An updated Framework for Securities Regulation of Cryptocurrencies
The latest version of this groundbreaking report accounts for major changes in the landscape over the past year
Today we release an updated version of our Framework for Securities Regulation of Cryptocurrencies. Our original framework was published back in January of 2016, and it was based on a presentation we’d been making to policymakers, including the SEC, as early as Summer of 2015. At that point, Ethereum Mainnet had not yet launched, the total value of all cryptocurrency in circulation was only $4.5 Billion (almost all of it Bitcoin), the mining reward was still 25 bitcoins, and Coin Center was a scrapy new non-profit with under a year of operating experience under its belt.
In case you’re curious, here is that original presentation. It’s not only interesting as a three-year old piece of public policy memorabilia; it has actually aged pretty well and remains an effective visual explanation of cryptocurrencies, forks and derivative projects, and securities laws.
The original report was a significantly more detailed (and footnoted) text-only version of that presentation. It has also aged surprisingly well, but by 2018 it was in need of some updates. Here are some things that didn’t need to change in the new version:
- Identifying the Howey case as the relevant legal standard and using it and associated case law to build a rubric for good policy.
- Identifying Bitcoin and Ether as poor candidates for treatment as securities because of their decentralization and their use as computing platforms.
- Characterizing the differences between various consensus methods: proof-of-work, proof-of-stake, permissioned distributed ledgers, and hybrid systems.
- Identifying scams like Paycoin and detailing why and how they cloak themselves in a hollow rhetoric of technology and marketing promises.
- Identifying pre-sales as particularly fraught, because of potential mis-aligned incentives and information asymmetries between purchasers and developers.
Here’s what definitely needed to change in the new version:
- Using the term “alt-coin” to refer to the totality of derivative projects post-bitcoin. “Token” is what we’ve gone with now. I’m not sure it's much better, although “alt-coin” certainly has fallen out of usage and also seems to be a bit pejorative.
- A lengthy discussion of “colored coins,” “meta-coins,” and “sidechains.” Counterparty, our “meta-coin” example, failed to see much use, and systems like Ethereum have really stolen the show as far as tools that allow users to make their own tokens on top of the base network.
- A discussion about forks that predated Ethereum Classic and Bitcoin Cash. This was easy to update; all of the mechanisms of a contentious hard fork were explained in the original version. Now we have two great examples to cite showing these principles in practice.
- An over-complicated rubric. The original report discussed four software variables (scarcity, consensus, distribution, and permissions) and three community variables (transparency, decentralization, and profit-development linkage) in order to highlight how various token-projects might differ in function, organization, and risk to investors. The new version condenses that down to three things: decentralization (which includes consensus, scarcity, transparency, and profit-development linkage), functionality, and distribution. This, we think, still keeps the heart of our original analysis but puts it in simpler terms. It also mirrors the very accurate framing of the relevant inquiry that we’ve since heard from William Hinman, SEC Director of the Division of Corporation Finance: putting aside fundraising activities (distribution) is the token functional and decentralized?
- The new version also spends more time explaining token functionality and distribution. When we wrote the initial report, pre-sales were still a rare occurrence and the ICO boom had yet to hit. (Oh for the salad days of a simple alt-coin launch!) Also, token-powered computing systems with intended uses beyond electronic cash were still mostly hypothetical. I expect we’ll need to continue updating these sections as we see if token sales turn out to be more of a flash-in-the-pan or a new and permanent fixture, and as we see whether non-financial uses for blockchain technology do, in fact, catch on with mainstream users.
Another thing that didn’t change was the length of the report. At over 60 pages and almost 200 footnotes, it is not a light read. However, if you are looking for the most comprehensive look at token project risk factors and how we can achieve good regulatory policies with respect to token projects and securities law, then this is it. Find a comfy chair, some Florida orange juice, and enjoy.