A private meeting between then-Securities and Exchange Commission Chair Jay Clayton and a newly minted professor at the MIT business school named Gary Gensler appears to have set the stage for the misguided course of crypto-regulation we see today.
Gensler, of course, would go on to take Clayton’s job after Joe Biden’s 2020 presidential victory. It’s unclear if the hyper-ambitious Gensler was actually prepping for that outcome by asking for the meeting. What is unmistakable: his intention to shape regulatory policy for crypto that has increasingly become a disaster.
The meeting occurred back in 2018 as the SEC was grappling with how much it could regulate crypto. Gensler had good reason to be part of that process. The former Goldman Sachs banker had more recently been head of the Commodity Futures Trading Commission (CFTC), which began to dip its toe into crypto regulation. At the time, he was a special adviser of MIT’s Digital Currency Initiative, which was a significant supporter of Bitcoin and its blockchain platform.
Clayton was appointed by then-President Donald Trump as Wall Street’s top cop after many years as a corporate lawyer specializing in M&A deals advised by firms like Goldman Sachs, so he knew of Gensler. Crypto and the blockchain technology that support digital currencies were possibly transformational technology seeking to replace traditional measures of conducting business by eliminating intermediaries and transaction costs.
But SEC officials believed it was also a haven for scams. The two discussed, I am told, how many cryptos were trading like largely unregulated currencies but were actually securities that fell under SEC oversight. The most established crypto, Bitcoin, and its blockchain platform were seeing intense competition from the Ethereum blockchain. Upstart Ripple Labs had created a platform to facilitate cross-border payments using the XRP digital coin.
Going back to his days at the CFTC, Gensler gave the nod to Bitcoin as something that was a true crypto. He wasn’t a big fan of Ethereum, and he appeared to like Ripple even less. Both were skirting securities laws, trading as non-registered securities without SEC oversight, he believed. “There is a strong case for both of them — but particularly Ripple — that they are noncompliant securities,” he told the New York Times in 2018.
I asked crypto experts what exactly Gensler meant by that (he didn’t return my telephone calls) and they tell me his rationale goes something like this: The people at Ethereum, and to a larger extent Ripple, created unregistered securities because they sold digital coins they held to build out their platforms.
For many in the crypto business, this remains regulatory hair-splitting at its finest. For Ripple, it was a huge blow to its business model.
Within three months of the Clayton-Gensler sitdown, Bill Hinman, chief of the SEC’s corporation-finance unit, appeared to channel at least some of Gensler’s thinking. In a speech that would have significant ramifications for crypto, he said neither Bitcoin nor Ethereum were securities. He made no mention of Ripple.
Though his remarks offered the standard disclaimer that they were “the author’s views and (do) not necessarily reflect those of the Commission, the Commissioners or other members of the staff,” Clayton clearly was in the information flow. A source with direct knowledge tells me he provided “some reactions” after reviewing the text prior to the event.
Sensing trouble, Ripple began to meet with the SEC arguing that its operations were not fundamentally different than those in the crypto cool kids’ club. It didn’t work. In December 2020, the SEC filed its last major enforcement action under Clayton, charging Ripple with failing to register $1.3 billion in XRP with the commission. Gensler, now SEC chair, is continuing Clayton’s case and promises others.
This regulatory mishmash is stifling crypto innovation. The Gensler SEC is on the verge of approving a Bitcoin ETF, further cementing its status as the go-to crypto. But he recently shut down an attempt by Coinbase to offer a crypto-lending program. People at Ripple tell me they’ve been forced to expand operations overseas to escape the uneven regulatory environment here. The XRP digital coin has been kicked off many crypto exchanges.
Some crypto investors and industry executives are fighting back. Coinbase is asking Congress to create a separate regulator to oversee the crypto business with a clear set of rules. Class-action attorney John Deaton has sued the SEC on behalf of more than 45,000 XRP investors who have seen the value of XRP plummet after the SEC action.
Deaton believes the SEC officials who brought the Ripple case have conflicts. He points out in his suit that Clayton advises a money manager with investments in Bitcoin and Ether. As Eleanor Terrett of Fox Business is reporting, Hinman is an adviser at the law firm Simpson, Thacher & Bartlett, a member of the “Enterprise Ethereum Alliance,” dedicated to the advancement of Ether.
I’m dubious that such possible conflicts are the root cause of the regulatory morass, but I’m highly confident there’s got to be a better way to oversee something that could be the next Internet.
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