A brief guide to the politics behind the Binance and Coinbase SEC cases.

I’m sure you’ve read, by now, about the Securities and Exchange Commission (SEC) lawsuits against Binance and Coinbase. Since they were filed last week, many Objective Journalists have covered them. I would like to get Subjective because I think there’s some interesting politicking going on here: a regulatory land grab for cryptocurrency. Directly or indirectly, these lawsuits will determine how it’s parceled out.

Any reasonably close observation of crypto suggests a lot of petty infighting about which government agencies are in charge of it. This is largely based on a simple question: are crypto tokens securities, commodities, or some secret third thing?

So far, the loudest rumbles have come from the SEC — which, unsurprisingly, considers most of them securities. The agency has already plonked some cards on the table with cases like the insider trading claims at Coinbase. With these two new lawsuits, it’s putting down the rest of them and reaching for the pot.

Because I love this sort of thing, I’ve put together my notes to what I think is happening:

• The Binance case is the most fun. It also suggests there might be a criminal case on the way.
• The Coinbase case is probably more important for setting regulatory policy.
• These two big cases threaten to upend just about everything in cryptocurrency.

These cases are the natural outcome of statements the SEC has been making for years about tokens, according to Joshua Klayman, who leads the law firm Linklaters’ digital asset practice. “I see this as a massive push, a very unsubtle move by the chairman Gensler and the SEC,” Klayman said in an interview with CoinDesk. “They’ve been trying to nudge the industry for a long time to change its practices, and now it seems they moved from nudging to a pretty swift kick, or, you might say, a one-two punch.”

The timing here is significant, and it is the first of several small but important things that are somewhat outside the scope of the actual text of the lawsuits. The crypto industry is correct to say that there are politics afoot.

The Friday before Binance dropped, Rep. Patrick McHenry and Rep. Glenn Thompson introduced a bill for regulating digital assets. The plan would determine which tokens are securities and which are commodities and give tokens that started as securities a path for becoming commodities if the blockchain network is sufficiently decentralized. That puts a lot of power in the hands of the Commodity Futures Trading Commission. That’s on top of its existing cases against FTX and Binance that mostly involve derivatives, which the agency plainly already regulates.

The CFTC has been the preferred regulator for certain segments of the crypto community, including the disgraced CEO of FTX, Sam Bankman-Fried. He even hired two former CFTC commissioners and met with current CFTC Chair Rostin Behnam several times. Bankman-Fried’s fall from grace was arguably damaging both for the legislation he supported and the CFTC itself.

Bankman-Fried reportedly also met with SEC Chair Gary Gensler, and Gensler was supposedly less impressed — he’s said he told FTX representatives to “take their slide deck down” on their second presentation slide. But there’s still plenty of embarrassment to go around. There are persistent questions about how many times Gensler met with Bankman-Fried. Additionally, McHenry has been asking questions about Gensler’s timing in the Bankman-Fried arrest and generally pestering him about his approach to cryptocurrency.

Regulatory agencies, like everyone else in DC, ride the waves of politics. So there is one other significant bit of timing: the SEC’s Coinbase suit became public the same day the company’s chief legal officer, Paul Grewal, was scheduled to testify before House Committee on Agriculture about digital markets. I don’t know if the House Republicans got wind of the SEC cases or if the SEC filed its business as quickly as possible in response to these events. However it happened, I think it’s unlikely to be a coincidence.

“These are two of the biggest enforcement actions in the space ever,” says Josh White, a former financial economist for the SEC who now teaches at Vanderbilt University. “And they’re sandwiched between the bill and the testimony.”

There’s another reason to see all this as infighting: it’s business as usual. The Secret Service handles anti-counterfeiting efforts around the US dollar, for instance, because an entrepreneurial individual named William P. Wood established an anti-counterfeiting force without Congressional approval while running the Old Capitol Prison. Wood was then sworn in as the head of the Secret Service, formalizing the job he’d already been doing.

The cases themselves are about the rules governing cryptocurrency exchanges. But outside of the cases, we are seeing a fight about who gets to play sheriff in the crypto world. And the cowboys aren’t just in the cryptocurrency business; some of them have law degrees and work for the US government.

Binance

In politics, perception can create reality. I suspect that’s why Binance’s lawsuit was filed first, despite being more complicated than the Coinbase case. It sets the tone: “We are operating as a fking unlicensed securities exchange in the USA bro.” That’s Binance’s chief compliance officer, Samuel Lim. In writing.

It does suggest an industry knowingly operating outside the bounds of law, doesn’t it? Other Lim bangers from the earlier CFTC case against Binance include “Like come on. They are here for crime” and “On the surface we cannot be seen to have US users but in reality we should get them through other creative means.” The CFTC case charges Binance, Changpeng Zhao, and Lim with operating an unlicensed derivatives exchange, but it also hints at possible criminal conduct

Similarly, the SEC’s Binance complaint reads like a possible criminal case with some securities violations stapled to it. Some things are familiar from the CFTC case — steering big US customers to use VPNs so they can use Binance, for instance — and some from reporting from Forbes. Binance.US was effectively a front for “the mothership” — as Catherine Coley (aka BAM CEO A) put it.

There are bonus allegations of improper commingling of customer money, a bizarre purchase of an $11 million yacht, and wash trading — which, in the case of one crypto asset, allegedly accounted for 99 percent of the trading volume in the first hour it was available.

There is also an org chart — never a good sign. The org chart suggests that Zhao, CEO of Binance, directly controls several entities that do business with each other. Two of those, Sigma Chain and Merit Peak, were allegedly used to mix customer funds and engage in “manipulative trading.” Sigma Chain allegedly engaged in market manipulation. These allegations are unavoidably FTX-like.

One reason the SEC may have gotten the dirt for this org chart is that Binance made transactions at two banks now controlled by the Feds. Apparently, Binance ran something like $70 billion (!) through Silvergate and Signature Bank. Some of that money was funneled through to an entity controlled by Paxos, which issued BUSD, a stablecoin that the SEC alleges is also a security. If I were Paxos’ lawyers, I’d be limbering up.

Actually, let’s pause on the BUSD thing. The entire point of a stablecoin is that its price doesn’t change. It’s a token that stands in for the dollar. But in the complaint, the SEC claims that buying BUSD is investing “in a common enterprise with each other and with Binance — the BUSD ecosystem through which BUSD holders and Binance could and did earn returns through various forms of capital deployment.” There were some alleged profit-generating schemes associated with BUSD, which Protos deals with in detail — but if these coins are classed as securities, it does make stablecoins seem a little riskier than they used to be, doesn’t it?

The SEC case strongly suggests these people are pirates, and the SEC is more than justified in cracking down. The agency even requested a temporary restraining order that would pointedly let Binance.US customers withdraw their money but ban Zhao from touching it — combined with the yacht thing, it implies Zhao might attempt a more competent version of Do Kwon’s recent adventures as a fugitive. In response, Binance.US has said it will become a crypto-only exchange.

The judge in the case, Amy Berman Jackson, urged the SEC and Binance to make a deal instead of issuing the temporary restraining order. Some of the confusion about whether crypto counted as a security or not spilled over into the court, where Jackson asked the Binance.US attorney if BNB was a commodity. According to CoinDesk, the lawyer replied, “It is a crypto asset.”

One does not typically stop piracy with lawsuits. The CFTC and SEC’s civil cases form the clear outline of a criminal case. We also know that Binance has been in the crosshairs of the Justice Department for some time. Binance lawyers have gotten around with their plea deal discussions, Reuters reported last December. Binance is reportedly under investigation for money laundering and sanctions evasion. The CFTC case accuses Zhao of the kind of compliance failures that make money laundering possible.

Binance’s response doesn’t mention the more damning allegations directly, saying only, “All user assets on Binance and Binance affiliate platforms, including Binance.US, are safe and secure, and we will vigorously defend against any allegations to the contrary.” Instead, it’s responding as though it is a paragon of propriety. “Most recently, we have engaged in extensive good-faith discussions to reach a negotiated settlement to resolve their investigations,” the response begins. These people should go into comedy; their talents are wasted in finance.

“The SEC is certainly relishing in the Binance suit and the various comically damning quotes,” crypto lawyer Erich Dylus said in an email. He expects the DOJ will follow at some point.

I agree. At this point, the Justice Department looks incompetent if it does not pursue Binance, which is not something the Justice Department generally enjoys. Should a DOJ case drop — and at this point, it’s odd that it hasn’t — it would then take precedence over the CFTC and SEC proceedings.

The SEC may be happy to see Binance kicked to a criminal court. Binance and Coinbase are huge cases that would demand heavy department resources, points out Yesha Yadav, a law professor at Vanderbilt. Crypto is only a tiny sliver of the SEC’s oversight responsibilities. There’s also one more embarrassing detail: Binance alleges that SEC Chair Gensler offered to serve as an advisor to the company in 2019.

Coinbase

As a practical matter of using limited resources, I think the SEC can really only take one case here, and it’s Coinbase. Coinbase is absolutely going to fight; the suit’s an existential threat.

The SEC’s complaint against Coinbase is — for a crypto lawsuit — bloodless. There are no group chats called “wirefraud” or even any profanity. Imagine the lawyers in their horrible cubicles, sweating into their Brylcreem, as they lay out the case that yes, these tokens are securities, and yes, Coinbase listed them anyway.

Coinbase has consistently argued that securities laws can’t apply to crypto because crypto didn’t exist when they were written. I’m not a lawyer, and I’m not equipped to evaluate the argument. However, Bloomberg columnist Matt Levine is. “A decent rule of thumb is that all cryptocurrency exchanges are doing crimes, and if you’re lucky your exchange is doing only process crimes,” he wrote in March. More recently, he added: “The view of the US Securities and Exchange Commission, at least, is that every crypto exchange in the US is illegal.” This case will put that view to the test.

The Coinbase perspective here is that they simply want to be good boys, and the mean old SEC won’t tell them how. Remember, Coinbase sued the SEC first, in what Grewel termed a “narrow action” meant to give the company regulatory clarity. That case is ongoing, and most recently, the SEC has replied by saying, “The Commission has not decided what action to take on Coinbase’s rulemaking petition.”

It goes on to say, “As explained in the Commission’s response, agencies regularly enforce existing, applicable law while simultaneously considering whether there are reasonable policy justifications for modifying those regulations going forward.”

Coinbase is more sympathetic than Binance. “Coinbase spent serious resources and capital meeting with the SEC and even suggesting prospective guidance for their review, only to be ghosted” and sued, said Dylus.

Because Coinbase is a US public company, the SEC had to send a “no surprises” letter called a Wells notice that informs the target of an investigation that the SEC is thinking of bringing a suit. Coinbase’s response to the Wells notice is a preview of its defense. First of all, the SEC approved its disclosures when it went public and ought to be consistent For The Sake of Our Democracy And Upholding Our Trusted Institutions; second, Coinbase doesn’t list securities.

Coinbase’s position, as presented by its CEO Brian Armstrong, is that the SEC’s tone began to change last year — can’t think what might have led to that. But it’s maybe worth noticing that the SEC overshadowed what appears to be a coordinated action from 10 states that also allege Coinbase is selling unregistered securities. This more narrowly targets staking programs, but if I were an Ethereum booster, I’d be paying close attention; moving to proof-of-stake may be better for the environment, but does it shift the way that Ethereum gets regulated?

Also outside the bounds of the legal arguments is the person who is making the call. The SEC’s Coinbase case is being argued before Jennifer H. Rearden, who placed a hold on Voyager’s sale to Binance.US in March; Binance.US scuttled the deal shortly afterward. She is not the most sympathetic judge Coinbase could have drawn.

The SEC’s current stance appears to be that many, if not all, cryptocurrencies are securities. If that’s true, no new law needs to be made for it to win in court. It’s a little weird that the SEC didn’t come to this conclusion sometime sooner than now, but that’s not really my business.

Coinbase can win outside court. The SEC suit will probably take years. The political process is happening in parallel to the court cases, says Moish Peltz of the law firm Falcon, Rappaport & Berkman. While the Coinbase case drags on, Congress could pass a law that renders it irrelevant — which, I’d imagine, is the ideal outcome for most of the crypto industry. The CFTC seems to be crypto’s preferred regulatory agency in both the McHenry bill and a previous bipartisan bill, so I’d assume that future bills would make the same move.

Splash damage

The suits and players are big enough that there’s a lot of collateral damage already taking place. Crypto.com is quitting its institutional business. Whether we’ll see suits against, say, Gemini and Kraken remains an open question. Robinhood has stopped listing some tokens named in the suits.

If the SEC wins, a lot of cryptocurrencies are unlicensed securities. Molly White, the unavoidable sportscaster of crypto, noticed that between the Binance and Coinbase lawsuits, that’s 22 of the top 100 cryptocurrencies by market cap — though, of course, there are questions about how real that market cap actually is.

Naturally, if your token’s been deemed a security, you should expect yourself to be in the crosshairs. Does the SEC have the resources to go after all these tokens? Maybe not, but I expect the crypto lawyers to suddenly become busy all the same.

One strategy the industry has adopted is “utility tokens,” which are designed to do specific things in the ecosystem. One of the tokens named in the SEC case as a security, MANA, is the utility token for Decentraland, which is used to buy and sell virtual assets; it also lets holders vote on governance proposals. If so-called utility tokens are actually securities, the wider cryptocurrency universe — and particularly Web3 gaming — has a problem.

“Is a utility token even a thing?” asks Peltz. “It seems like the SEC is saying everything is a security.”

More immediately, there’s been general carnage in the crypto market. Bitcoin liquidity, already shakier following the collapse of two major crypto banks, has gotten worse. BNB token, one of the Schrodinger’s securities named in the Binance suit, is down about 20 percent in response to the suit.

As for the looming possibility of the DOJ case: Binance is the biggest player in crypto right now. If Zhao goes down, goes on the run, or is otherwise In Trouble, that’s trouble for the whole market!

As these two cases currently stand, I’m not sure this is enough to kill off the entire crypto industry. There are a lot of true believers out there, and as long as they keep clapping, Tinkerbell lives. But when I explain my job in any civilian setting (e.g., making friends in yoga class) in 2023, people seem to assume crypto is inherently shady — kind of like Napster. Not a good omen for the trajectory of Number.