Cryptocurrency enthusiasts have been looking at Joe Biden’s choice to run the US Securities and Exchange Commission for clues on how to regulate the technology. In his confirmation hearing today, nominee Gary Gensler suggested that more government oversight of cryptocurrencies be underway.
He also suggested that the type of supervision depends on the form of cryptocurrency being discussed. With cryptocurrencies on a tear in recent months, the frantic debate over whether the rapidly evolving market constitutes a legitimate new asset class or a bubble ripe for abuse has turned into a regulatory framework, as institutional and private investors compete forward rules for controlling the space.
As head of the SEC, Gensler would be responsible for cryptocurrencies that are considered securities. During the hearing of the Senate Banking Committee, Gensler said that although the SEC should promote innovation in blockchain technology, but if there are securities traded on stock exchanges, “we want to ensure that there is adequate investor protection.”
This thinking is not new. Use the definition of a security to determine how a financial instrument should be regulated, so-called Howey test, goes back to a 1946 Supreme Court decision, designed to help define which transactions constitute an investment agreement. This is a rule that Gensler knows well. He is known in progressive circles as a tough financial sector reformer from his days after the financial crisis as head of the Commodities Futures Trading Commission, but he is also praised of the crypto volume of his understanding of blockchain technology, as an MIT economics professor teaching blockchain, digital currencies and financial innovation.
Gensler’s comments during the hearing repeat his teachings on the Howey test. According to this logic, cryptocurrencies are generally defined as either tool markets, which act as a form of tender, or security tokens, which represent equity or a stake in a company that would be regulated by the SEC. If a coin offering is intended to give investors an ownership stake, the company’s token should be covered by the security rules, he told an audience at a MIT 2018 blockchain conference, even if it does not pay dividends or has the typical attributes of equity or a bond. “The investing public is clearly hoping for a possible appreciation,” Gensler said. “When you quack like a duck, when you swim like a duck, when you walk like a duck … I think the bird is a duck.”
Bitcoin, the most ubiquitous virtual currency, does not qualify as a security according to Gensler. “Bitcoin emerged when mining began as an incentive to validate a distributed platform,” he told the conference. Unlike other cryptocurrencies offered by companies like Ripple, bitcoin had no initial token offer and no joint venture. Ripple, on the other hand, “really seems like a regular business,” he concluded.
The SEC has since followed that logic. In December it is sued Ripple to sell a bitcoin-like digital asset called XRP, a high-profile case Gensler will inherit if he is confirmed as the agency’s new chairman. Bitcoin’s value dipped in tremors over Gensler’s comments during the confirmation hearing. But according to the Howey test, these investors should be clear.