Coinbase and SEC on collision course for ‘existential’ clash over crypto industry

Coinbase debuted on the US stock market on April 14, 2021 – the same day US senators confirmed Gary Gensler as head of the Securities and Exchange Commission (SEC), the nation’s top market regulator.

Gensler, who has called the crypto industry a “wild west” riddled with fraud, is now embroiled in a battle with the world’s largest publicly traded crypto firm over a substantive debate: whether digital assets are contracts investments similar to stocks or bonds that should be regulated by the SEC.

Friction between crypto proponents and the regulator has grown under Gensler’s leadership, with both sides becoming increasingly vocal in their criticisms.

The escalating tension exploded into public view on Wednesday when Coinbase CEO Brian Armstrong and the company’s chief legal officer Paul Grewal posted online that the company had been notified that SEC staff intended to recommend enforcement action, adding that Coinbase was willing to fight it in court.

Coinbase shares have fallen 12% since Wednesday’s disclosure.

Spokespersons for the SEC and Coinbase declined to comment. The pair have been discussing regulation and the agency’s investigation of Coinbase for months, according to two sources.

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In July, the company disclosed an SEC investigation into its asset listing processes, staking programs and yield-generating products. Talks between the SEC and Coinbase have stalled in recent weeks, with one source saying the two sides have “greater distance.” The SEC appears to be attacking all of Coinbase’s business as operating outside US law, the source said.

The crypto industry believes that it operates in a regulatory gray area not governed by existing US securities laws – and that new legislation is needed to regulate the industry.

“We continue to believe that rulemaking and legislation are better tools for defining the law for our industry than enforcement action,” Coinbase’s Grewal said on Wednesday. “But if necessary, we welcome the opportunity for Coinbase and the broader crypto community to seek clarification in court.”

Prior to Gensler’s arrival, the SEC engaged in targeted enforcement, but the Democratic chairman focused on the crypto platforms themselves. The SEC’s crackdown on crypto accelerated after the November collapse of Sam Bankman-Fried’s FTX exchange.

Gensler raised questions about whether crypto firms rely on a fundamentally illegal business model, adding that crypto intermediaries offer a range of functions, such as operating as an exchange, broker, clearing agent and custodian, which should be regulated by the SEC.

“It’s probably existential for Coinbase,” said Vanderbilt University finance professor Joshua White. “It may be existential for the industry, at least in the United States”

The SEC issued an investor alert on Thursday warning that firms offering securities of crypto assets may not comply with US laws.

Kristin Smith, CEO of the Blockchain Association, expressed the crypto industry association’s support for Coinbase, noting, “The SEC doesn’t make the law – they just make claims, which ultimately need to be tested. before the courts.”

The SEC has gone to court against numerous crypto companies, including a case against San Francisco-based crypto and cross-border payments firm Ripple Labs Inc which some say could clarify when a digital asset is considered a security.

But the debate between the SEC and Coinbase over an “unspecified portion” of its listed digital assets sets the stage for a larger and potentially pivotal legal battle. The Coinbase website lists over 150 crypto assets to trade.

Coinbase flagged potential regulatory risks when it applied for a 2021 IPO, and noted Wednesday that its staking and exchange services have been “largely unchanged” since then.

“There couldn’t be a more significant development for crypto markets and crypto investors,” said Philip Moustakis, former SEC attorney and partner at Seward & Kissel LLP in New York.

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