Crypto Blade Runner
Regulatory clarity and harmonization will drive cryptocurrency prices much, much higher over the long term.
“I don’t think you understand the situation,” Garland said. “This man – or android – Rick Deckard, comes to us from a phantom, hallucinatory, nonexistent police agency allegedly operating out of the old departmental headquarters on Lombard. He’s never heard of us and we’ve never heard of him – yet ostensibly we’re both working the same side of the street. He employs a test we’ve never heard of. The list he carries around isn’t of androids: it’s a list of human beings.”
Do Androids Dream of Electric Sheep? by Philip K. Dick
Much like the dystopian world depicted in Dick’s noir classic now known as “Blade Runner”, there are a multitude of overlapping regulatory agencies policing the cryptocurrency world. Do they know of each other? Possibly. Is it coherent? Not even close.
The Dysfunctional World of Crypto Regulation
There are a host of entities that regulate cryptocurrencies. Unfortunately, this approach is entirely chaotic. Each entity approaches cryptocurrencies from their own domain perspective (understandable) but defines cryptocurrencies differently and then regulates them according to their unique definition (unworkable).
Below, I will summarize the broad strokes of how various regulatory entities approach (or ignore) cryptocurrencies.
Table 1: Definitions of “Cryptocurrency” by Regulator
The Securities and Exchange Commission (“SEC”)
The SEC has sought to apply a 1946 Supreme Court definition of what constitutes an investment contract to cryptocurrencies.
NOTE: See Securities and Exchange Commission v. W. J. Howey Co. (“Howey”). In this case, the Court ruled that “a contract, transaction or scheme whereby a person invests his money in a common enterprise and is led to expect profits solely from the efforts of the promoter or a third party.”
The application of Howey to cryptocurrencies seems incredibly thin. Is a person involved in a “common enterprise” when they exchange U.S. Dollars for Euros? Are they now involved in the enterprise of the European Union? Did they buy Euros in the expectation of profit? Maybe, but what about tourists? How long do you have to hold the currency for it to be “in expectation of profit”? Is the European Union “promoting” its currency? Certainly.
If the answers to these are all “yes”, then just about everything qualifies as an investment contract. Tithing to your church, for instance, or buying anything.
The absurdities that arise under Howey have resulted in multiple lawsuits including a group of claims against cryptocurrency exchanges (see Leibowitz et al v. iFinex et al) which seem to center around the question of what is a security. Separately, the New York Attorney General has brought a suit against Bitfinex and Tether (see Letitia James v. iFinex et al) alleging that there was actually a sort of crypto pyramid scheme that wasn’t backed by actual funds.
Whether under Howey or a new standard (better idea), the SEC will eventually get clarity, and this will remove a large uncertainty around all cryptocurrency enterprises. It will also remove the specter of lawsuits that live in the ambiguities of Howey.
The Financial Crimes Enforcement Network (“FinCEN”)
FinCEN doesn’t consider cryptocurrencies to be legal tender but (since 2013), does consider cryptocurrency exchanges to be transmitters of money, and thus subject to their jurisdiction. FinCEN writes:
In contrast to real currency, “virtual” currency is a medium of exchange that operates like a currency in some environments, but does not have all the attributes of real currency. In particular, virtual currency does not have legal tender status in any jurisdiction. This guidance addresses “convertible” virtual currency. This type of virtual currency either has an equivalent value in real currency, or acts as a substitute for real currency.
Of course, everyone in the crypto space considers not being legal tender a feature, not a bug.
The Internal Revenue Service
The IRS calls cryptocurrencies “virtual currency”, and writes: “For federal tax purposes, virtual currency is treated as property. General tax principles applicable to property transactions apply to transactions using virtual currency.”
This means that gains on cryptocurrency investments are taxable.
The U.S. Treasury Department (“Treasury”)
The U.S. Treasury Department has been mostly silent, issuing a few meaningless bromides such as this:
Treasury is focused on preventing the misuse of virtual currencies by money launderers, terrorist financiers, and other bad actors. The United States will continue to be at the forefront of regulating entities that provide cryptocurrency, and will not tolerate the use of cryptocurrencies in support of illicit activities.
That sounds good, but physical currency is the standard for criminal activity. Indeed, the 500 Euro note (now discontinued) was so favored by bad actors that it came to be known as the “Bin Laden”.
The Federal Trade Commission (FTC”)
The FTC has some warnings about using or investing in cryptocurrencies, but that’s about it.
The Commodity Futures Trading Commission (“CFTC”)
The Commodity Futures Trading Commission declared virtual currencies to be a “commodity” in 2014, and thus subject to its oversight under the Commodity Exchange Act.
In addition to these domestic entities, there exist international organizations that also regulate cryptocurrencies. The U.S. is a member of many of these. I will highlight one.
The Financial Action Task Force (“FATF”)
The FATF is self-described as:
The inter-governmental body which sets international standards to prevent money laundering, terrorist financing and the financing of the proliferation of weapons of mass destruction.
Although the FATF does not have any authority over its members, the majority of its members adopt its rules. For instance, the FATF has 39 members, all of whom are in various stages of implementing regulations on all forms of money.
In part of its work to prevent bad uses of money, the FATF has focused on virtual asset service providers (“VASPs”) which is a catch-all for any firm involved in the cryptocurrency space. In short, the FATF wants every country to implement anti-money laundering and counter-terrorism financing regulations for any and all cryptocurrency firms.
Table 2: Progress in Implementing VASP AML/CFT Regulatory Regimes
Office of the Comptroller of the Currency
On July 22, 2020, the Office of the Comptroller of the Currency (“OCC”) issued an Interpretive Letter to national banks regarding custody of cryptocurrencies. In its Introduction and Summary Conclusion, the OCC wrote:
This letter responds to your request regarding the authority of a national bank to provide cryptocurrency custody services for customers. For the reasons discussed below, we conclude a national bank may provide these cryptocurrency custody services on behalf of customers, including by holding the unique cryptographic keys associated with cryptocurrency. This letter also reaffirms the OCC’s position that national banks may provide permissible banking services to any lawful business they choose, including cryptocurrency businesses, so long as they effectively manage the risks and comply with applicable law. (Emphasis added)
This was a major announcement as custody has been the major stumbling block to ownership of cryptocurrencies by large institutional asset managers.
Chart 1: Bitcoin and Ethernet Year-to-Day Performance (Percentage)
Although they were already rising, both Bitcoin (white line) and Ethereum (yellow line) ramped significantly after the release of the OCC letter on July 22. Indeed, since the July 22, 2020 close, Bitcoin and Ethereum have risen 19 and 58 percent, respectively, while the S&P 500 has only risen one percent.
Currently there exist multiple Blade Runneresque overlapping regulatory bodies, each with their own nomenclature and each regulating from their own perspective. This has created significant uncertainties around cryptocurrencies, cryptocurrency service providers, and investments in both.
Despite this, many cryptocurrencies have risen and many startups have been funded to service the cryptocurrency space.
While the prices of cryptocurrencies will undoubtedly continue to be highly volatile, I believe regulatory clarity and harmonization will drive prices much, much higher over the long term.
 Do Androids Dream of Electric Sheep? Philip K. Dick; Penguin Random House LLC; New York (1968); P.109, Kindle Edition.
 Wikipedia; s.v. “SEC v. W.J. Howey Co.”; Available at: https://en.wikipedia.org/wiki/SEC_v._W._J._Howey_Co.; Accessed July 8, 2020.
 FinCEN; Application of FinCEN’s Regulations to Persons Administering, Exchanging, or Using Virtual Currencies; March 18, 2013. Available at: https://www.fincen.gov/resources/statutes-regulations/guidance/application-fincens-regulations-persons-administering; Accessed July 17, 2020.
 Internal Revenue Bulletin: 2014-16; April 14, 2014. Available at: https://www.irs.gov/irb/2014-16_IRB#NOT-2014-21; Accessed June 20, 2020.
 U.S. Department of the Treasury; “Treasury Convenes Cryptocurrency Working Session with Industry Leaders”; Press Release; March 2, 2020. Available at: https://home.treasury.gov/news/press-releases/sm926; Accessed July 20, 2020.
 Jack Ewing; “Europe to Remove 500-Euro Bill, the ‘Bin Laden’ Bank Note Criminals Love”; The New York Times; May 4, 2016. Available at: https://www.nytimes.com/2016/05/05/business/international/ecb-to-remove-500-bill-the-bin-laden-bank-note-criminals.html; Accessed July 20, 2020.
 Federal Trade Commission; “What to Know about Cryptocurrency”. Available at: https://www.consumer.ftc.gov/articles/what-know-about-cryptocurrency#:~:text=Cryptocurrency%20is%20digital%20money.,%2Dbetween%2C%20like%20a%20bank.&text=People%20might%20use%20cryptocurrencies%20for%20quick%20payments%20and%20to%20avoid%20transaction%20fees; Accessed July 20, 2020.
 FATF; 12-Month Review of the Revised FATF Standards on Virtual Assets and Virtual Asset Service Providers”; June 2020; 2. Available at: https://www.fatf-gafi.org/media/fatf/documents/recommendations/12-Month-Review-Revised-FATF-Standards-Virtual-Assets-VASPS.pdf; Accessed July 21, 2020.
 Id. at 8. To continue the alphabet soup of acronyms, “FSRB” is FATF-Style Regional Bodies.
 Office of the Comptroller of the Currency; Interpretive Letter #1170; July 22, 2020. Available at: https://www.occ.gov/topics/charters-and-licensing/interpretations-and-actions/2020/int1170.pdf; Accessed August 4, 2020.
 Source: Bloomberg.