Regulation
Review of Federal Cryptocurrency Enforcement and Regulation
During the first months of 2024, the Securities and Exchange Commission (“SEC”) launched several major offensives against a wide range of cryptocurrency companies. However, in a new phase of what has been described as a “bitter war” Between the crypto industry and the SEC, crypto companies have gone from defense to offense. Following several high-profile judgments against their industry, several companies have banded together to present test cases challenging federal crypto regulation and enforcement. As the executive branch prepares for the consequences of the Supreme Court’s decision in Relentless v. Commerce Department, which could end a 40-year regime of judicial deference to agency expertise, it remains to be seen whether the SEC and other agencies will have the tools to rein in often predatory excesses of cryptography.
Coming after Crypto
Since its inception just over a decade ago, the cryptocurrency industry has exploded onto the global stage, bestowing extreme wealth on some while inflicting financial death blows on others. Financial losses in crypto often stem from widespread fraud in this largely unregulated sector. THE Federal Trade Commission Registered reports from more than 46,000 people reporting losses totaling more than $1 billion from crypto scams between January 2021 and June 2022, but the number of people affected is likely much higher as the FTC does not record as people who contacted the authorities in a positive manner. The Better Business Bureau has named crypto and investment fraud as the riskiest type of scam for consumers in 2023.
However, as KBK’s Alexis Ronickher and Nicolas O’Connor explain in their February 2022 article, Increased scrutiny of the cryptocurrency industry could spur whistleblowingFederal regulators have begun subjecting the crypto industry to increased scrutiny, seeking major judgments against bad actors and attempting to force these companies to adhere to existing regulatory frameworks.
On January 29, 2024, the SEC filed a complaint against the founders of Hyperfund (also known as HyperTech, HyperCapital, HyperVerse and HyperNation) for running a scheme that bilked investors out of $1.7 billion. Second. and exchange. Comm’n c. Lee, et al., 1:24-cv-00296-RDB (D. Md. Jan. 29, 2024). While the company traded cryptocurrencies, the SEC argued that their fraud closely mirrored a traditional fraud. Ponzi or pyramid scheme. Although Hyperfund promised investors fast and high returns based on a purported large-scale Bitcoin mining operation, the company used new investors to pay old investors without launching a standalone revenue stream. In 2022, the company collapsed and investors were no longer able to make withdrawals. The same week that the SEC filed its complaint, the U.S. Attorney’s Office for the District of Maryland announced related criminal charges against the founders. United States v. Lee, File No.: 24-CR-21 (D. Md. January 25, 2024).
Then, on March 14, 2024, the SEC accused 17 CryptoFX executives in a similar crypto Ponzi scheme, which raised $300 million. This program targeted more than 40,000 investors, primarily from Latino communities in the United States and two other countries. The project founders promised “guaranteed” and “risk-free” investments.
These cases follow even larger frauds, including the OneCoin scam (estimated losses of $25 billion), the BitConnect scam (around $4 billion in losses), and the Bitclub Network scam (up to 722 million dollars in losses). Samuel Bankman-Fried, former CEO of FTX Trading Ltd. (“FTX”), was recently sentenced to 25 years in prison for fraud and related crimes resulting in crypto client losses of over $8 billion.
The Future of Law Enforcement
The SEC shows no signs of slowing down. Statements from agency executives demonstrate their commitment to taking control of the crypto industry by subjecting these companies to the same rules applied to other financial investment firms. In initiating the HyperFund enforcement action, SEC Enforcement Division Director Gurbir S. Grewal, declared: “This case illustrates once again how non-compliance in the crypto space facilitates schemes in which promoters capitalize on the promise of easy money, without providing the detailed information on investor protection required by the provisions of “registration of the federal securities laws.” SEC Chairman Gary Gensler echoed this sentiment in his bid to raise funds for crypto regulation, explaining: “There has been a dynamic shift in communications to and between investors, from Reddit forums to celebrity influencers. Additionally, we have seen the Wild West of crypto markets, rife with non-compliance, where investors have put hard-earned assets at risk in a highly speculative asset class.
Part of the SEC’s strategy for controlling crypto is to use existing securities laws for crypto transactions. Recently, the SEC attacked ether (ETH), the native cryptocurrency of the Ethereum network, which aims to classify ETH as a security. The ETH investigation follows several similar lawsuits against domestic and international crypto exchanges, including Coinbase, Kraken And Binance. But crypto companies are not bowing to the pressure. Instead, the industry has launched a legal attack not only on regulators’ actions against them, but also on the method by which regulators establish their rules. Coinbase, a publicly traded cryptocurrency exchange, took this fight to the Third Circuit. After the SEC rejected the company’s formal request to create special rules regulating crypto companies, Coinbase argued that the agency’s response did not adequately explain its reasoning, amounting to arbitrary decision-making and capricious. Coinbase claimed that existing SEC regulations do not fit the crypto industry and therefore the agency cannot assert its authority over crypto assets without new regulations. Crypto Allies Deposited amicus briefs in this case, calling the agency’s existing processes “inconsistent” for the industry.
Other crypto advocates are joining the offensive. On March 25, 2024, the DeFi Education Fund (DEF) filed a complaint in Texas against the SEC, claiming that Beba, a clothing company, which airdropped free crypto tokens to customers during a promotional event, should not be subject to federal securities laws. This lawsuit demonstrates how aggressively the crypto industry and its allies are approaching this fight. The SEC had not filed any action against Beba before DEF filed its declaratory relief action in court. Instead, the suit aims to protect the company and other players that trade digital assets from any police action that might be considered in the future.
These strategies attacking the SEC’s authority to regulate crypto may soon be encouraged by the probable decision in Relentless, Inc. v. Department of Commerce, that lawyers warn could spell the end of the current coercive powers of administrative agencies. Although the practices of crypto companies have attracted the attention of regulators, these federal enforcement mechanisms can only work if agencies have the power to enforce securities laws against the crypto industry . Crypto companies are aware of the precariousness of the administrative state and are already implementing creative legal strategies to challenge the federal government’s enforcement efforts. The Supreme Court’s decision in the Relentless case could change the terrain on which this crypto war will be fought, leaving the question of whether existing laws apply to crypto first to the courts, and whether they say no , then to Congress to draft new legislation to close the gap.