It’s fascinating that financial markets can react negatively to even healthy conversations about regulation and consumer protection.

Let’s admit it – it’s far past time to have those conversations.

With the advent of a new type of security called an ICO, and the recent largest theft in history from an exchange (Coincheck’s theft of NEM tokens 1), the momentum is building for a governmental response to the enthusiasm that an entire new financial market brings.  Layered on top is a sudden market downturn that has eaten half or more of all of the profits realized by some investors since December, and you have a situation ripe for government agencies to step in. wild_west_john_wayne

Some crypto icons like the current “Wild West” image of crypto, and they don’t like the idea of playing by anybody’s rules but their own; they are among the minority, however, and it’s evident from the growing chorus of confusion in crypto that some sort of government intervention is imminent.

Regulation Versus Enforcement

I hear a disturbing comment from some people on Discord and other social media; they are not planning on paying their taxes, or are thinking that somehow the IRS will see fit to grant a ‘like-kind’ exchange exemption to crypto-to-crypto transactions here in the United States. 2 3

Suffice it to say that many of them will be faced with an unpleasant surprise.  Years from now, they could still be audited once the IRS gets its hands on that data.  It may not happen immediately, but remember that the IRS can look back in time indefinitely if it thinks that somebody is avoiding taxes.  What does that mean in practice?

For Those In the United States: IRS Enforcement

Believe me, I’d rather that the law be written differently, but I’ve made peace with the fact that I must pay taxes on all my transactions from 2017.  It’s just that simple for those of us here in the United States.  If you used a centralized exchange at any time in 2017, it’s a good bet that the IRS will be able to get its hands on the individual tax records for IRS_Symbolyour trades.

Some traders think that it’s only Coinbase that shares information with the IRS, but in reality it could be any exchange – even ones in other countries.

This means that it’s likely that the IRS could “look back” for individual crypto traders and try to find transactions in centralized exchanges that may indicate realized gains.

Centralized Exchanges: Governments Love Them

Back in 2013, there was a segment of the Bitcoin fan base that I call “crypto-anarchists” for lack of a better description.  While it’s inherently inaccurate to label an entire group, it serves the purpose of defining the belief system of this crowd.

These are individuals that hate all authority – no matter if it’s the government, corporations, or even powerful individuals.  They believe in decentralization of currency as a means to an end – they want to shake off the “shackles” off organized society and create a new society without banks and other traditional financial institutions.  While their goals may be noble, their belief system seems to demonize and scapegoat institutions rather than establishing a vision for something workable and new.

We can debate the merits of the crypto-anarchists arguments at some other time; for now I simply want to point out the irony of the current situation.

It’s All Great Until You Need a Bank

What happened to a lot of the early adopters of Bitcoin who were of the crypto-anarchist variety?  If they managed to hold onto an appreciable amount of Bitcoins, then those people became rich.

On paper.

Yes, it’s very impressive to open up a browser to Coinmarketcap and point out to yourself what your portfolio is worth; but when it comes time to extract fiat value for your crypto portfolio, you will need to work with the same financial institutions that crypto-anarchists hate: Banks.

This is where the entire theory of a truly decentralized cryptocurrency falters a bit, because to actually transfer large amounts of value into and out of the cryptoverse, we have to somehow convert fiat money.  While hard-core fanatics might point out schemes to avoid centralized exchanges, the average Joe will have to get that money into their checking account somehow.

The Centralized Exchange

Almost every crypto trader that I know has used a centralized exchange.  I live in the United States, so the ‘usual suspects’ are Bittrex, Kraken, and Coinbase, among others.  These centralized exchanges are the choke points of the crypto universe, and that fact is not lost on governments and banks.

KYC and AML are the two most widely-known set of rules that centralized exchanges must comply with or face possible sanctions by the government.4 5

  • “Know Your Customer” (KYC) rules are for making sure that an exchange has properly and methodically identified the individual opening an account. They do this by asking for submission of identification and proof of residence, although some of the nuts-and-bolts examples differ from exchange to exchange.
  • “Anti Money Laundering” (AML) rules are in place to make certain that illegally-obtained funds are not traded back and forth in an effort to obscure the source of those funds, and to make the resulting accounts appear legitimate. Any financial system that can transfer material amounts of value back and forth can potentially be used for money laundering.

Exchanges are the Gatekeepers

Because of their position as the route to get crypto converted into fiat money, and likewise fiat money into crypto, the exchanges are also the most popular point to enforce current laws and regulations.  When governmental authorities want to use a lever and fulcrum to administer their policies, all they have to do is go after the exchanges. centralized_exchanges

So when it comes to current enforcement, exchanges will be the lowest-hanging fruit for any organization that needs to impact crypto with an all-encompassing net.  The IRS knows this already, and wasted no time in issuing a “John Doe” summons to Coinbase for all of its customer data.6  The latest information indicates that Coinbase is currently fighting this broad request, and has recently won a victory that requires the IRS to narrow its request to only specific accounts.

While the Coinbase summons is one example, you can expect many more legal interactions between government agencies and the exchanges that facilitate the entry of increasingly massive levels of value into the crypto markets.

How Not to Protect Consumers

Somebody sent me a link to a shocking news article.  When I read the details, I was astounded – I would not have predicted something like this in 2018.  The gist of the article – multiple articles now – is that some of the larger banks in the United States and the United Kingdom have begun to prohibit using credit cards for funding an account at banks_scoldinga crypto exchange. 7 8

The banks are implementing the ban under the guise of “consumer protection,” but the rules seem a bit heavy-handed to me if the stories are correct; while online gambling might deserve to be scrutinized – after all, some people have a problem with gambling because of a genetic predisposition to it – prohibiting people from purchasing a unique virtual currency strikes me as disingenuous.

Why disingenuous?

Making a conscious choice about an investment should not be considered gambling.  When we use a credit card, it should be judged by the same standards as making a decision about what to do with our own money.  The concept of “ownership” underpins Western society.  While banks want to benefit from bailouts when they make bad decisions on their own, such as when the larger ones invested in mortgaged-backed securities, they also want to play the other side of the coin and restrict how much risk individual consumers can take.

This is distasteful to me: Banks are there to serve the customer, and restricting the items that I can purchase with my own money is not a welcome development.  In fact, to my great displeasure, this type of news story feeds right into the crypto-anarchist mindset and paranoia.

Banks Shouldn’t be the Ones to Place Rules on Crypto Exchanges

People do not like the idea of their own bank telling them what they can and cannot buy.  I’ve seen some very vitriolic Reddit posts about this topic, and to be quite honest I actually sympathize with some of the writers; the opportunity to invest in crypto is a historically significant event, even despite the recent corrections in the market.

Are banks really protecting consumers… or themselves?

If I’m asking this question, you know banks have messed up the public relations on this topic.  I was interested in Ripple almost out of the gate, because they simply acknowledged the historically important role that banks have played throughout history, and the fact of the matter is that banks are not going away.  Banks will exist long after you or I are gone.

But that doesn’t mean that they should be the ones to place regulations on crypto.  In the case of the banks, if I’m suspicious of their motives, you can rest assured that a run-of-the-mill crypto anarchist has already assumed the worst.  It makes me wonder – are banks actually trying to color the average consumer’s opinion about the crypto market by placing “consumer protections” against purchasing crypto-currency?

Rules Should Come From Government, Not Banks

Regardless of what motivation you attribute to the new restrictions on using credit cards from these major banks to purchase cryptocurrency, you probably agree that getting your hand slapped by your bank is not a pleasant experience.

Instead of the institutions that have custody of our money, the proper institutions to create rules and then have public debates about them is government.  Specifically, our elected officials should be the ones to determine if any consumer protections need to be put in place.  That way, the topic is open for debate to all parties, and all viewpoints have their day in the sun.

After all, we elected some of these people, right?

Senate Banking Committee Hearing on Cryptocurrency

Here in the United States, a congressional hearing took place regarding the contemporary impact of cryptocurrencies.  Both Securities and Exchange Commission (SEC) Chairman Jay Clayton and Commodity Futures Trading Commission (CFTC) Chairman Christopher Giancarlo provided testimony about new regulations planned for cryptocurrency. 9 10

Throughout the testimony, it was evident that the SEC was focused on ICOs that should really be considered securities.  Chairman Clayton indicated that enforcement agencies would not be fooled by semantics in labeling.  He indicated:

SEC Chairman Jay Clayton SEC Chairman Jay Clayton

“I believe every ICO I’ve seen is a security… You can call it a coin but if it functions as a security, it is a security…,” Clayton said. “Those who engage in semantic gymnastics or elaborate re-structuring exercises in an effort to avoid having a coin be a security are squarely in the crosshairs of our enforcement provision.”
And while Clayton cast aspersions about the usefulness of cryptocurrency, CFTC Chairman Giancarlo seemed to strike a much more positive tone:

CFTC Chairman Giancarlo CFTC Chairman Giancarlo

“The CFTC can now obtain trading data and analyze it for fraud and manipulation...

…With Bitcoin futures we’re now having visibility into underlying markets and spot markets that we would not otherwise have.”

The good vibes in the hearing didn’t stop there.  One senator pointed out the inconsistency in allowing Bitcoin futures trading while not allowing a Bitcoin ETF (Exchange-traded fund).  Senator Mark Warner provided a very positive sentiment:

Senator Mark Warner Senator Mark Warner

“The potential writ large amongst crypto assets and the underlying blockchain could be as transformational as wireless was years ago. I think we’re going to need a much more coordinated effort.”
These statements from three different sources can be analyzed to arrived at the most highly-probable outcome when it comes to legislation and enforcement.

What Does The Hearing Mean?

What we can deduce from these statements is that ICOs are going to be considered securities, and as such, will fall under the umbrella of the SEC.  It’s also clear that the SEC isn’t going to let semantics or labels prevent enforcement; this means that any nonprofit agency considering an initial coin offering should be cautious, as he indicated that every one that he’s seen is a securities offering.

This will be a dent in the ICO industry, and perhaps will even obstruct it or force it to move outside the United States.  No matter the outcome, this testimony should be considered a setback for ICOs, as they will need to follow the same securities trading rules as stocks.

The comment from Senator Mark Warner was great news; it called out the inconsistent treatment of Bitcoin by Wall Street, and heralded an opportunity to revisit an ETF listing for Bitcoin… and perhaps other cryptocurrencies.

This part – the Bitcoin ETF – should be received positively by the market, since the first attempt at a Bitcoin ETF failed ostensibly due to “unregulated markets” for Bitcoin.  How that’s changed or how that point will be addressed in any subsequent application for an ETF listing is still in doubt.

In any case, the hearing offered only pleasant surprises, and should be received well by the market.

Other Countries

In September of last year, the crypto markets were choppy even after the first part of the Segwit activation.  The entire market had been starting to calm down from its anxiety over Bitcoin’s code governance drama, but then in the first week of September China announced that they would ban ICOs.11 This didn’t go over well with crypto investors, and the markets whip-sawed back and forth as clarification was sought.

Eventually, China provided some clarification and it was discovered that while ICOs might face stringent restrictions or even an outright ban, crypto trading could continue unabated for over-the-counter trades. 12  Once guidance was given regarding some of these specific points, the market rebounded and made its peace with the new regulations.

And that’s what we expect; investors don’t like unknowns.

The same uncertainty that gripped the market when China handed down new rules and guidance played out again recently when South Korea and India addressed cryptocurrency trading.

South Korea

Regulation isn’t all bad for crypto.  If you have any doubt about what positive legislation can result in, look no further than South Korea’s Foreign Exchange Transactions Act, which created an official pathway to facilitate companies being approved by the Financial Supervisory Service (FSS).  This means that cryptocurrency can be used as a SouthKoreanFlagremittance method. 13 14

This has led to an enormous growth in the crypto industry in South Korea.  Exchanges in South Korea essentially operate not only as exchanges, but also as bank accounts, and can directly facilitate the transfer into fiat from the South Korean Won, and vice versa. 15

As recently as December, rumors started to arise that South Korea was growing concerned about its role in fueling speculative investment in the crypto markets.  Due to the rising popularity of cryptocurrency exchanges and the problems that go along with an inundation of capital, South Korea revisited the issue of cryptocurrency regulation in late December of last year.  As a result, it enacted several measures.

Results of South Korea’s New Regulations
The decisions that South Korea made regarding crypto rules fall well short of any ‘ban.’  In fact, most of these measures were met with collective shrugs by the crypto community – each seemed more like a common-sense measure than an impediment to true growth:
  • Exchange tax implemented on all South Korean-based exchanges (24.2 %)
  • Ban on foreigners opening new cryptocurrency accounts
  • Ban on minors opening new cryptocurrency accounts
  • All exchanges must tighten KYC and AML procedures


India’s guidance and policy for cryptocurrency is not a paper tiger.  Unlike South Korea’s clarifications, India views cryptocurrencies with greater skepticism.  Arun Jaitely, India’s Finance Minister, gave a stern opinion in a speech on February 1st: 16
“The government does not consider cryptocurrencies as legal tender or coin and will take all measures to eliminate the use of these crypto-assets in financing illegitimate activities or as part of the payments system”
The interesting part about India’s stance is its strong language.  In both of the other cases where we’ve seen countries grapple with cryptocurrency and how to regulate it without impeding innovation, a balanced view has prevailed, where simple recognition of Flag_Indiacryptocurrency’s role as a new method of financing has been achieved.  In this case, the finance minister’s statement feels almost like a “head in the sand” type of statement, where the actual complexities of blockchain technology have been swept aside in favor of a sound bite.

Due to the late-breaking nature of India’s rules, we’ll have to see exactly what concrete actions are taken; regardless, India will have a tough time stopping their citizens from investing using simple Internet-based technology.  The only difference now is that they won’t be able to use an exchange based in India if the Finance Minister gets his way.

My hope is that India seeks a more accurate understanding of the subtleties of the technology before following through on any such heavy-handed policies.  A complete ban would be an irritating obstacle for innovations such as XRP and others.

End of the Wild West of Crypto

Late one night in the summer of 2013, I remember staring at a monitor – after midnight – reading posts about cryptocurrency and trying to research new coins that were being created by different individuals.  Every day I’d see a new coin advertised on the Internet, or desperately pitched by an anonymous avatar on Reddit.  Occasionally, I’d be surprised to see people on Craig’s List or even Ebay try to offload crypto at late_night_researchmarked-up prices.

It was the Wild West back then.

Anything went.  Dark web marketplaces flourished, along with Internet gambling of crypto.  The only rule was that there were no rules.  I remember being astonished at what was developing in front of me; having a background in technology helped me understand the significance of what I was seeing.  I knew immediately that there was no putting the “blockchain genie” back in the bottle.

I was in awe at what a few programmers and cryptographers had created; an entire new industry.  Borders didn’t matter.  Cryptocurrency doesn’t care about laws, either; it just exists with the decentralized cooperation of individuals and organizations.  The question percolating in my caffeine-fueled brain back then, while the monitor's blue light cascaded over my retinas in the darkness was “how will the governments stop this?”  Now, five years later, I think I have my answer:

They can’t. ripple-symbol3