Regulators threaten Coinbase and cryptocurrency innovation – Reason.com
The cryptocurrency market continues to grow across the world as new products make it easier to invest, sell, and trade with cryptocurrency. But without a change in the mindset of regulators, many of these products will fail to reach consumers.
Look no further than Coinbase, which last week plans to offer its new loan product due to threats of legal action by the Securities and Exchange Commission (SEC). The “Loan” program allowed users to earn interest on their holdings if they held specific types of cryptocurrency. The SEC’s rationale for the lawsuit is that the loan program violated long-standing security rules, even though it is more akin to a traditional savings account.
It is sad. Not only does this block financial technological innovation, but it also prevents consumers from benefiting from high interest rates during times of rising inflation. There is a better way to deal with innovative financial products than with threatening lawsuits. They’re called regulatory sandboxes, and the SEC should take inspiration from forward-thinking states and adopt one.
A sandbox is an alternative regulatory structure for dealing with products that present regulatory uncertainty. Companies that have such products can request to test their products for a set period of time as long as they still comply with consumer protection standards. If they are accepted in the sandbox, they can offer it to consumers. At the end of the testing period, they either comply with existing regulatory standards or work with regulators to modify those standards based on their experience in the sandbox.
The first regulatory sandbox has been deployed in the UK in 2014. It has 700 participants since 2015 and around 80% of those businesses still exist, a much higher rate than businesses without a sandbox. Firms in sandboxes were also more likely to to collect money, raised more venture capital funds and went to market faster.
There are now 70 different sandbox programs in 57 jurisdictions and countries. Arizona was the first state to adopt a sandbox in 2018, and the Consumer Financial Protection Bureau (CFPB) recently updated its sandbox program at the federal level. The most common type of sandbox in the world is in financial technology. There are 27 companies in financial technology sandboxes in Arizona, Hawaii, and West Virginia, with the CFPB sandbox giving regulatory relief to 10 different financial products.
One of the coolest companies to be able to participate in a sandbox is BlockFi. Like the product Coinbase offered, BlockFi Offers Hawaiian Sandbox Interest Bearing Cryptocurrency Accounts. But BlockFi has also had issues with attorneys general in other states for the same product. New Jersey, Vermont, Alabama, Texas and Kentucky ordered cease and desist or show cause orders to the company on its interest bearing product.
It is likely that these attorneys general and financial regulators did not have a regulatory structure to deal with this new type of financial product. Rather than allowing innovation without authorization, they chose to shut down products entirely due to a non-zero risk of harm to the consumer. As the SEC tries to fight the cryptocurrency industry, it has almost certainly made the same calculation.
But that doesn’t have to be the case. The CFPB and states have shown that sandboxes can handle new financial products by making regulators and businesses work together to spur innovation, while protecting consumers. The revamped CFPB sandbox issued eight letters of no action in 2020, giving companies confidence that they can deliver their new products. Some products include low-value loans that offer lower rates than payday loans, allowing earned wages to be made available before they are paid, and automatic savings programs for employees. These programs all have benefits for the consumer; they just needed regulatory certainty to get started.
The cryptocurrency industry has rapidly grown from a little-known technology 10 years ago to an estimated $ 2,000 billion market, with hundreds of companies around the world providing services to consumers. About 46 million Americans own bitcoin (to say nothing of alternative cryptocurrencies). The recent recognition by El Salvador of Bitcoin as legal tender and other reforms have been controversial, but they show a growing acceptance of cryptocurrency. Whether the SEC wants to admit it or not, the changes to our financial system are already here.
What is currently happening with Coinbase will certainly happen to more fintech companies in the future. Threatening to sue every company with a new cryptocurrency product is not only a misuse of taxpayer resources, but it is also causing the United States to fall behind on blockchain and cryptocurrency technology.
The SEC should follow the lead of states and the CFPB and adopt a regulatory sandbox for cryptocurrency. In the meantime, states should continue to lead the way and bring much needed regulatory federalism to fintech and other industries.