Only Congress Can Fix the SEC's Mess on Crypto
When it comes to cryptocurrency regulations, the Securities and Exchange Commission (SEC) is an outdated truck hooked to an old trailer impeding traffic on today’s digital economic freeway. Founded by the Security Exchange Act of 1934 and guided by the Supreme Court’s 1946 Howey decision, which defined financial securities of another era, the SEC is a wreck that has already happened. Only Congress can fix it, and must do so quickly before more damage is done.
The SEC has manipulated the absence of regulatory clarity of blockchain technology to justify going beyond its authority. SEC Chairman Gary Gensler’s explanation is that the lack of rules mean the industry is the “Wild West” rife with fraud and criminality, and therefore, he must be the “cop on the beat.” In truth, his SEC seems to ignore brazen fraud cases like last November’s Squid Coin scam.
Rather, the SEC exploits antiquated rules to throw all its weight into cases against legitimate companies and their executives. The SEC’s biggest crypto lawsuit to date, for example, is the non-fraud lawsuit filed in December 2020 against Ripple Labs. An American company that sells a blockchain cross-border payments system to banks, on occasion Ripple uses a digital asset called XRP as a bridge asset for fast and cheap settlements. Other companies offer similar products, but for some reason Ripple has become the SEC’s biggest target.
Given its previous success from bludgeoning other crypto companies into painful settlements, the SEC was emboldened to go big against Ripple and its top two executives individually. The SEC claims Ripple and their executives are guilty of “unregistered securities transactions” with XRP tokens, which have no resemblance to the definition of securities.
Despite this fact, the SEC has accused Ripple Labs of failing to register XRP as a security and acting with reckless disregard for the law in selling the token for seven years. The SEC demanded over $1 billion in fines and threatened a battery of intrusive subpoenas into the corporate and private lives of its founders. Apparently, the SEC thought the shock and awe of unbridled regulatory power would lead Ripple and its executives to beg for an immediate settlement.
It turned out to be a miscalculation by the SEC. First, Ripple’s size also meant it has the resources to fight back. Second, and more importantly, overzealous regulators always overreach in court. Ripple’s lawyers have run circles around the SEC’s exaggerations by demonstrating the rules on digital assets, like XRP, have been unclear for a long time and confused by SEC’s policy of regulation by lawsuit.
However, SEC’s miscalculation may end up having dangerous consequences. Since the SEC is losing the battle to force Ripple to settle, the stakes for the legal case have only increased. The SEC’s arguments about XRP are so sweeping and Ripple’s counterarguments on overreach are so compelling that the courts will likely set a very big and potentially damaging precedent.
Conceivably, the SEC will either be given the green light to set rules on a whim with unbridled enforcement or it will lose much of its jurisdiction over digital assets entirely. It is too dangerous to let the courts settle something so complex. History and logic dictate that Congress should reconcile this policy issue through legislation.
Unfortunately, Ripple isn’t the only SEC target. There is a pattern of these cases showing the SEC believes its absolute jurisdiction over crypto need not be logical. Chairman Gensler is doubling down on this preposterous overreach by going after a small New Hampshire company called LBRY that built an open-source publishing website that purports to be a decentralized, censor-free YouTube. The SEC is claiming the tokens used to tip creators on the platform are unregistered securities, which is like equating Disney Dollars with Disney stock.
Further, the market cap on LBRY’s use tokens is miniscule and no fraud or malfeasance has been alleged, but the company told the court the SEC threatened to make it “very expensive” for the company unless it caved in. Congress should never allow bureaucracies to even imply blackmail. This is the kind of egregious overreach that cries out for Congressional intervention.
What exigency was there for Chairman Gensler to try to coerce a small player like LBRY into a ruinous settlement on such flimsy regulatory grounds? Why bludgeon inventive and competitive ideas if not to aid big incumbents threatened by blockchain innovation? This unrestrained power only leads to more disturbing questions about the intent of an agency which was conceived to protect the little guy against big, corrupt interests.
The revitalized conservative majority on the Supreme Court put its foot down on regulatory overreach at the end of the last term, making it clear that agencies can’t exploit gaps in the law to give themselves authority that Congress hasn’t expressly given them. But there was an even sharper message to Congress from the high court that political dysfunction is no excuse to keep punting the ball to government lawyers with unlimited resources who only know how to sue honest people into oblivion.
Even President Biden’s executive order earlier this year, which is to study and make suggestions on new cryptocurrency rules, conspicuously left out the SEC, implying toleration of what Chairman Gensler’s SEC lawyers have been doing. This too is inexcusable. The new draft regulatory framework released by Senator Cynthia Lummis (R-WY) and Senator Kirsten Gillibrand (D-NY) would correctly define most digital assets as commodities and wrench their regulation away from the SEC. But Congress should move past the pencil stage and start marking up this bill in ink, and send a clear message to the SEC that its abuse has to end.
Todd Tiahrt is a former Member of Congress who served on the Transportation, Treasury and Independent Agencies Subcommittee of the House Appropriations Committee.
