Earlier this month when the infrastructure bill came with a provision to broadly expand the definition of brokers to include blockchain ecosystem participants such as miners, developers, and others, the crypto industry sprung into action.
Builders, investors, enthusiasts, lawyers, and everyone in between embarked on an all-out effort to add to the Lummis-Tooly-Wyden amendment and narrow the definition of a broker. Moreover, they sought to educate members of Congress and the general public on the ramifications of a sweeping definition on the future of nascent technology, and why such consideration demands more time.
Organizations such as Coin Center, The Blockchain Association, and Fight For The Future spent countless hours organizing grassroots outreach online, resulting in tens of thousands of calls to Congress. The undertaking garnered enough attention to receive coverage from the Washington Post, which headlined its article How Cryptocurrency Became a Powerful Force in Washington, as well as features in The New York Times, Vox, and others. Although the provision was not amended before it passed the Senate, the saga solidified the blockchain lobby as a serious presence and showed what’s possible when the industry organizes in a coordinated effort.
Nature of Digital Tokens
No matter the eventual outcome of the infrastructure bill, the debate on how much or how little to regulate crypto will continue over the coming months and years. This is why it’s more important than ever for the cryptocurrency industry to continue organizing and press Washington to enact legislation that better reflects the nature of digital tokens. Even Gary Gensler, the chair of the Securities and Exchange Commission, tweeted Aug. 5:
“Rules mostly adopted 16 yrs ago don’t fully reflect today’s technology. We need to look at ways to freshen up our rules to ensure our equity markets reflect our mission: maintain fair, orderly, & efficient markets, and ensure we protect investors & facilitate capital formation.”
Replace “16 years ago” with “75 years ago” and “equity” with “crypto” and it’s painfully obvious that the U.S. must update its definitions of what constitutes a security. Fortunately, there is legislation that has already been proposed by Rep. Warren Davidson (R-Ohio) in the form of the Token Taxonomy Act. Further action can be taken as well, including making SEC Commissioner Hester Peirce’s “Grace Period” law and adopting Wyoming’s forward-thinking crypto regulations at a national level.
The Token Taxonomy Act proposes revisions of the Securities Act of 1933 and the Securities Exchange Act of 1934 to exclude digital tokens from the definition of a security and exclude crypto from taxation as long as transactions are less than $600. The exact text in the proposed legislation is as follows:
“To amend the Securities Act of 1933 and the Securities Exchange Act of 1934 to exclude digital tokens from the definition of a security, to direct the Securities and Exchange Commission to enact certain regulatory changes regarding digital units secured through public key cryptography, to adjust taxation of virtual currencies held in individual retirement accounts, to create a tax exemption for exchanges of one virtual currency for another, to create a de minimis exemption from taxation for gains realized from the sale or exchange of virtual currency for other than cash, and for other purposes.”
First introduced in 2018, the bi-partisan piece of legislation was applauded by The Blockchain Association. In a post supporting the bill, the industry trade group highlighted that a fundamental difference between digital tokens and traditional securities creates an information asymmetry between projects and their supporters/investors. This imbalance can be seen in how decisions are made and implemented.
In crypto, decisions are discussed publicly and debated on message boards and official group chats. Examples of this are widely seen in the public discourse in the forums and Discord groups of a number of DeFi projects, including Uniswap, SushiSwap, Aave, Compound, etc. Actions are taken in open-source codebases on Github where anyone can report bugs, suggest improvements, or inspect how things work. Furthermore, every transaction from a project’s treasury, as well as large backers, are publicly available on a ledger for anyone to access. This transparency contrasts with conventional companies where decisions are usually made by a small group of people in private. Investors and consumers often remain in the dark.
Although the levels of information asymmetry between digital token communities and private companies are clear, what is still fuzzy is the level of coordination involved in operating them, especially at the beginning of digital asset projects that center around a small group of people with a vision. Because of guidance given by the SEC over the years, many blockchain-based projects concerned about being labeled a security have decided to set up their operations outside of the U.S. and block U.S.-based investors from participating in token sales and airdrops. The uncertainty around how much or how little coordination is involved leaves the door open for the SEC to declare many tokens a security even if they intend to decentralize overtime.
The Token Taxonomy Act is an excellent start but more action will be needed to properly decentralize through a multi-year grace period. Decentralization is an ongoing process where an ecosystem of participants and commonly accepted practices are tested and implemented.
SEC Commissioner Peirce saw the need for this grace period in the Token Safe Harbor Proposal in February 2020 (and updated this year). It grants projects a three-year window to decentralize. MakerDAO, for example, started in 2018 and moved toward a more formal foundation structure to drive the protocol forward before it handed over development to the community. That promise was kept, and this July Maker Founder Rune Christensen announced the foundation would soon be dissolved, with operational control transferred back to MakerDAO.
As for the action at the state level, check out Wyoming. More than 20 blockchain-related laws have been passed by the Cowboy State, including recognition of the property rights of digital asset owners, establishing a sandbox to allow crypto companies to operate without fear of violating existing laws, and exempting crypto from money transmitter requirements. Wyoming also created a special purpose depository institution that offers banking services to companies handling crypto that are unable to secure FDIC-insured banking services, exempting digital assets from categorization as utility tokens, allowing DAOs to incorporate as LLCs, and more.
The sandbox would foster communication between founders and state officials and give regulators a better grasp of how blockchain systems work. “The state is bringing in more revenue and tech jobs thanks to crypto,” said Sen.Cynthia Lummis (R-Wy.) “It could be a sandbox in action for DC.”
The stakes are high. In the past several weeks, prominent lawmakers have taken aggressive stances towards cryptocurrency, and DeFi in particular. Sen. Elizabeth Warren (D-Mass), a fierce critic of Wall Street, described crypto as a system run by “faceless shadowy super coders and miners” and pleaded for stronger regulatory action. In a letter to Treasury Secretary Janet Yellen, Warren highlighted the risks of stablecoins and DeFi: “DeFi refers to a fast-growing and highly opaque corner of the cryptocurrency market which allows users to engage in a variety of financial activities – including lending, borrowing, and trading derivatives to take on leverage – without an intermediary like a bank. Given that participants and project developers may remain anonymous, DeFi could present particularly severe financial stability risks.”
On August 5th, SEC Chair Gensler responded to Warren’s concerns. Gensler has long said crypto needs “investor protection” and that he is ready to apply t existing securities laws on tokens and platforms. “A typical trading platform has more than 50 tokens on it,” Gensler said. “In fact, many have well in excess of 100 tokens… I believe we have a crypto market now where many tokens may be unregistered securities, without required disclosures or market oversight.”
Rep. Brad Sherman (D-Calif.) has called for an outright ban on cryptocurrencies. “Cryptocurrency is something you can bet on, but if people want to have the animal spirits to take risks, I’d prefer them to invest in equity markets to support the building of American companies, or the California lottery, to support the schools in my state,” he said at a recent hearing. The congressman later added that, “Cryptocurrencies have the political support of the ‘patriotic’ anarchists’ who are rooting for tax evasion. I hope we shut it down.”
There have been multiple calls by industry leaders to more formally organize political action. In his Aug. 9 thread, Messari founder Ryan Selkis suggested that crypto supporters could form the backbone of a third political party. Crypto lawyer Justin Wales wrote a blog post on how the industry can organize at a grassroots level.. He says more than 14% of Americans own cryptocurrency (which is four times as many as all of the vegetarians and vegans in the country). Yet many members of Congress still treat it as a fringe issue. He proposes the creation of a national chapter-based crypto association that is similar to the ACLU or AARP with policy goals.
It’s imperative to organize and take action. And it can be done. Just look at how technology leaders in the 1990s safeguarded the evolution of the internet. Roger Cochetti, then the managing global internet policy for IBM, worked with a number of wonks to draft a framework that so much internet policy is based on today. Cochetti stated that:
“Internet policy-making in those early days was not driven by scholars, law review articles, extensive hearings or international conferences. It was driven by the practical concerns of businesses and the input of a very few NGOs.”
In order for the U.S. to remain competitive, Congress must pick up where Cochetti left off and protect blockchain technology from being stifled by unwise and unjustified laws and regulations. It’s not just the right thing to do, it’s also good business.