#227 Peter Van Valkenburgh: Where US Cryptocurrency Regulation is Heading

Transcript

[Music] this episode of epicenter is brought to you by shape-shift oh the easiest fastest and most secure way to swap your digital assets don't run the risk of leaving your funds on centralized exchange visit shapeshifter IO to get started hello and welcome to epicenter to show which talks about the technologies logics in startups driving East centralization in the global boxing revolution my name is Baron Fabien clain and during here today with Peter Van

Valkenburg Peter is the director of research at coin Center he's had them all about ten months ago and to talk about cryptocurrency regulation Bitcoin regulation blockchain etc and and yeah now it's time to come back because so much has happened in the last ten months in terms of regulation and yeah will be interesting to catch up and see what's what's the current state and what's ahead but thanks so much for joining us today Peter thanks for having me Brian so you just came back from congressional hearings right can you tell us about that yeah so I testified before Congress gosh it feels like a week ago but it was

only a day ago and I testified before the House Financial Services Committee Subcommittee on capital markets and that sub committees jurisdiction really is looking after and looking over the SEC when they go and they do investor protection for people who are selling securities to the public and that testimony I gave you check it out it's short five minute testimony focuses on the division between icos on the one hand which you know we've had a whole year of explosive growth and enthusiasm and strange things and Boyd Mayweather promoting things banana coin and all

kind of like like it's a weird menagerie so explaining that to Congress is hard and making them feel like everything's okay is difficult because maybe maybe everything's not okay actually I don't know there's a lot of really bad tokens out there I think even people who love the technology would agree about that and then dividing the space it's just so it's very clear to folks in Congress between that kind of the new hotness the new crazy and running functioning open source software open blockchain networks that are achieving some sort of result in the world right now even if the result in the world right now is just digital scarcity even if it's just the ability to have peer-to-peer transfer of these

provably scarce assets like bitcoins or ether or things like that because the dividing line is really important because I think you're gonna get and maybe for the right reasons much more heavy-handed regulation of the speculative ico craze then you would want to get and then that we would need I think in the cryptocurrency space where the risks are different and I think less pronounced now now just to give some context here can you so congressional hearings fifties subcommittee what is the purpose of these hearings so Congress needs more information to better oversee the work of the SEC they need to know whether they need to create

new legislation that would augment the SE C's Authority or any other agency's authority with respect to capital formation and capital markets that's that's what these particular Congress men are are most concerned about and it's just an opportunity to get a lot of stuff on the congressional record which will then be cited in court cases or then decided by academics or other politicians as you know important information for people to know if they're thinking about regulating the space if they're thinking about legislating in this space if they're in a court case where they have to ask like well what's the sense of Congress and what's the sense of the agency's about two weeks before this hearing Chairman Clayton the chairman of the SEC and

chairman jean-carlo the chairman of the CFTC which is the Commodities Futures investor protection regulator versus the SEC which is the Securities issuance investor protection regulator in the US both chairmen testified before the Senate Banking Committee on the subject of crypto currencies exclusively which is quite radical cryptocurrencies and tokens but I mean I it was really a watershed moment I think because we hadn't had we've had hearings that are about Bitcoin or that are about to centralization with respect to you know terrorist financing money laundering with respect to innovation in America and small businesses and how can we you

know have more competition because of these things that we've had positive hearings you've got hearings that have focused on the risks we've never had a hearing that focused wholesale on investor protection issues like commodities regulation and securities regulation nor have we had a hearing I think where two chairmen of two major agencies testified so that was the Senate Banking Committee about two maybe three weeks ago and I think the House Financial Services Committee so other side of the Capitol building the house in the Senate bicameral legislation they wanted to have a hearing on this and and not necessarily solicit the same information from the same two agency Edd's but instead solicit information

from the industry and the ecosystem so I was testifying alongside of Michel Empress who's I think general counsel and chief risk officer for coinbase dr. Brummer from Georgetown who's he was the minority witness for the Democrats and has a lot of things to say about my adequate disclosures for icos and he's an academic at Georgetown Law and an attorney in the space Rob Rosenblum who is as many clients who are doing icos and things like that and then myself as a member of or a director research at coin Center which is for you know hopefully your listeners already know

but we're like a nonprofit that just wants to do a good education and defend the technology as a technology we're not defending the interests of coinbase or any company we're trying to defend the interests of users the rights of people who want to actually use this stuff so is there any main big takeaway from you I mean it seems like one conclusion would be you know if these several hearings and these heads of these agencies coming that at least the interest is very high do any other interesting takeaways yeah so the big takeaways interest is is spiking which is something that everybody who cares about the technology should at least pay attention to and

maybe worry about a little because the state of the world today is not so bad and when interest spikes in Congress they're sometimes a tendency to change the state of the world from where it is today and we would hope that that change would be only positive but that's know by no means guaranteed another takeaway that was a common theme in the hearing that I was testifying at in the house and also the Senate hearing where the two chairmen were testifying is an idea that we can divide our ecosystem in half between what chairman Clayton of the SEC called pure crypto currencies okay I like the terms like totally pure 100% pure cryptocurrency

on the one hand and then on the other hand token sales and I cos most of which at least under US law and we'll see long-term in European law and Asian law but at least under US law usually will qualify as securities issuance which means you'll have to do a lot more compliance with investor protection rules enforced by the SEC than you previously would have done and with respect to pure cryptocurrencies chairman Clayton said actually we don't have jurisdiction over that and he said this to Congress and sometimes you say that's a Congress as a regulator because you want them to write a new law that gives you jurisdiction but he followed up and said and don't mistake me for asking for more authority I'm not asking

for more authority so that's a positive signal I think because I don't think the SEC is the right regulator for those pure crypto currencies which is basically what Clayton was saying his counterpart chairman jean-carlo of the CFTC who on twitter has now been labeled crypto dad because he he told this really sweet and honest story about his dog at the dinner table telling him about how she likes Bitcoin and then he in a really kind of like warm paternal way testifying before Congress said the new generation is is interested in this technology they're enthusiastic about this technology and as an older generation we should not belittle that

interest or enthusiasm and we should honor it by making sure that that it's not abused by fraudsters and I thought that it's like that was great that was perfect but anyway so Giancarlo testified and Giancarlo is talking about CFTC Authority so the CFTC you know crypto aside SEC does public offerings and any jobs act safe harbors for people selling shares and the CFTC regulates markets for commodities they especially regulate markets where people are trading derivatives where the underlying is like wheat or salt or gold and it's a leveraged trade of some sort or a swap or a future so like the Commodities Futures Trading Commission would

regulate the Chicago Mercantile Exchange CME a big derivatives commodities derivatives Clearinghouse and with respect to crypto they're relevant because I think about two years ago now in 2015 or 2016 probably three years ago now 2015 they came out and said look bitcoin is a commodity for our purposes when it is the underlying asset in a financial derivative like a Bitcoin future or swap and they they brought a new broad an action against coin flip I think was the company for being an unregistered derivatives clearing organization and since then they've been looking at this space they've got a

great educational group called lab CFTC where they go and they direct people to learn more about the technology and some of the investor protection risks and they ask people to come and teach them about the technology and they kind of experiment with it it's a lab and then they've got policing Authority and this is something a lot of people don't know they've actually got the authority to investigate and police evidence of market manipulation or fraud at the spot market level and so the spot markets for cryptocurrencies are the exchanges they're things like point base or or Zappo and that means that the CFTC doesn't license or or force them to register with them they're not a supervisory authority instead the CFTC

can subpoena those exchanges for records if they think there's evidence of fraud or manipulation and then police them ex ante or ex post rather after the fact for evidence of fraud so so so chairman Jencarlos talking about that jurisdiction and it's a perfect complement I think to chairman Clayton's SEC jurisdiction I think the SEC where we're headed is the SEC is going to handle the issuance side of this when new tokens come into the world and they are just promises of efforts ie securities and the CFTC will handle the tokens once they're actually based on open source software based on an open box chain working in the world

that's a lot okay that's that's super interesting guys a very good update I can tell you some more about the hearing so my hair yeah I focused on the other hearing my hearing was interesting because we had a few congressmen who were really excited about the tech so representative bud representative emmer representative but thanked me personally for having coin Center come briefed him in the past about this stuff and he recommended that all the other congressmen come contact coin Center to get you know like a base of understanding and knowledge about the stuff so that was a win for us and he's really a good champion for a new tech

new FinTech that he thinks is gonna change the world for the better which is what most of us in our community agree with representative Amer came out really strongly and said we should not be regulating any of this which you know that's cool he's like a he's more of a small government type Republican but he was totally like dead-set that we shouldn't be layering new stuff on top of these new technologies if we want to stay competitive in the world and then on the Democrat side we actually had a pretty cool champion representative Scot of I think he's from Georgia had a whole question-and-answer session with me where he was trying to drill down to like who are the regulators on point and what we got to was exactly this

distinction so I was telling him about the Senate Banking hearing and our work with the SEC educating them about things and our work with the CFTC educating of them about things and I think he I think he said you hit the nail on the head at one point so that was a good win with respect to the division between CFTC Authority and SEC Authority so that was great now so that was all great on the other side of the token we had representative Sherman who gave the opening remarks for the Democrats but he didn't speak for all the Democrats as I said representative Scott was the Democrat it was very positive Sherman's first words out of his mouth were crypto currencies are a crock I

think he means crock of cool but he didn't specify what kind of Crockett was and then he went on to talk about all kinds of things and later on he went to a line of questioning with me about why anybody would want to use crypto currency to buy groceries and I you know I wanted to help him understand the real innovation here and I you know I wanted to stay cool under some level of deep skepticism and kind of attack so I I walked him through the fact that in the u.s. you you're not gonna want to use crypto currency to buy groceries because that's just true you're if you're in a you know lucky enough to be in America

it shouldn't be too hard it might still be a little hard but should be too hard to get a credit card in a bank account and once you have those things that's probably what you're going to want to use to buy groceries but then I was walking him through how when the rest of the world there are whole regions and populations where financial institutions don't feel like it's worth their time to make those people their customers and if you don't have a bank and you know in a part of the world where it's difficult to get banked and if your local currency like your cash is being debased by a kleptocratic ruler like in Venezuela or in Zimbabwe then your you're [ __ ] outta luck there I finally said [ __ ] instead of crock of [ __ ] [ __ ] out of luck and Bitcoin because it works

with just a smartphone and an internet connection might be your best chance for buying groceries actually maybe this will happen in the next few years and I'm hopeful about that and and the main thing I'm hopeful about is just that this is a new way providing financial services that doesn't rely on trusted institutions who may choose to just selectively say screw you to a whole population we're not going to service you all it relies on is the idea that more people will have smartphones in the world and more people have internet connections in the next 20 years and that's actually kind of a given at this point so he kinda I don't think he really listened I I think he was just dead set to portray this all as a as a ridiculous game I wish I'd also been able to say because he said some other

things he said things like he said well if you have a smartphone you can use an app that uses dollars instead of dick coins and I guess he was referring to venmo or like PayPal or things like that I didn't have time to respond because it was really fast and aggressive but I wanted to say look venmo and paypal only work if you have a bank account to connect them to that's just that's just the way that work good luck using your PayPal dollars if you can't then cash out to your bank account and PayPal won't even open accounts for people in most of the world they just won't in fact I believe they still don't serve as Puerto Rico because they felt that it was too much risk from an AML standpoint and not enough reward because

those people weren't profitable to them so like that's why the idea that like that we've got these centralized services that that will solve the problem is problematic because that turns financial access into a privilege instead of a right you have to go to a company and convince them you're worthy it should be a right and open-source software should make it that right guarantee that right yeah absolutely I mean I'm sure among our listeners there's a few who will disagree with that statement this have fun back-and-forth though I maybe I in cept it a little bit into congressman Sherman's money there hoax him he's from Beverly Hills you know that's his okay they all have bank accounts yeah they will have bank accounts yeah

but that does actually sound kind of more positive than my impression before because I wanna I wanna really the tweet I really like that kind of summarizes a little bit what my impression kind of was so Charles Hoskinson wrote this and I really liked it so so after reviewing recent US regulation it appears that cryptocurrencies are the first security commodity property currency token that requires a registration of the SEC and money service business license and of course gets taxed like a baseball card so my my kind of impression was you know obviously not having the kind of insight you have that there's all these different entities they have different kind of you know scopes like commodities

or securities or you know money and each of them was basically saying oh this is our finger so we're gonna you know apply our rules to that thing but it does sound like firm probably you're saying that you know there is some kind of process in play or going on where CFTC says clear you know it's only when their life and you know in their trading then it is something that concerns us and SEC says no that's that is not ask but only when it is a promise and kind of an investment contract yeah we're starting to get there so I am not at all saying Charles is wrong in that suite and Charles Hoskins is I think one of the smartest people I've ever had the

pleasure of meeting both about technology and surprisingly about law which is not necessarily his area of expertise he's really sharp so I think that that tweet was provocative in the right way because we do have a patchwork in the US we have no fewer than nine federal regulators who all might have some jurisdiction over a financial product and 53 states and territories that might have jurisdiction over a financial product if its money transmission so we got a lot of regulators and they're each going to do their own thing and sometimes they're not going to coordinate well so I think we're starting to see some emergent coordination which is healthy like a clear division of labor between the CFTC and the SEC

but that's by no means gonna fix the problem on its own because we've got nine nine of these federal regulators in total that need to work together not just these two and we've got all the states how can we fix this I don't think there's any problems with the tax treatment the fact that they're treat their tax like baseball cards is pretty much okay capital gains treatment is actually quite friendly you get a lower rate in the US than you do for normal income tax and things like that so I think there'd be a lot of people in our community would scream bloody murder if you tried to get Bitcoin texts not as capital gains because their rates would go up and the you know they're right I want a low rate too the problem is then if your transactional with your Bitcoin

like eased buy groceries against the recommendation of Congressman Sherman then you'll have to calculate the capital gain between the time you bought the Bitcoin a long time ago and the time that you're now buying the groceries because you were able to buy way more groceries with that Bitcoin today than you would have been able to buy back then and so that's a taxable event you had a gain that appreciation so we've proposed a bill that's still pending in the house of representatives in Congress that would create a carve out a de minimis exemption from capital gains treatment for small transactions with crypto currencies and that's just common sense but it takes a long time to get something through Congress I'm still

optimistic IRS can't really make that exemption on their own because they're bound by the statutory law and law takes a long time to change so I think tax is actually fine and it's okay that the IRS says that it's property while FinCEN says it's cryptocurrency or virtual currency those are reconcilable potentially where there might be conflicts are who's the right investor protection regulator SEC vs. CFTC and as I said I think we're starting to see us a sensible divide which would be the right divided between issuers of speculative future tokens and real crypto currencies on the other side and then

you know the states are playing this complicated role where they're sort of doing consumer protection because their licensing money transmitters and the old consumer protection rationale there was if you're Western Union and you sell someone a money order to pay their utility bill and then they take the money order and they go to the utility company and they try to cash the or pay for their utility bill with the money order and then the utility company says this money order is garbage it doesn't it doesn't cash out to anything your whoever sold you the money our order screwed you the consumers out a lot so that's why the state started licensing money order sellers or money transmitters back in the 70s but now sort of like the big question is is coin base or a Bitcoin exchange of money

transmitter or anyone else in the Bitcoin space for that matter and if they are do they need to get licensed in all 53 states where they have customers it's a huge headache and that's kind of a consumer protection investor protection role but very different than what the SEC and the CFTC do and the SEC and the CFTC have the benefit of being federal regulator so you only have to work with one of them not 53 of them if you're in the US so what makes sense to me to further harmonize things and we're going to be working on this proposal basically is we need a new federal law that will preempt state money transmission licensing with respect to cryptocurrency exchanges so you'll no

longer need to get a license from the states and put in place an alternative regime where one federal regulator gives you a license and supervises you and regulates you not just as a money transmitter because that's not really what you're doing regulates you as a highly liquid and speculative spot market for commodities because that's really what these things are these are like giant order books where people are you know putting buy and sell orders in for wheat only now it's Bitcoin and the CFTC has expertise in looking at all that data that they could get from those companies if they were the licensing authority and looking for evidence of fraud or manipulation and stopping or busting

trades before they go and things like that that's the right Authority and then we'd get rid of the whole State thing which would be great for the companies we'd better protect investors because the CFTC knows how to actually protect people in this space better than the states do because the states don't have expertise with this sort of thing and we'd firm up the division between the SEC and the CFTC because the CFTC would have a really proactive role protecting investors with crypto currencies by regulating the exchanges and the SEC would then be able to feel comfortable sticking exclusively to its role protecting investors from issuers of new tokens by mandating that they do disclosures it doesn't make sense to have the SEC own that whole space because who's the issuer of Bitcoin if you're regulating for security is what

you're doing is saying hey issuer you got to tell us about your financial history so we know and are reasonably sure that you're not defrauding the people who are handing you money to have these shares of these tokens there is no issue or a Bitcoin then they're not gonna go find Satoshi Nakamoto and say hey you got to do your disclosure you know filings it doesn't make sense and it wouldn't protect anybody it would just be a wild goose chase with no benefits to investors so the division makes sense here like like there are crypto currencies in the world that are like commodities let's regulate the spot markets for fraud manipulation there are brand new things that are being sold they're hugely speculative like like a like a coin that represents a banana plantation that's mostly a security and I think it

makes sense to have the SEC handle that just to clarify this here so when you say CFTC would regulate basically commodities and changes right so in the future you talk talking about okay let's say this happens the way you describe it then talking that Conway's in the future they wouldn't have to get money transmitter licenses and get regulated or every single state but they would just have one license from the CFTC and they could basically do this thing and and then the CFTC would look for things like I guess insider trading or these pump and dump schemes or telegram groups yeah yeah okay okay yeah I mean and and and those things I think people who are

kind of supportive of you know it's like nobody complains when the SEC goes after a pay corn but because all these sports how do you think a CFTC in this scenario would deal with decentralized changes so that's a complicated wrinkle decentralized exchanges kind of change everything and you know to complicate things even further there will be tokens that are out there that remain securities even once they're on a balk shape and those would be where the token is actually meant to represent somebody's profits from the efforts of somebody else you know like shared ownership in effect [Music]

so if tokens some of them which are securities and some of them which are commodities and all of which we'd want to have some sort of oversight for fraud and manipulation with respect to the exchanges are trading onto centralized exchanges it becomes a huge question who can you actually point to as the person running that exchange if it's properly decentralized especially in the securities context so if you're decentralized exchange is trading securities so tokens that do represent fractional interests in revenue or something like that from a company you're gonna be in trouble I think if you have anything to do with that decentralized exchange project because

assuming yeah assuming you haven't complied with the laws but if you if you're associated with the project you might be at risk because the SEC has really broad definitions of what qualifies as a broker dealer or national securities exchange and they're gonna expect people who are facilitating trades in securities to be registered just like the New York Stock Exchange is registered to be concrete right let's say something like 0x Protocol they could go after we layers they could go after maybe the developers they could go after people running nodes potentially validating nodes if that kind of runs on their own blockchain or people writing

front-end software tools like you think they would go after all of those I I don't know and it's it's gonna be a while until I think we see that like unfold but what I will say is if the decentralized exchange is trading things that really are securities like transparently then they're going to be a target and people associate it with are gonna be a target if they're trading things that are more just crypto currencies or tokens that have real functionality and no promise of profits attached to them then maybe the SEC doesn't have jurisdiction over that in which case the decentralized exchange has to worry more about things like a

fee money laundering state money transmission licensing and if we created this federal framework for commodities exchanges how did they fit into that but that hasn't been built yet so we don't know what the risks are to that yet is the SEC going to have appetite to go after people who are developing a suite of smart contracts that work out aetherium like 0x because some people are using those smart contracts in order to facilitate securities transactions I don't I don't know I hope not because that activity developing that sweet smart contracts is really just publishing code and I think personally that publishing code is a right that we have that's protected by virtue of it

being speech and by virtue of us having a right to unrestricted speech you have a ride in this country to publish a book full of code it could be smart contract code and nobody in government can come and say you're not allowed to publish that they can arrest you after the fact for doing something with that code but but merely saying you're simply not even allowed to disseminate that software that's generally considered unconstitutional for the government to do here in the US so it would set up a really interesting battle from a constitutional standpoint I hope it doesn't happen though because I just would hate to see people who were really just trying to build good tools on the wrong side of a fight with the SEC so

that's a big question people running like relays people running the front end of things might be more directly in the sights if if the relay is trading securities I think what you would see in that case would be like cease and desist letters you got to stop trading these things because these are securities and I think the best thing to do is if you're running a relay make sure you're not trading securities and that's hard to do because the definition of securities is flexible but there are some things that I think that our securities and maybe just stick to those questions for their lawyers yeah cool no this is Peter this is so useful I think this is really providing a lot of view

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determine that so the test is the Howey test for an investment contract which is investment of money with an expectation of profits in a common enterprise reliant on the efforts of a third party promoter and how that test gets operationalized with respect to cryptocurrencies or functional tokens is complicated we've got a 60 page report that I think was we rewrote it back in 2015 and I think it's still spot-on I'm biased but I would look at that because we break down a lot of technological factors that we think would go into the analysis and these are things like how decentralized are the nodes of the network are there only is there only one is there 50 how open and permissionless is the consensus mechanism is it really

true that anybody can help work on this blockchain and secure it by merely having commonly available hardware and open-source software if that's the case then you really can't make as good a case that you're relying on a few people because you're really relying on whoever in the world chooses to buy the commonly available hardware and run the open source software and then from a development standpoint so you're developing that open source software how many developers are there you know is there just one guy in a room who forged it coin named it pay coin and then made promises about what how it was gonna be great in other words Josh Garza or is there a community of say 300 developers contributing to a github repository that

has multiple branches and multiple sub repositories for a huge project and that's something more like aetherium like people points of italic and aetherium and say look he's he's in charge just look at the github repository isn't he didn't even write the majority of the code and there are a lot of contributors to that github repository and there's a whole ecosystem now built on top of aetherium so so these are all factors and they're squishy factors they're gonna be hard to judge and we're gonna have to you know make sure they get judged correctly but ultimately I think they are definitive I think things like Bitcoin and aetherium are not securities because they don't have issuers and things like pay coin are definitely securities because they

had issuers and then tokens that are naked lis securities because they actually represent fractional ownership in common enterprise are of course securities but figuring all that out is gonna be hard and I hope we don't get it wrong yeah it is very interesting I mean so let's say we look at something I give here iam and and then of course there was there was the doll too because in this dar Adal report right did argue that the DAR was a common enterprise even though it was kind of distributed and you know harder to argue on that point having hard to tell and I will fit here iam again right I have a bunch of either other people developing stuff I mean okay maybe to some work

related to here iam but so again or many people may just have either and they basically benefit from appreciation of ether does that make it a common enterprise or Dan yeah so to merely holding something that when people find better uses for it appreciates in value can't be a test for common enterprise yet can't satisfy the test because if that was true then then gold would be a security like people hold gold under the expectation that they'll get rich because they're holding gold so they are doing it for investment purposes and who are they relying on well they're relying on this assumption that other people in the world are gonna want this thing even

more in the future doesn't make it security they're relying on an assumption that you know we'll keep finding scientific or industrial uses for gold as an input in mechanical processes or in whatever and that's what creates the value of the system and that's similar to aetherium you're now relying on a huge number of people in the world not a single person in the world not even a small group of people in the world to build applications that will consume ether as fuel for valuable services that could happen or that could not happen but nobody promised you any specific return nobody promised you that they were gonna buy this back from you in the future no one promised you that

it was going to be the next thing to power all things [Music] and you don't rely on anyone specifically so it's just it's it's very much like a commodity ecosystem where you buy you buy a bunch of uranium on spot markets because you think nuclear powers the future you don't you can't then sue nuclear power plant companies for failing to build more nuclear power plants under securities law at least that's silly right right I mean I think that the nuance there is if you have something like gold well I have a bar of gold a year later so a bar of gold nothing was changed about that whereas if ether well it really only exists in the context of this technology which is evolving by other people right so it it

does but like the cumulative weight of a decentralized network that's the size of etherium or the size of Bitcoin suggests that it's basically like you physically possess the thing right so in practice the often projects start out you know fairly centralized so let's say indicates a with your you would probably have to say initially I mean the way you describe it here at the initial token sale that is here and it would have been sort of fall under the SEC jurisdiction and maybe yeah and and then at some point that ceases to be the case yeah so with aetherium and the tokens

sale that they had you can also make I think a genuine legal argument that it didn't fit the test back then and that's because the Howey case is a facts and circumstances dependent test and the facts and circumstances of our community the cryptocurrency community back in 2000 and whatever time now 15 2014 14 yeah yeah we're very different you know if you're only raised about thirty million dollars from what I recall or is it age eighteen Oh 18 Wow so really like peanuts compared to these ridiculous sales that are going on today and I think they raised them from people who primarily purchased an interest in this

future network because they wanted to use this future network a lot of people might have thought like oh I'll get rich off of this but these were sophisticated people these were like people who'd been in the Bitcoin ecosystem for a long time a lot of them were developers a lot of them were excited to develop on a decentralized virtual machine on the EBM and they knew that they'd be able to use it as soon as it was ready if they pre bought the token and and then a lot of people used it there was an explosion of mostly not great but you know early early versions of things are never great decentralized apps and smart contracts including the Dow including other things

so I think you can make a really good case that under the facts and circumstances of the ether sale your average investor may have been motivated by a desire to get rich but was definitely also motivated by a desire to use the tech and to make this ecosystem function and work and become the future contrast that with somebody buying you know some some guy who's not even got a computer science background doesn't know what a blockchain is sips life which is most people and that's fair because they're complicated like it's a hot tip from a friend who's in a telegram group to go buy some exto Caen I'm not going to name any and then X token raises two billion dollars from

Esther's none of whom no what the hell exit open even does like X token might still be real and it might be as real as aetherium but the motivations of everyone involved are radically different than they were in 2014 no absolutely now let's let's take this and think a little bit about what kind of evolution we are gonna see I mean I think one thing that is happening today which is a huge trend is that the number of token sales is I think decreasing or it's certainly not growing the way it used to at the same time we have a huge search in private sales which often are just recruited investors or in some kind of

you know done in different ways so do you think what we're going to see is kind of exchanges that are you know for accredited investors where those tokens can be traded that are like vault in these private sales and then there will be other classes of exchanges that are more for the you know commodities no longer security type where then anybody can trade and at some point they sort of transition over is giving that potential scenario yeah I think that's pretty likely and you know some people are unhappy about that and there are legitimate reasons to be unhappy about that like if any of these technologies become

fundamental to the future and if a big chunk of their original distribution was handed over to accredited investors which by necessity means that they were at least over a million dollars net worth in other words they were wealthy wealthy people then it does have you know in egalitarian effects it does mean that you know where we have already some divided between the masters of the universe in Silicon Valley and the rest of the world that divide will continue to strengthen rather than weaken even in light of new decentralized technologies at least as far as the distribution of wealth but that is not a topic that we in the cryptocurrency space deal with

alone that's just the nature of how we do investor protection in the u.s. we do investor protection in the US by saying if you want to sell to the public it's going to be really costly from a legal compliance standpoint you're gonna have to do an IPO and do audited financials and do registration and if you don't want to sell the public because you don't want to suffer those costs if you're comfortable just selling to rich people then we give you a safe harbor it's called reg D rule 506 you file with the SEC it's a very easy filing to do they can't deny you and then you only sell to your credit investors and you make sure that they're all accredited and that's how we protect mom-and-pop from you know things that might be

dangerous we say if you're gonna sell to mom-and-pop do a whole bunch of disclosures that are hard to do and if you're not going to do those disclosures you can still sell your thing but only to rich people that might not be a good policy compromise but it's one that we've we've been doing for a long time irrespective of crypto currencies and trying to knit the future of crypto currencies and icos to fighting that long-standing policy compromise is dangerous we should just argue separately about that policy compromise whether it has to do with paper shares of stock or whether it has to do with the token we shouldn't turn our industry into like we're all about leveling capital formation personally I think I think we have other

things to focus on like just D centralizing the internet like what the blocks tech guys are doing D centralizing file storage like what file coins storage and Seija are doing or decentralizing money like what Bitcoin does you shouldn't take on the SEC and say hey the way you currently do investor protection is wrong and we don't care that you think what we're doing is wrong yeah no I think that's that's a that's a valid point of course I personally and you think it would be sad for that to happen I think that kind of openness anybody being able to participate it's a good thing I but at the same time what you said before certainly also true that there is an insane amount of dubious projects and scams and all kinds of stuff now I don't know if there's gonna

be less of those when you just have accredited investors I mean if you have stuff like telegram raising two billion dollars oh yeah which seems insane to me the assumption is not that you'll have less of them the assumption baked into the securities laws is they'll be just as insane if not more insane but the only people who get hurt are people who have enough cushion to suffer or who we just don't care about as much because they're rich like right now what one other effect of this trend that I have you know heard from projects that I think is starting to happen is that they say okay let's say we do a token sale to accredited investors but then we do some kind of airdrop or

giveaway or incentive sation basically distributing the tokens for free to people do you think that's that's possible is that an approach that we may see a lot so oh you know caveat what I'm about to say with the fact that an airdrop doesn't necessarily mean you haven't done a securities issuance people gave away stock to their dot-com companies to anybody who visited their website back in the 90s and the SEC actually came after those people that said the real projects in this space recognize a few things and this is not just them marketing themselves or trying

to position themselves in a way that's defensible from the law or from ethical stand points real projects in this space understand that you need maybe to raise some money by selling tokens but the main thing that the tokens need to do is create an open market for participation in whatever the service is going to accomplish what that means is they're going to be a reward for doing things on the blockchain they're going to be a reward for securing the blockchain if it's proof of work they're going to be a reward for people who provide goods or services through the blockchain or decentralized computing system so if you provide cloud storage to the cloud storage network that's described by a blockchain and can be purchased with the token then you should be rewarded with

the token as a provider and then when consensus mechanisms are proof of stake based instead of proof work based in that case you need people to have the tokens in order to play that valuable role as economic weight in the consensus you know in Bitcoin your economic weight in the consensus the reason why we can trust it is the fact that you invested all of your money into these useless computers and you're feeding them electricity from a dam in western China well at least until recently in proof of stake we believed in the system because the people who are actually powering it had to sink all this capital into these tokens whether they're ether if ether moves to proof of stake finally or anything else and that

won't necessarily be a reliable and decentralized system if the only people staking are the people who are the original investors so finding a way to get tokens more widely distributed is important for the technology now what should you do I think if you're a developer and you want to show good faith and maybe take less risks from a regulatory standpoint you should give them away or you should make them reward for honest participation in the system whether that's something like mining or an airdrop you know and that makes sense so that's all my feelings about that yeah yeah no I mean I certainly think from a

project perspective that can make a lot of sense I think it's also probably often a good idea in terms of creating demand for the token you know like it liquid trading volume and all those kind of things to have like a fairly broad user base yeah that starts to sound more like securities the exact exactly right because I think that that is also where it's gonna get get interesting right this is eNOS or is this just a way to work around some of these restrictions that are coming yeah okay well let's let's speak about Vincent so actually last time we did the podcast

with you you brought up this topic so you guys wrote a blog post back then saying oh this is a big danger Vincent could basically be a big problem by saying that let's say people doing token sales or money transmitters or otherwise just applying these money transmitted rules very broadly and then that seems to basically have happened right and there was a letter by Vince and recently and you guys wrote another blog post about that and of course we'll have links to both posts in the show notes so what's what's going on with Vincent and all this money transmitters yeah so almost a year ago like you said we wrote a blog post and a whole report like with full legal reasoning and

citations and things like this outline outlining rather what FinCEN's Authority in the spaces looked like to date and outlining how there's an ambiguity with respect to FinCEN's authority over token sales and FinCEN's authority to date has been in the 2013 guidance of the implementing regulations of the Bank Secrecy Act they say look we have this broad category of things called money transmitters what they do is they accept and transmit money or monetary value look at an exchange for cryptocurrency they accept from one person and sometimes transmit to another person monetary value there are money transmitter they need to then register

with Vincent they need to do know your customer so that the only people who should have accounts on their platform are people who've been previously identified and they need to file suspicious activity reports if somebody's like somebody has never bought a lot of Bitcoin in their life and then they suddenly buy a couple you know a million dollars worth maybe something's happen and I think that's fine you know I'm generally against warrantless surveillance which is what this is by the way this is the government saying to certain companies in the world whether they be banks or money transmitters or exchanges you need to collect information on your customers and feed it to us even though we're not getting a warrant to get that information but this is something that's

just there we're not going to win a battle to fight that today and so if that's the state of the world and maybe it's a good site over the world - maybe their Beach is too much crime if we didn't have this warrantless surveillance so that's another question but if that's the state of the world what does that rely on that relies on the idea that intermediaries between two people money transmitters who've accepts from one and transmitted to the other I need more fingers are you know the kinds of people that we can require all this information from without warrants very different to then take the same underlying law and say that it allows us to require that a purse singular on one side of a transaction

creating a brand new thing creating X coin selling it to another person on the other side of the transaction that that somehow is money transmission there's nobody in between you're just regulating and demanding information collection without a warrant from one private person engaging in a transaction with another private person that is a fundamentally different bargain from a warrantless surveillance standpoint and I think it might even be unconstitutional let alone an impermissible extension of the current regulatory framework which FinCEN really shouldn't be doing merely by issuing a new letter to a congressman they should at least do by having a public and transparent process of notice and

comment which we would then commenting yeah it's just one pointed out I mean you talk between person and person but you know generally right there token issuance I mean that the purchaser will probably a person or maybe some kind of entity to maybe like a crypto fund or something but but the the entity creating a token right I mean it could be a person it could be an individual but very often those would be I don't know let's say a foundation or a company or some some kind of even if it's a company that's fine that's still a company acting on its own behalf of a person with another person I just mean there's no intermediary and corporate person and and we already accept that this is the way things should be with

respect to money transmission regulation anti money laundering when we talk about miners miners create new units of Bitcoin and they sell them to people in order to then buy more mining hardware they sell them because or they hold them they sell them when they hold them based on their own personal decisions because they own them they created them how is that distinguishable really from someone who invented through coding instead of proof of work a new batch of tokens and wants to sell them to people it's still one person or group of people or foundation acting on its own behalf with another person in the world I don't think they're different and what FinCEN said with respect to miners back in 2014 is you guys aren't money transmitters

because you're selling on your own account so how did they reconcile that former administrative ruling with this new letter I don't think it's been reconciled and I think it needs to be reconciled in a more public proceeding in an open proceeding with as I said notice and comment rulemaking or maybe even new legislation if they really want this Authority maybe they have to go ask for it from Congress not just pretend that they have it okay so I mean I agree it seems like a very strange thing to claim from FinCEN but let's just you know they they did that for the time being I just said this is the way they see it it sounds to me that if you if you take that right you say okay so you have some entity that is created tokens

they have sold it to US residents it didn't register offense and as a money transfer didn't apply kyc and AML and so the consequences are you know federal felony and up to five years in jail be brave now that that sounds like that would apply for basically every single token sale oh yeah if you want to be provocative you can say that like a whole bunch of people and respected people in our community are under this I fink impermissibly broad interpretation of the Bank Secrecy Act potentially liable for a federal felony that is basically a strict liability crime which

means you could get the best lawyer in the world but all the other side needs to prove is that you did the activity which has been classified as money transmission and you didn't have a license at the time or you didn't register with Vincent at the time so both those things are easy to prove and you will try to argue facts to say you're not a money transmitter and you'll try to argue the legal definition of money transmitter but that's that's hard to do because agencies get a lot of deference from courts as to how they interpret their own rules so this is a very dangerous criminal statute it's 18 USC 1960 for anybody who wants to look it up and yeah it's a problem so so practically speaking let's say this

happened and they go out I mean first of all like we it seems crazy because also they didn't have complete latitude right to go after whoever they don't like because obviously they're not gonna go every one but they could go after anyone so does that mean practically let's say they did apply this ruling and then you went before court in the courts as well Vincent said this money transmission and you know you did just being deaf in success you did so we're gonna connect you then would you hope II that this goes to a Supreme Court and they would say FinCEN overstep there are bounds and this is unconstitutional yeah I mean the appellate courts and then ultimately the

Supreme Court would be more open to both arguments that it would be an overreach of their interpretive authority with respect to regulations and an overreach with respect to the Constitution so hey if you're if you're if you're really into Fourth Amendment jurisprudence or Administrative Procedure law and you want an interesting battle this might be a space to watch it might not come to that - maybe maybe this letter was kind of a glitch maybe you know it's it's not a comprehensive letter it just says that and then cites to the guidance and the mining ruling without really explaining how the guidance in the mining ruling

justify that statement and I don't think the guidance and the mining ruling do actually adequately justify that statement so maybe it was just a letter that people thought wouldn't be widely read and you know I don't know maybe it doesn't represent the opinion of the entire agency just the author I don't know okay cool but there that's will certainly be interesting to see what comes out of that but you it doesn't sound like you expect that Vinson will actually start enforcing this on significant scale I think if they did anything so no I don't think there's any urgency to do it

and I don't think they're looking at projects from 2014 and 2015 and saying like we can go get those guys now I think maybe if we have clear evidence that someone is using an ICO as a vehicle that longer money which there probably are some examples of that's how they'd use this Authority maybe that would be okay but as somebody who cares about the law and being clear about what yeah what the law means even that worries me because I'm fine if they go after somebody who was really just laundering money through an ICO but I want them to do it because they were laundering money not because they were operating an unregistered money transmission business because that's strange and too dangerous that that if

that's that broad then that can cover a lot of things that are money laundry and I don't want them to have that authority to cover those things that aren't money on right because that starts also setting precedent yeah the problem is it's a lot easier to prove that someone was an unlicensed money transmitter even if you kind of abuse the term money transmitter to force a bunch of things into it than it is to prove that someone actually knew that they were laundering money like you need evidence that that like like Amen I'll buy some tokens from you I just you know so this cash for drugs you sell me the tokens with and and then if you're dumb enough to like answer that email give me your drug money and then then you find out that the guy on the other end of the email

was actually DOJ and you just you know you know given them all the evidence they need to conduct you so like that's yeah ok cool now let's briefly speak or contextualize all of these things about us in an international context now again please correct me if this is wrong but to me it looks like well there's a lot of a lot of regulation coming in us it's going to be expensive to comply with all this soft very complex you know probably have to spend a lot on legal and compliance to figure out what to do and where to regulate what or to avoid etcetera

it seems like a kind of shift out of us maybe quite natural do you expect that to happen so I think we've seen some of that already we've seen a lot of people not selling to American investors we've seen some people move their projects to Switzerland or things like that I just want to reiterate things I've said before another forum if you have American investors that's what matter doesn't matter where you are based it matters where your investors are based if they're Americans and you're based in say Geneva and the SEC wants to come after you for abusing American investors in some way they will probably be able to get extradition they will probably be able to exert their laws

extraterritorial over you now maybe you can hide in the jungles of Indonesia or in Venezuela but good luck with that now is this going to continue as a trend are we going to see innovation moving over to Europe I think there's a possibility of that I think if we get it right here in the US with respect to dividing commodities Authority and SEC authorities sensibly and having light-touch CFTC regulation of the commodity like tokens and crypto currencies then maybe actually the US will be a more friendly home a more certain home because it will also get rid of that state money transmission issue which is also also costly if you're in the US if we fail to get that right then maybe we see more people

continue to move to Europe but I'd also add that I don't think Europe is a friendly or home for this stuff purely because they like it more if anything sometimes you find people who are much more skeptical in government in Europe I think the reason why it's a more friendly home right now in many cases is because there's a tradition of civil law there instead of common law which means law is code based you know there's like black-letter law and like a security is these things which we've enumerated in black letter law it's never something broader than that unless we add new things to that law whereas in the u.s.

it's common law which means this is an abuse of the term but common understanding of a flexible test is what actually makes you issuing a security or not so that how a test is a broad standard and that means that regulators in the US can act faster they can say well are our foundational laws and prints give us the ability to stretch the interpretation such that we can go after this this bad actor when we see them doing something wrong whereas in Europe they're gonna have to wait for the member nation of the EU to pass new law and probably even wait for the EU Parliament to issue a directive saying all the member nations need to pass this new law to cover this bad actor and then

all the member nations get to pass these laws and then eventually the thing it's either criminalized or regulated in a certain way that might be coming in Europe so with anti money laundering it is coming in Europe the 4th and E money laundering directive has an amendment to it which is still pending that would basically make running custodial wallets and exchanges some subject to anti-money laundering Authority it might not be as bad as in the US where we have this broad definition and maybe even token sellers are subject to it but we'll see so and and I think the Securities and Investment action issues could turn out to be similar so you know you can even kind of broadly read existing securities laws in say Germany and if you really

wanted to be careful doing your token sale you should be submitting a prospectus to boffin the German securities regulator boffin has gotten some of these perspective which I think is the plural for prospectus and said no sorry this is not the kind of you know securities great instrument we normally stamp put our stamp of approval on so there's already impediments to doing these things in a compliant way in Europe and it's not necessarily a fait accompli that it will get better there before it gets better here or that it might even get worse there or it might get worse here or just don't do a token sale just be Satoshi just write software and share it with the world and build cool things stop taking people's money

and promises like riches as an impassioned pleas for all lots of Satoshi's to rise and change the world so thanks so much for them cool yeah I mean I agree right in Europe it's it certainly seems much better and then at least it's seems like the risk of you know stuff like if this Vincent thing right like okay now we're gonna go back and maybe all of the token sales like in the past violated this thing it seems like with the civil law approach that is less likely right and maybe in the future there's gonna be new rules they're gonna make it much harder and more honors but but it sounds unlikely that they're

gonna you know go back and you know let's say in Switzerland I don't think it may well be that these foundation token sales in Switzerland won't be feasible anymore in the future but it seems unlikely to me that they'll go back and into enforcement against people you know unless there's like outright fraud and again if there's ever thought and they're not school they should do that and I think in America it's not as dire as I might have make it sound I think we just rely instead on the discretion of the regulators to not be too backward looking and so far the SEC has been pretty true to that they came out they came out not with an enforcement action

because that would have been kind of backward looking right they haven't said anything about soca' sales and now they are enforcing they came out with an investigative report on the Dow last September or August and then going forward they brought actions against people who after that investigative report sold tokens to people in various ways and they started with really just naked fraud like a gold back token that didn't have any gold backing it many went on to the Munchie case which was about kind of a utility token but you're relying on the company to build this ecosystem of restaurants that will take the token and it's going to take like two years for them to figure that out and you're really relying on their efforts to build those business partnerships between restaurants and then they've they've sort of broadened but we're still

talking about you know things that either look like the Dow or or even more speculative than the Dow actually the Dow is at least a smart contract that sort of working until until it didn't work in a big way cool well Peter thanks so much for joining joining us today may be a last thing what do you think what are the most important topic that you see in the next year coming up on the regulatory front yeah so the most important thing to coin Center is getting this distinction between crypto currencies that are a good fit for securities regulation clearly separated out you know no one's saying they're in right now but it's

important that they not be in because it doesn't make sense and having them regulated in a sensible way that doesn't involve state-by-state money transmission licensing and instead involves a light touch credential regulator who also monitors for fraud and market manipulation like the CFTC I think that's that's the top priority that'd be great that would make the u.s. actually a really pioneer in good policy in the space cool fantastic well thanks so much Peter for joining me of course we'll have links for a lot of the stuff we talked about in the show notes if people can dive deeper you guys have really produced a lot of great content on coins and when I was looking at the website this been a ballooning of content in the last year oh thanks there's still only five of us here we're

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