The SEC has collected over $140 million in fines from the cryptocurrency sector in three years. Will the new leadership bring new opportunities to the crypto market?

This article is from PANews, authored by Nancy.

Whether in traditional fields or the crypto market, facing the SEC's (U.S. Securities and Exchange Commission) iron-fisted policies, "spending money to avoid disaster" often becomes a necessary choice.

Previously, there was Luckin Coffee, which paid a $180 million fine due to financial fraud, and after a six-month tug-of-war, the blockchain project Telegram ultimately compromised by returning $1.22 billion to investors and paying a $18.5 million fine for its Gram token. Recently, Ripple was sued by the SEC and chose to confront it head-on, only to see the plot twist as it intentionally extended an olive branch for settlement.

In fact, it's not just these companies or projects; the SEC, which holds a very high position in the U.S. government, has absolute say over the survival and development of various enterprises, even in innovative fields. For the currently bullish crypto market, the SEC is like a ticking time bomb, and no one knows who will be detonated next.

SEC Born in the Great Depression Targets the Crypto Market

Known for its "fast, accurate, and ruthless" approach, the SEC has made "immortal" contributions to the reform and maturity of the U.S. stock market.

Before 1933, there were no formal laws prohibiting insider trading, and the U.S. capital market was as chaotic as the current cryptocurrency market, with frequent occurrences of insider trading, market manipulation, and exploitation of retail investors. A saying even circulated on Wall Street: "Insider trading is the only secret weapon for investment success."

It wasn't until October 29, 1929, when the U.S. stock market began its "high-altitude waterfall journey," that the ten-year Great Depression began, delivering a fatal blow to the U.S. economy and financial system. To investigate the root cause of the crisis, Congress organized the famous Pecora hearings in 1933.

During this hearing, various shocking insider trading practices in the U.S. securities market were exposed. To revitalize the securities market, Congress successively passed the Securities Act of 1933 and the Securities Exchange Act of 1934, establishing the SEC to oversee the implementation of securities regulations. It can be said that the SEC itself is a product of the Great Depression's urgent need for reform.

As an independent agency authorized by Congress and the highest authority in the U.S. securities industry, the SEC has quasi-judicial, quasi-legislative, and independent law enforcement powers, free from interference from any other government department. The SEC commission consists of five members, with the chairperson changing every five years, appointed by the U.S. president.

With the rise of cryptocurrencies in recent years, the SEC has begun to focus its regulatory gaze on the crypto market. Although cryptocurrencies belong to an emerging market, the SEC has not changed the provisions of securities law and continues to use the nearly 75-year-old Howey Test as a litmus test to determine whether the issuance of cryptocurrencies is classified as securities. "The Howey Test mainly assesses four aspects: whether there is an investment of money, whether it is an investment in a common enterprise, whether investors have an expectation of profits, and whether the profits come solely from the efforts of others. If these conditions are met, the corresponding digital asset will be classified as a security token, subject to U.S. securities law. Essentially, apart from Bitcoin and Ethereum, which the SEC has stated are utility tokens, other assets are likely to be classified as security tokens," said Yu Jianing, president of Huobi University, to PANews.

Once a crypto project passes the Howey Test, it means that the project must undergo the same strict regulation as securities. If the project does not meet the qualifications for issuance, it will inevitably face serious legal risks. As the SEC wields its regulatory stick, cryptocurrencies have entered a phase of strict securitization regulation. In 2019, the SEC collected over $4.3 billion in fines and penalties during enforcement actions, with crypto assets accounting for about one-tenth of the total; in 2020, the SEC "took action" 715 times, totaling $4.68 billion in fines and illegal gains. Notably, over a quarter of the fines (including $1.2 billion returned to investors) came from the same ICO project.

SEC Launches "Toll Booth" Model, Projects Pay to Settle and Survive

Paying to settle seems to have become the "optimal solution" to resolve the SEC's regulatory crisis.

As early as September 2019, the SEC filed a lawsuit against Block.One, claiming that Block.One provided false and misleading information to investors regarding EOS, which was an unregistered security offered by Block.one. In this lawsuit, the SEC's settlement condition was that Block.one must pay a $24 million fine. Block.one readily agreed and obtained an important exemption for future business. For Block.one, this fine was a small price to pay, amounting to only about 0.6% of its total funding.

According to incomplete statistics from PANews, from 2017 to 2020, the SEC filed lawsuits against at least 32 crypto projects, with total fines exceeding $140 million. Among them, Tezos, Block.one, and Telegram had the highest fines.

In reality, one of the main reasons these projects choose to settle is that negative impacts can easily trigger a chain reaction and panic. For example, TRON was affected by news that it might be under SEC investigation, causing its token TRX price to plummet, leading to investor panic. Although the TRON Foundation and founder Justin Sun later denied this and explained that "TRX was not sold directly or indirectly to any U.S. citizens," the impact of the SEC was undoubtedly significant.

Another example is the SEC's new "target" Ripple, which stated, "Ripple violated the law prohibiting the sale of unregistered securities when selling XRP to investors." As news of the lawsuit spread, XRP, the third-largest cryptocurrency by market capitalization, saw its price plummet, followed by a wave of delistings.

"Ripple's early fundraising was not registered with the SEC, nor did it meet any exemption registration, violating federal securities law registration requirements. The SEC's actions can actually represent a tightening of regulation over other digital assets within its jurisdiction, which will accelerate industry compliance," Yu Jianing pointed out.

However, from Ripple's current actions, aside from responding to the SEC's lawsuit, Ripple indicated as early as the end of 2020 that it might relocate its headquarters to Japan or Singapore. Yu Jianing believes that a settlement between Ripple and the SEC could provide some experience for other projects in the digital asset market, but the current situation does not look optimistic.

Even after paying to settle, the development of crypto projects is not promising. For instance, the largest ICO in history, Telegram's blockchain project, ended without success due to SEC intervention and had to launch paid services due to a funding shortage; the founder of EOS, BM, who "did not want to be restricted by innovation under regulation," saw the price of the project token EOS spiral downward after resigning as CTO of Block.one.

Thus, seeking a settlement is not truly a "paying to avoid disaster."

SEC Accelerates "Encirclement" of the Crypto Space, Which Projects Are More Likely to Be "Targeted"

The SEC is much more active than we imagine and is investigating more projects and companies. It is mainly targeting some large projects, and at least one large project has been confirmed to be under investigation but has not yet entered litigation, seemingly in an active investigation phase," said Adam Cochran, a partner at venture capital firm Cinneamhain Ventures, on Twitter recently.

Dovey Wan, co-founder of Primitive Ventures, also pointed out recently, "The SEC will be very short on funds next year; they should start targeting projects in the first quarter."

The SEC operates on an independent budget, which is reviewed and approved by the Office of Management and Budget before being submitted by the president to Congress for deliberation and funding. Due to the U.S. fiscal deficit throughout 2020, both parties in Congress hope to tighten budgets, which means that 2021 may see the fastest and largest fiscal tightening in history. For the SEC, insufficient funding will inevitably impact its enforcement process.

According to the SEC's annual reports, one-third of its budget is allocated to enforcement. Among these, the whistleblower program, which incentivizes reporting, has become an important enforcement tool for the SEC to combat fraud and protect investors. Since 2011, the SEC's whistleblower program has successfully recovered over $1.4 billion in property losses from wrongdoers. In just the past year, the SEC awarded a record $175 million to 39 whistleblowers, the highest amount in any fiscal year. It is worth noting that the funds awarded to whistleblowers come from the Investor Protection Fund, which is financed by the SEC's fines against wrongdoers.

In the context of funding shortages, more crypto projects/companies may be targeted by the SEC. "The SEC's core logic for raising funds is to achieve a high hit rate and be able to extract large sums. Otherwise, for them: 1. The time cost is too high 2. If they can't resolve it or lose, it would be very embarrassing," Dovey Wan stated. In her view, especially with Coinbase about to go public, there will definitely be a cleanup before the IPO.

"The SEC will decide what actions to take based on the priority of its work," said Gu Yanshi, founder of U.S. consulting firm Liyuan. He explained that the SEC is a U.S. government department that formulates its annual work plan at the beginning of each year, including planned lawsuits, and then proceeds step by step according to the work plan.

At the same time, Gu Yanshi believes that the SEC will definitely take regulatory measures regarding trading mediums and venues. The reason is that the SEC's responsibility is to ensure the safe operation of the U.S. securities market, so the impact of a project on the U.S. securities market is a key factor in whether the SEC initiates a lawsuit. Of course, whether the SEC takes regulatory measures also mainly depends on the ease of handling the project. If a project is small and has very obvious violations, the SEC's regulatory measures will be resolved very quickly. In their view, this not only punishes the project but also serves as a warning to the market.

In this regard, Yu Jianing also believes that the larger the project's influence, the more likely it is to be targeted by the SEC. "From the analysis of Ripple and past cases, the SEC tends to focus more on projects with higher market capitalization in the digital asset industry that have participated in large fundraising and have overly centralized economic models. These projects have been in the industry for a longer time, have relatively larger influence, and are more likely to attract the SEC's attention. Projects like Bitcoin and Ethereum, which have already been classified as 'decentralized,' have been excluded from the SEC's regulatory radar."

SEC Leadership Change Imminent, Crypto Market May Welcome New Developments

As Ripple faces turmoil, the impending departure of current SEC Executive Director Marc P. Berge and the potential leadership change at the SEC may bring about a turning point.

As the initiator of the Telegram ICO project, Marc P. Berge filed a $1.3 billion lawsuit against Ripple Labs and its founders. His departure may transfer Ripple's lawsuit to Gary Gensler. On January 19, the U.S. president-elect formally nominated Gary Gensler to serve as SEC chairman.

Gary Gensler is quite a notable figure. In addition to serving as chairman of the Commodity Futures Trading Commission (CFTC) under the Obama administration from 2009 to 2014, he also served as deputy secretary of the Treasury under the Clinton administration. Recently, Biden appointed Gary Gensler to lead the financial policy transition team, and there are reports that Gensler will be appointed as deputy secretary of the Treasury.

"Among the three major financial regulatory agencies in the U.S., the SEC is the most conservative regarding the crypto market. With Gary Gensler as the new SEC chairman, the SEC will be more proactive, and the stance of U.S. financial regulation will encourage development in this area, which is very beneficial for the regulated development of the cryptocurrency market," Gu Yanshi pointed out. He further explained that Gary Gensler is very familiar with the cryptocurrency field, especially regarding the issues that need to be addressed in the market and the regulatory policies that need improvement. After taking office, he will certainly promote the development of crypto digital finance, including regulating non-compliant factors in the existing market and formulating more reasonable policies to encourage market innovation in this area. It can be expected that U.S. crypto digital finance will accelerate its development starting in 2021.

In fact, Gary Gensler has expressed clear views on cryptocurrencies multiple times, such as believing that Bitcoin, Ethereum, and Ripple are essentially securities. He predicts that future crypto exchanges will face consolidation and will need to register within the SEC's regulatory framework, possibly within the next 6 to 18 months.

"From his previous statements, he seems to lean towards regulation concerning taxation, investor protection, etc., so I believe he will further promote the SEC's compliance process for the digital asset industry after taking office," Yu Jianing stated.

At the same time, Yu Jianing believes that the SEC's regulatory actions are unlikely to have a significant negative impact on Bitcoin's price; instead, they may encourage more institutional funds that care about compliance to further increase their allocations to Bitcoin, Ethereum, and their derivatives. However, for other digital assets, how to comply with the legal frameworks of various countries within their business scope while proceeding in an orderly manner under regulatory compliance is a key issue that needs to be considered. In the long run, the key to the development of blockchain enterprises is not speed but "longevity," with risk control being a fundamental aspect.

It is worth mentioning that several proposals regarding Bitcoin ETFs have previously been rejected by the SEC, citing risks of market manipulation and a lack of oversight agreements between market platforms. If Gary Gensler aligns with SEC commissioners and crypto advocate Hester M. Peirce, will there be a new pattern in the voting decisions regarding Bitcoin ETFs? Gu Yanshi believes that under Gary Gensler's leadership, the SEC will likely approve Bitcoin ETF applications relatively quickly. He is also expected to push for amendments to securities laws to facilitate the representation of securities and other rights in the form of crypto digitalization.

It is foreseeable that as the crypto market accelerates its transition from marginalization to mainstream acceptance, the SEC's accelerated involvement will greatly reduce the uncertainties regarding regulatory aspects of crypto assets. Yu Jianing envisions, "Industry compliance will lead mainstream society and mainstream funds to accept digital assets more quickly, and with the influx of traditional funds, the market will become increasingly mature."