Regulation By Enforcement

The SEC’s Policy Results in Confusion and Harm to the Market, Rather Than Clarity and Protection for Investors

The SEC applies the Howey Test to determine whether a cryptocurrency is an investment contract, and therefore a security. This test has four prongs: an investment of money, in a common enterprise, with the expectation of profit, from the managerial efforts of others. Under the current law, it is not certain whether the SEC can demonstrate that all cryptocurrencies are securities. The SEC has focused on fungible tokens, which are not distinguishable from each other, and has not taken a clear position on whether non-fungible tokens are securities. However, SEC Chair Gary Gensler has suggested that most tokens are securities, and the proposed rule would apply to any type of security, including crypto tokens. This shift in the industry would require hundreds of decentralized finance protocols and crypto assets to register and operate under regulatory scrutiny.

Over the past two U.S. administrations, the SEC has pursued a policy of “regulation by enforcement” for U.S.-based digital asset markets, resulting in little clarity or protection for investors. Both Jay Clayton and Gary Gensler, successive chairmen of the SEC, have stated that every digital asset except bitcoin is a security and should register at the SEC like a stock, but the SEC has not provided any guidance or instructions on how to do so. The SEC relies on quick settlements from parties it charges, making it difficult for those who challenge the SEC to navigate the legal system. The recent FTX case and the Ripple trial are prime examples of the SEC's regulatory overreach and questionable tactics, with little evidence that such actions protect investors. The crypto industry is already subject to multiple regulations and laws, making Gensler's attempts to scapegoat the entire industry a distraction from his own interactions with FTX founder Sam Bankman-Fried. Overall, the SEC's policy of regulation by enforcement has resulted in confusion and harm to the market, rather than clarity and protection for investors.