypto sector. The deadline for the SEC’s response expires on June 13;
📌 in the absence of clear guidelines, Coinbase has elaborated its own set of legal standards that it applies to the cryptoassets it considers for listing. As per the company, 90% of all coins are rejected;
📌 contradictory statements from the CFTC are adding to the legal confusion;
📌 finally, by attacking Coinbase, the SEC is attacking the whole crypto sector in the US, pushing tech jobs and capital to the friendlier jurisdictions: the EU, the UAE, the UK, Singapore… etc
Lawmakers to take action ✍️
The good news is that the SEC does not write laws, it merely interprets them.
As a rule, the conflicts stemming from different interpretations of law are resolved in court, and this could very well be the case of cryptoassets’ status.
Another way to define whether securities law should be applied to crypto is to adopt a new law specifically describing how this new asset type should be treated – and hopefully, using more up-to-date methods than the 1946 Howey test.
The calls for such a law have been multiplying lately, especially after a disastrous House hearing in April, where Gary Gensler was so cryptic he could not even tell whether Ethereum was or was not a security.
Alarmed by last week’s lawsuits, the US House Financial Committee scheduled a full committee hearing aiming to “provide clarity for the digital asset ecosystem”. It is to be held on June 13.
Earlier this month, Republican representatives McHenry and Thompson introduced a bill that proposes a clearer separation of authorities between the SEC and the CFTC and assigns crypto markets to the latter.
What happens next? 🔮
Arguably, the SEC v Crypto drama has reached its climax.
From here, either the legislators adopt a new crypto-specific law, or the judge’s ruling in SEC v Coinbase creates case law.
Whatever the tone and the wording of this future regulation, it will bring clarity to the US crypto space, potentially stopping the brain and capital drain.
However, both legislative and jurisprudential processes are slow. Until the first clear guideline is produced, many companies would leave, and the new ones will choose to install elsewhere.
CryptoQuant has already noticed an outflow of $BTC from the US entities (exchanges, CeFi), and Crypto.com closed its institutional service in the US, stating a lack of clients.
The altcoins market is feeling the stress, as exchanges like Coinbase and crypto-friendly fintechs like Robinhood are pushed to delist the coins mentioned in the lawsuits.
This is creating non-negligible selling pressure. Only in the case of Robinhood, an estimate of $580 million worth of $SOL, $ADA, and $MATIC are to be sold over the next three weeks (a rough calculation from $1.3 billion of altcoins held at Robinhood minus stablecoins).
Also, it is possible that the SEC will not stop at exchanges. Some of its next victims could be Tether and Circle, issuers of the leading stablecoins that are crucial for the crypto ecosystem.
The damage, however, will be contained to the US, and that’s a good thing.
P.S. While the SEC was busy planning the US crypto industry’s demise, the European MiCA law has been published in the official journal of the EU.
Just saying.
