The Breakdown - Gary Gensler, Bitcoin and the Bad-Faith SEC

Starting point is 00:00:04 Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. The breakdown is produced and distributed by CoinDess. What's going on, guys? It is Monday, February 27th, and today we are talking about the regulatory main character, Gary Gensler. A quick note before we dive in. There are two ways to listen to The Breakdown. You can hear us on the CoinDesk Podcast Network, which comes out every afternoon, and is featured alongside other great coin desk shows,

Starting point is 00:00:38 or you can listen on the breakdown-only feed, which comes out a few hours later in the evening. Wherever you listen, if you're enjoying the show, I would so appreciate it if you would take the time to leave a rating or review. All right, friends, well, hope you had a great weekend. And to kick today off, I wanted to bring you back to a simpler time. Remember when Gary Gensler was first coming into this SEC role, and so many folks, myself included, thought,

Starting point is 00:01:03 hey, maybe this will be good. I mean, this is a guy who has taught about Bitcoin and crypto at MIT, right? The simple fact of that understanding is almost certainly likely to make him better to work with than someone like Jay Clayton. And then, remember how Gary decided to be avowedly against the industry? To perpetuate a regulation by enforcement approach? And to take actions that are clearly less about the investor protection he purports to care so much about and so much more focused on advancing his own political career? Well, in all of that, a road bump on Gary's preferred political path are the questions that swirl around his discussions with Sam Bankman-Fried and FTX.

Starting point is 00:01:42 Gensler's opponents in Congress are getting louder about demanding answers, about the SEC's discussions with FTX, as well as their investigations into FTX after the collapse. The narrative those opponents are trying to make stick is a pretty simple one. At the same time, Gary was scoring PR victory, slapping Kim Kardashian on the wrist. he was also meeting with the guy who ended up being revealed as one of the biggest financial frauds in American history. The problem for Gensler is that it's a pretty compelling narrative, sort of backed transparently by the facts.

Starting point is 00:02:11 It's enough of a problem, in fact, that Gensler has started to fight his own media counteroffensive. Late last week, New York Magazine published a pretty extensive piece called Can Gary Gensler Survive Crypto Winter, D.C.'s top financial cop on Bankman-Fried Blowback. In the interview, Gensler discusses at least one of his meetings with FTX directly. The meeting in question came a year ago in March 2022. FTX had come in with IEX, a stock exchange that they were in the process of acquiring a piece of, and the two firms together were pitching a, quote, alternative trading system,

Starting point is 00:02:42 which is basically an SEC approved trading venue that has lighter regulations than being a national securities exchange would. Now, in this interview, Gensler says that he smacked the idea down basically as soon as he heard it. Quote, I indicated to them they could take their slide deck down on the second slide, and that I didn't think they should, with all respect, that it was not a valuable use of their time. He went on to say that FTX was structured in a way that just wouldn't work, telling the group that, quote, alternative trading systems were something amongst and four institutional investors, and that just coming into compliance was going to need them to disaggregate their business to address the conflicts, that they should have a separate exchange, separate broker dealer, separate custody, end quote.

Starting point is 00:03:20 Now, this was at least the second time Gensler had met with SBF, but it's not clear if there were more times. The article in New York Magazine says, quote, Gensler's calendars for 2022 have not yet been fully released. So questions on this front have persisted. Still, while Gensler's media need to start telling his side of the FTX story might have prompted the article, it was another comment in it that had the entire crypto space chattering all weekend. Gensler says, quote, everything other than Bitcoin, you can find a website, you can find a group of entrepreneurs. They might set up their legal entities in a tax haven offshore, they might have a foundation,

Starting point is 00:03:53 they might lawyer it up to try to arbitrage and make it hard jurisdictionally or so forth. They might drop their tokens overseas at first and contend or pretend that it's going to take six months before they come back to the U.S. But at the core, these tokens are securities because there's a group in the middle and the public is anticipating profits based on that group. And quote. Now, of course, it is that everything other than Bitcoin, quote, that has the whole community so fired up. Digging into that conversation a bit, Bitcoiners who hold that same position that everything but Bitcoin is a security were, of course, enthusiastic. Microstrategies Michael Saylor writes, consensus is building that everything in the crypto industry other than, than Bitcoin is a security, destined to be regulated by the SEC. This makes Bitcoin the only

Starting point is 00:04:31 crypto assets suitable for use as global money. There are also a lot of even more donkey takes on top of that. I'll say a couple things here. First, I don't think it's particularly controversial to recognize that Bitcoin is completely unique in ways that have legal significance here. I've previously called this the long shadow of Satoshi's ghost. And what I mean by that is that there is huge importance to the fact that not only is there no centralized structure at the heart of Bitcoin, but the founder remaining anonymous to this day and being, for all intents and purposes, gone from any actual involvement with the protocol for over a decade, is just profoundly atypical and also makes it exceedingly difficult to argue with any energy that Bitcoin could be considered a security. And yet, to the extent that there are those out there who see everything that isn't Bitcoin as an enemy of Bitcoin, and so who then see Gensler and think, the enemy of my enemy is my friend, I would give the greatest of cautions. If you think that there aren't ways that the powers that be could try to put Bitcoin into a legally

Starting point is 00:05:25 attackable box, look no further than a piece published a little over a week ago in the Wall Street Journal. The piece was titled, Bitcoin's Future Depends on a handful of mysterious coders. Now, let's bring it back to the how we test for determining whether something is a security. The whole reason Gensler thinks all cryptos or securities is the idea that people buy them knowing that they're relying on the work of others. That whether it's called a foundation or something else, it's the work of others not their work that is imbueing the thing with value. Is it that much of a leap in a jump then to imagine a rogue SEC deciding to argue that because Bitcoin is maintained by a, quote, handful of mysterious coders, we're all relying on the work

Starting point is 00:06:02 of those others. I'm not saying it's a winning or even particularly good legal argument. I'm saying that it seems pretty obvious to me that Bitcoiners shouldn't be cheering on overreaching regulators just because they're not overreaching on our thing at the moment. However, the good news is I don't actually think that was the majority of or even the important part of the discussion. Swans Corey Clipson, for example, a vocal Bitcoin advocate to say the least, pointed to the analysis of lawyer and bitcoiner Logan Bollinger, who wrote, Friendly reminder that Gensler's opinions on what is or isn't a security are not legally dispositive.

Starting point is 00:06:32 In this country, judges, not SEC chairs, ultimately determine what the law means and how it applies. Doesn't mean his thoughts are irrelevant, they're just not dispositive. Which is to say, the SEC can bring enforcement actions and get settlements, but those aren't legal precedent. companies and individuals can choose to go to trial, where SEC would have to prove to a judge that something was a security, if that's an element of the allegation. The federal court then decides, yeah, we agree with you SEC, these are securities, or no, SEC, we don't agree with you that these are securities. The Howey test itself is Judge-made law. An SEC chair didn't make that up. Judges interpreted the Securities Act and the definition of an investment contract under that act. Important to keep in mind that, in theory, Howey-Test could also be subsequently overruled.

Starting point is 00:07:14 Alternatively, the Securities Act of 1933 could be amended. New laws could get written, etc. But Gensler saying, yeah, I think X, Y, and Z are securities does not legally mean that they are, in fact, securities. The blockchain associations Jake Trevinsky agreed with this. Chair Gensler may have prejudged that every digital asset aside from Bitcoin is a security, but his opinion is not the law. The SEC lacks authority to regulate any of them

Starting point is 00:07:37 until and unless it proves its case in court. For each asset, every single one, individually, one at a time. Others pointed out that Bitcoin now being not a security shows exactly a path to how some of these other security-like things might also become not securities. Twong V. Lai, the head of regulatory and policy at Paradigm writes, Even if we grant that Bitcoin's origin story and current state of decentralization distinguish it from these other tokens. Can someone explain to me why other tokens and the blockchain networks they underpin shouldn't be given the chance to get there too? The argument,

Starting point is 00:08:08 I assume, since SEC has never actually explained their reasoning, is that Bitcoin is so decentralized that requiring securities registration and ongoing disclosures is neither possible nor useful. But why couldn't other tokens reach that point too? Yet current SEC and chair reject the notion that a token could ever evolve to non-security status and refuses to offer a safe harbor or other compliant pathway for a token to get there. In their view, only Bitcoin and its protocol should be allowed to exist without regulation. But other blockchain networks, some that exist now, some that have yet to be invented, may offer advantages in terms of speed, cost security, privacy, composability, whatever.

Starting point is 00:08:42 To impede that development on an arbitrary and unprincipled basis is unfair and anti-innovation. I get why some idolized Satoshi and what he-she they created. Honestly, it's pretty effing neat, but a principled basis for a securities token registration regime, that is not. The new Howie rule, be anonymous, disappear, and hoddle forever. Another commenter latent put it even more succinctly. Gensler says, decentralized blockchains are possible, but it's only been done once and can never be done again. In other words, the first airplane is an airplane. All the rest are cars with wings.

Starting point is 00:09:14 And by the way, for those who find these analyses loose or overly hopeful, it's not just crypto-hyper partisans or something who have suggested that crypto networks becoming more decentralized over time is a legally defensible and designable thing. Hester Perce from the SEC has long argued for a regulatory sandbox or token-safe harbor, which would effectively fence in tokens and allow them a period to become decentralized. And then last year in the Lumas-Gillibrand Responsible Financial Innovation Act, the Act would have defined a period during which tokens had to report

Starting point is 00:09:41 support to the SEC alongside their decentralizing process before ultimately being regulated by the CFTC. The point being, thoughtful regulators and politicians aren't all dismissive of the decentralized overtime argument. Still, for some, the real question was, given that Gary is now being extremely clear that he thinks everything is a security besides Bitcoin, what does that suggest about his endgame vis-à-vis the industry? Join CoinDesk's consensus 2023, the most important conversation in crypto and Web3, happening April 26 through 28th in Austin, Texas. Consensus is the industry's only event bringing together all sides of crypto, Web3, and the Metaverse yourself in all that blockchain technology has to offer creators, builders,

Starting point is 00:10:26 founders, founders, brand leaders, entrepreneurs, and more. Use code breakdown to get 15% off your paths. Visit Consensus.coindex.com or check the link in the show notes. Shapiro, Lexnow, the GC at Delphi Labs, writes, Now that Gensler has made clear, he regards every single token, including stablecoins, other than Bitcoin, as securities under U.S. law, can we start asking, what is the plan here? Some thoughts and facts below. Coin Gecko puts the total crypto market cap at $1.13 trillion, consisting of 12,306 tokens. Bitcoin is $467 billion, or around 40% of that.

Starting point is 00:11:08 X-hypothesy, this means $12,305 tokens with $663 billion in value, are illegal in the U.S. because they trade publicly as unregistered securities. So far, SEC has handled tokens in mainly two ways. One, fine plus registration requirement. This failed every time so far with the companies becoming bankrupt. Two, fine plus order to destroy all pre-mine tokens in D-list tokens from all exchanges. Both ways, tokens go to zero. A third way is how they handled Kik and Kinn,

Starting point is 00:11:36 which is just charge a fine, but not require tokens to be destroyed or delisted. No other project has gotten this benefit in an enforcement action. SEC registration is not only too expensive for most token creators, there is also no clear path for registration of tokens, no matter how many times Gensler says otherwise. There are too many novel questions, e.g. as every protocol change a new offering, and no roadmap. So what's the plan here? Since registration is not feasible, it can only be number two. Everyone pays huge fines, stops working on the protocols, destroys all dev-free mines, and D-list tokens from trading. That would mean 12,305 lawsuits in wiping out $663 billion in

Starting point is 00:12:13 value from the market. Why do journalists not ask Gensler about this in his countless media appearances? Why do they let his claims of just register go unchallenged? What is the plan? We're all wondering, and billions of American dollars are at risk. P.S. The total number of token dev companies, Gensar seems to claim need to be registered with the SEC, exceeds the entire number of all SEC registered public companies. PPS, let's say I register an L1 or L2 token as a security, or, said more precisely, I register an investment contract security that is closely associated with such a token. Clearly, the disclosure is about, and the key investment features of the security depend on the current state of the blockchain protocol. But the protocol is open source, and which

Starting point is 00:12:52 protocol is active regarding the token at a given time, depends on which protocol validators decide to run at the time, which might be the version I wrote, or a version that someone else wrote. What happens when someone changes the terms of, quote-unquote, my security without me? By, e.g., adding a burning mechanism for the token into the protocol or changing the inflation rate, et cetera. Is there any other kind of security in the world that can have its terms change without the consent of the SEC registered issuer? No, there isn't, and the SEC has not explained how it would deal with this issue when someone registers a token or investment contract scheme integrally related to a token. Many such conundrums. The point that Gabriel is making here,

Starting point is 00:13:27 which has just come up over and over and over again, is that the idea of the companies or products just coming in and registering is not feasible. There is no path. There is no path. to registration because the things that need to be registered don't fit into the registration scheme. What Gensler is actually saying, when he says they just need to come in and register, is he saying they just need to die. He's trying to let everyone else come to the same conclusion that because it's all securities, but there's securities that can't be registered, that they need to just go away. He just doesn't want to say it quite that baldly. And indeed, for many, this was a real ripping the mask off moment. Alexander Greve, who does crypto policy at Tiger Hill Partners, writes,

Starting point is 00:14:07 Gensler and NYMAG on crypto. Everything is a security except Bitcoin. Every company out there is in violation. Crypto is pointless, but blockchain is kind of neat. Hard to argue you're acting in good faith if admittedly trying to stamp out an entire industry. Relatedly, people pointed out that this whole attitude went against one of the other of the SEC's mandates, which is capital formation. James McCall says, seems like they just up and forgot that their mandate is also capital formation. I see 12,306 entrepreneurs that were able to bootstrap capital and form a market without needing a bank,

Starting point is 00:14:36 market-making iBanks, etc. Pretty effing amazing if you ask me. Now, for what it's worth, if you go to SEC.gov slash hour-dash goals, they list their mandates as to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation. People are getting pretty fed up with Gary. Ex-lawyer NFT writes, Gary Gensler is flat evil. As chair of the SEC, he has made statements that hurt capital markets and orderly capital formation. He does so because he is protecting his former employer, Goldman, and other banks by attempting to kill crypto. He does So at the expense of continued American innovation. His statements to just register do not have legal basis and there is no path to registration.

Starting point is 00:15:13 His statements are lies. President Biden, you should immediately remove him from office as he has failed in his duties. The United States government should not be in the business of choosing which technologies are allowed to flourish. Why do I call Gary Evil? Simple. Making policy decisions and statements to protect your friends and people from your former industry, banking, at the expense of the American people, can be called nothing less. It is putting your own interests above those whom you are supposed to protect.

Starting point is 00:15:36 Gary Gensler is un-American, anti-freedom, and his disgrace to the American economic systems and the spark of innovation that has made America one of the most opportunity-rich nations in the world. Now, when it comes to what I think, I believe that pretty much all of Gensler's cards are on the table at this point. I think it's pretty hard to view his SEC as acting in good faith. Further, I think he's an opportunist who is taking advantage of congressional ineptitude to run roughshod over the industry,

Starting point is 00:16:01 knowing that he's unlikely to face any more consequences than being yelled at on Twitter, or maybe being a little red-faced under the collar at a hearing at some point if he's actually ever compelled to go. As I put it last night on Twitter, Gary's play right now is a bet on congressional incompetence. He's literally larping as crypto-Wy at dirt because he's convinced Congress are too shitty at their jobs to stop him, and he may be right. If there is anything to have some optimism about, it's that while Congress may be unlikely to hold the SEC to account, it is possible that courts might. This week sees the beginning of oral arguments in Grayscale's

Starting point is 00:16:34 lawsuit against the SEC, so I'll make sure to report what comes out of that. For now, as always, guys, I appreciate you listening, and until tomorrow, be safe and take care of each other. Peace.

The Breakdown - Gary Gensler, Bitcoin and the Bad-Faith SEC

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