Cryptocurrency crisis: Federal regulation not the solution the industry needs


Editor’s Note: Emily Parker is Executive Director of Global Content at CoinDesk and former Policy Advisor to the US State Department and Editor/Editor at The Wall Street Journal. She is the author of “Now I Know Who My Comrades Are: Voices from the Underground Internet”. The opinions expressed in this commentary are his own.


Cryptocurrency is going through an existential crisis. Last month, crypto lender Celsius filed for bankruptcy protection. It has frozen withdrawals since June 12, and it’s unclear if or when customers will get their money back. But Celsius is just a domino to fall.

Crypto lender digital travel also recently filed for bankruptcy protection. Ordinary investors who deposited their money in Voyager probably don’t know if or when they will see their funds again. Bitcoinmeanwhile, recently fell more than 70% from its all-time high a year ago.

And back in May, TerraUSD (UST), a so-called stablecoin that was supposed to be trading at $1, saw its price drop well below that, causing heavy losses for those who held it or its sister coin Luna (Luna’s value was tied to UST).

The underlying problem is a combination of risky lending, poor risk management and opaque finances. So when crypto prices crashed, likely due to fears of rising inflation and the possibility of a recession, some crypto companies lacked the capital to cushion the blow. The result has been the disappearance of billions of dollars in value, often with ordinary investors paying the price.

Cryptocurrencies like Bitcoin are meant to be independent of any government. But we have now reached the point where tighter government regulation of the crypto industry is both necessary and inevitable. At the same time, industry cannot simply wait for government to act. Crypto companies must also try to better control themselves.

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It starts with more transparency. While transparency is one of the fundamental ideals of blockchain technology – all transactions on the Bitcoin blockchain are visible to the world, for example – some crypto companies are surprisingly opaque. In the case of Celsius, Vermont Department of Financial Regulation stated that “clients have not been provided with critical information about its financial condition, investment activities, risk factors and ability to repay its obligations to depositors and other creditors”. At the very least, companies need to put much clearer warning labels on their products describing the risks of depositing or investing with them, as well as more information about how customer deposits are used.

With stricter regulations, the Celsius situation could have turned out differently. Its model was basically to take deposits from users and use them for risky and illiquid investments, and users in return benefited from high interest rates. Celsius essentially acted like a bank, without the regulatory protections or FDIC insurance.

“Prudential regulation, such as that applied to banks, would almost certainly have avoided many problems in our industry,” said Caitlin Long, CEO of depository institution Custodia Bank, in an interview. “Prudential capital requirements, investment restrictions, background checks on all executives, annual supervisory reviews – all of these things don’t apply to the crypto industry. They do, however, apply to banks.

However, this type of regulatory overhaul is not expected to happen any time soon. That’s why venture capitalists and mainstream investors should push companies for more transparency and accountability, requiring audits and disclosures on lending practices and capital reserves. When crypto prices were exorbitant, few looked closely at the business practices of these companies.

The same was true with the UST stablecoin. When the market was strong, few publicly pointed out what are now obvious red flags, and those who did risk being shouted at by crypto enthusiasts on social media. Now the UST dramatic collapse may well accelerate the regulation of stablecoins in the United States.

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There are widespread concerns that some of the major stablecoins are not as stable as they claim. The fear is that if investors decided en masse to swap their coins for the US dollars that supposedly back them, the stablecoin issuer would not have enough cash to fulfill those orders. U.S. lawmakers are said to have moved closer to a bipartisan agreement to regulate stablecoinsbut consideration of the bill was deferred until after August. The bill, which is not yet public, would treat stablecoin issuers more like banks and subject them to federal oversight. This would also include strict requirements for assets that back a stablecoin.

another bill by Sens. Cynthia Lummis and Kirsten Gillibrand aims to bring more regulatory clarity across the board by creating a standard for deciding which digital assets are commodities and which are securities. This would help clarify which assets are regulated by the Commodity Futures Trading Commission versus the Security and Exchange Commission.

A clearer and more consistent regulatory framework on what companies can and cannot do, as well as which federal agency regulates which digital assets, could provide greater protection for ordinary investors.

SEC Commissioner Hester Peirce has long advocated for regulatory clarity. “If we had decided that crypto lending is an area where we can involve securities laws, we could have sat down a long time ago and made rules around that that made sense,” he said. she said in an interview, speaking in a personal capacity. .

Instead, you often get regulation by enforcement, where companies are punished after the fact. One of the problems with these ad hoc enforcement measures is that they don’t necessarily cover the entire crypto landscape.

“Not only is it not particularly fair, because sometimes the enforcement measures come late, and sometimes it’s a question of ‘why did you pursue this project instead of this project’, but also because it allows people who do really bad things to get lost in the shuffle,” Peirce said.

These proposals are all steps in the right direction to start a serious conversation about crypto regulation. But given other priorities in Washington, it’s unclear when the new regulations will take effect or what they will look like in their final form.

Smart regulation is necessary, but it will not be enough. Crypto innovation is moving faster than any attempt by any government to contain it. Political negotiations can also delay the passage of bills. Moreover, with each new crisis, the cryptocurrency loses more and more credibility. This could lead to regulators cracking down harder than they otherwise would have, stifling innovation in an ever-evolving field. An industry that prides itself on decentralization should not rely on government to save it from itself.

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