US Congressman, Warren Davidson, has officially filed legislation that would restructure the US Securities and Exchange Commission (SEC) and fire its chair, Gary Gensler. Moreover, in a recent Twitter post, Davidson called Gensler a “tyrannical chairman” from whom Congress must protect the markets.
The end of Gary Gensler’s reign at the SEC is upon us. Relief is in sight. Hopefully so are the chances for effective crypto regulation. This change comes too late for many. It’s too late for the clients of FTX, Celsius, and Blockfi, and too late for investors in LUNA, Iron Finance, OlympusDAO, and UST. As Gary himself pointed out last week: “Hucksters, Fraudsters and Scam Artists” ran rampant during his reign. Not exactly something I’d be boasting about if all of this happened under my regulatory watch while lunching with SBF, attending speaking conferences in the Bahamas, and spending agency resources extracting fines from Kim Kardashian. Chair Gensler is right that people were hurt by crypto, but his response, which was to sue and fine the companies that actively sought his office’s advice, heaped punishments on the wrong targets. His actions are widely viewed as hurting the US by pushing the crypto industry offshore and may lead to a dismantling and restructuring of the SEC a 89-year-old institution. Read on to see how we got here.
The Crypto-Currency Act of 2020
As Gary Gensler took control of the SEC as Chairman in April 2021, there was already an understanding in Congress and at the SEC as to how crypto should be regulated to protect investors. “The Crypto-Currency Act of 2020” sponsored by Arizona republican Paul Gosar, in coordination with MetalPay CEO Marshall Hayner, had already been circulated in Washington DC (you can read about this bill on the Sarson Funds website, we worked to help support the legislation) and SEC board member Hester Pierce had already been crowned “Crypto Mom” by her legions of supporters for her understanding of the special treatments that would be required to regulate crypto.
The industry was starting to agree on the need for several existing regulatory agencies to be involved to adequately regulate the unique sectors of the emerging industry. The Crypto-Currency Act of 2020 took a first stab at this with the SEC designated to regulate securities-like tokens, the CFTC for commodities-like tokens, and FinCen for cash-like tokens. Congress, the CFTC, and FinCen then deferred to the SEC and its incoming chairman, whom, as a blockchain professor at MIT, was undoubtedly chosen for the post because of his perceived expertise in crypto, to see if this power-sharing arrangement would be a good path forward for the country.
Greedy Gensler and the SEC
Instead of hitting the ground running and building off of what others had already started, in the early days, Gary Gensler’s most damaging contribution to the crypto regulation conversation was his lack of action. He proved unwilling to provide guidance on what which projects in crypto should be treated as a security, a commodity or even what features would be worth considering when making such determinations. Despite being recorded as previously saying that many cryptocurrencies were not securities, as the head of the SEC he now refused to provide any clarity around classification.
When crypto exchanges like Coinbase came with questions on how to comply with securities regulations, they were not answered, and instead they were issued fines for having operations that the SEC deemed to be out of compliance. How many times did Coinbase ask for guidance? According to their recent twitter post, 30 times!!!
The SEC by its nature, is not structured to manage commodities. There is no one at “gold” or “silver” that can fill out an SEC 10-k form. Obviously, SEC compliance by a commodity would be an impossible request. The same can be said for “Bitcoin” since there is no controlling entity to complete SEC requests. Companies and commodities must be regulated differently. This is something that Gary Gensler understood and even taught during his time at MIT as a blockchain professor, but then failed to put into practice when he was in a position at the SEC to create a novel regulatory framework.
The only conclusion that I can reach for Gary Gensler’s unwillingness to provide this guidance is that in doing so he would have had to place large portions of the cryptocurrency market under the regulatory authority of the CFTC and FinCen and away from the SEC. Apparently this was something that Greedy Gensler was unwilling to do.
Regulation by Enforcement and the Destruction of an Agency
Gary Gensler’s tenure at the SEC will be rightfully blamed for retarding the growth of the crypto industry in the United States. If that was the agency’s goal, which it may well have been, history will be kind to it and to Gary Gensler. If the agency’s goal was actually to provide investor protection and effective regulation, there is little denying that they have done a terrible job.
Investor losses under Gary’s watch reach well into the tens of billions, and the affected US investors number in the tens of millions.
The SEC has always had two primary tools at its disposal. The first choice for the SEC is to negotiate with an offending company. It has the ability and a great track record of being able to extract a penalty from an organization in the form of a monetary fine and to get the company change their behavior going forward. We saw the SEC use this tool early in Gensler’s term with $100mm fines for Blockfi, $30mm for Kraken and $24mm for Block.one.
The restitution payment would sometimes go towards compensating victims that suffered damage or funding the SEC’s operations. Historically, we recognize these as payments made by firms that ‘admit no wrongdoing,’ but agree to make a restitution payment and change corporate practices going forward. The other tool at the disposal of the SEC is to take legal action against an offending company. Before Gary Gensler, this path was rarely, if ever, chosen. Lawsuits are long, costly and victory is not assured. (See SEC vs Ripple now entering its 3rd year). Also, as a civil trial slowly grinds forward, there are no guarantees that the offending behavior is halted. For decades at the SEC, legal action has been viewed as a last resort.
However, this has changed under Gensler’s leadership. The current belief in the crypto industry, after numerous examples, is that paying a fine is no longer enough. The SEC will continue to persecute your crypto business for failure to comply with securities regulations. These regulations, unfortunately, are often IMPOSSIBLE for your company to comply with given the decentralized nature of cryptocurrencies. This has cause crypto companies to wonder, why pay the fine? Paying the SEC exorbitant fines does not clear a regulatory path for your continued business operations, so why pay them? That change in sentiment has caused the SEC to lose its most effective regulatory tool and massively diminishes it overall effectiveness. It is the reason that the agency now faces more than 100 active lawsuits and is the reason why Congress must now recall and restructure the agency, certainly without ‘Greedy Gensler’ at the helm moving forward.