Crypto in the Firing Line
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Crypto in the Firing Line

Investment
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5.5.22
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Regulatory crackdowns followed by moves from ‘main street’

If you follow business news there is no doubt you’ve heard about the heat the cryptocurrency industry has come under in the last few weeks. The main United States financial regulator, the Securities and Exchange Commission (SEC), filed lawsuits against both Binance and Coinbase, major cryptocurrency exchange platforms, sending ripples of concern through the finance world and disrupting some international markets. What we are witnessing is a dramatic crackdown on a largely unregulated industry. One thing is for sure, the future of crypto is changing.

The Allegation Low Down

Binance accusations

Binance and CEO Changpeng Zhao have been accused of operating a “web of deception” by the SEC. The complaint, filed in the federal court of Washington D.C, lists 13 charges against Zhao, Binance and the operator of its US Exchange. Allegations include artificially inflating trading volumes, diverting customer funds, failing to restrict US customers from its platform and misleading investors about market surveillance.

If you haven’t heard of Binance before, it is the world’s largest cryptocurrency exchange. An online platform offers the purchase and sale of cryptocurrencies and digital assets for relatively small fees. Last year Binance’s trades dominated the crypto market, accounting for 70% of all trades, and billions of dollars of trades per day. Yes, you read that right, billions per day.

In 2019, Binance faced regulatory pressure in the US, in response the company restricted access to its primary site Binance.com, creating a new US business, Binance.US. Fewer cryptocurrencies and digital assets were offered on the US site, and the business would be subject to US regulations – therefore operating legally within the country.  

Central to the accusations made by SEC is the notion that Binance failed to split off the US company. Whilst Binance.US states that from 2019, their customers were restricted from trading on Binance.com, the SEC alleges this is not true, saying Zhao and Binance “subverted their own controls to secretly allow high-value US customers to continue trading on the Binance.com platform”. Essentially the SEC is saying whilst Binance.US appeared to be separate from its main site to the public, behind the scenes it was not.

Other allegations are that Binance.US allegedly offered its customers commodity derivates, which place a bet on the price of a cryptocurrency rather than purchasing it, despite not being registered with the derivatives market regulator.

Binance expressed their disappointment in the SEC’s decision to file the allegations in a blog post, citing “actively cooperating with the SEC” and “engaging in extensive good-faith discussions to reach a negotiated settlement to resolve their investigations.” Ultimately, they state that they will “intend to defend our platform vigorously,” and state that the SEC’s actions “undermine America’s role as a global hub for financial innovation and leadership.”

Coinbase accusations

Just one day after laying charges against Binance, the SEC filed suit against Coinbase, alleging that the US trading platform has been operating as an unregistered broker since 2019 or potentially earlier. Further charges are due to Coinbase’s failure to register the offer and sale of its staking-as-a-service programme, which allows investors to earn returns through the firm's work in verifying and securing transactions on the blockchain according to Forbes.

Further allegations of Coinbase making “billions of dollars unlawfully,” are made in the complaint, by acting as an unregistered broker and providing a marketplace for securities, thus affecting transactions for Coinbase customers. SEC Chair Gary Gensler has said that Coinbase has “deprived investors of critical protections” in the prevention of fraud and market manipulation.

Coinbase’s Chief Legal Officer Paul Grewal spoke out against the allegations, saying that the SEC’s “reliance on an enforcement-only approach in the absence of clear rules” for the crypto industry is “hurting America’s economic competitiveness and companies like Coinbase that have a demonstrated commitment to compliance.”  

Crypto Plummets

These accusations have, as one would expect, sent the crypto market plummeting. The price of bitcoin (the most frequently traded cryptocurrency) fell 5.5% to its lowest point in almost three months. It’s no surprise to see a decline, as Sam Callahan, an analyst at Swan Bitcoin said to CNBC, “Any regulatory action against a major player in the cryptocurrency space creates uncertainty and leads to increased market volatility in the short term.”

Yet the sector is already wounded by the collapse of the cryptocurrency exchange FTX late last year, which saw the price of bitcoin fall by almost 25% in a matter of days. Crypto investment has been slow, and the regulatory crackdown on the industry is not helping. Speculation is rife that the SEC’s allegations of both Binance and Coinbase demonstrate the end of a cowboy era for the crypto industry.

At the core of the SEC’s allegation is the belief that cryptocurrencies are digital versions of pre-existing financial instruments which the SEC regulates, not a new currency that requires a new regulatory framework. This belief is a red-hot topic and the answer might depend on which side of the fence one sits. Binance expressed their opinion in their blog post titled “SEC Complaint Aims to Unilaterally Define Crypto Market Structure”, stating that “Digital asset laws remain largely undeveloped in much of the world, and regulation by enforcement is not the best path forward.  An effective regulatory framework demands collaborative, transparent, and thoughtful policy engagement.”

Wall Street Moves In

In the weeks following these events, Wall Street (the biggest player in mainstream financial services) muscled its way into the crypto scene, including:

  • A new crypto exchange was launched by Citadel, Fidelity and Charles Schwab
  • Deutsche Bank, a huge European institution, applied for a licence to offer crypto custodial services
  • The biggest asset manager in the world, Blackrock, filed a prospectus for a bitcoin ETF, with Coinbase as the custodian. In itself, that’s not unusual. Plenty of bitcoin or crypto ETFs have been attempted before – none have gained regulator approval. What’s different this time is Blackrock’s approval rate is rumoured to be spectacular, with 575 wins against only one rejection

Perhaps there will be more moves like this over weeks and months to come. This already looks like a concerted push by the ‘big end of town’ to legitimise cryptocurrency and muscle the smaller independent players out of the industry – Binance and Coinbase could be locked in regulatory legal tussles for years to come.

Meanwhile, in another major financial market, the United Kingdom, the government is moving at pace to regulate cryptocurrencies.

Perhaps this will help rid cryptocurrencies of their tarnished image, and make them more mainstream.

Faith In Central Banks

Against this backdrop, the normal global controllers of currency and money supply – the central bank in each country – are under increasing pressure brought on by their responses to the Covid pandemic, and now their efforts to control inflation. To be fair, high energy prices, linked in part to Russia’s invasion of Ukraine, have been a partial reason for global inflation – though even in New Zealand inflation was 6.7 percent before the invasion took place.

Globally, even sources as reputable as the Financial Times and Bloomberg are now openly declaring things like “Markets are losing faith in central banks” and “The age of credibility for central banks is over”. This all puts pressure on conventional currency, existing monetary systems and traditional forms of money, and it’s feasible that over years to come they may be challenged in some way by the legitimisation of cryptocurrencies.

The Bottom Line: Change Is for Certain

This is a rapidly-changing situation, and no one can tell for sure what the future of crypto or the monetary system looks like. One thing we know is that it will be different. On the back of the SEC allegations, it seems that increased crypto regulation in the US is inevitable, yet perhaps the UK will be the next hub.

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