Footballs & Carpenters – How Commissioner Peirce Reinvigorated An Industry
February 28, 2020
This article was originally published in the “Off The Chain” newsletter. Subscribe to the newsletter here.
By Amy Davine Kim
One of the most difficult questions plaguing the digital asset industry is that of when is a digital asset a security, and when is it not? What are the rules? In some cases, this is obvious – for example, a digital representation of a physical equity or debt is itself a security. But in others, more consideration is needed. For example, when an investment contract is formed between a digital asset (token) provider and a buyer, and the buyer then receives the token, has been the subject of much discussion. In fact, the question is so thorny that the SEC has issued at least 17 pieces of guidance, and taken 48 enforcement actions, of which 26 have gone to court.
The questions surrounding this space are creating a chill in the United States for blockchain development projects. Having the perspective of our more than 220 members and almost six years of experience representing our industry, we can see a clear shift toward projects overseas. Anywhere overseas. And businesses are not just looking for friendlier regulatory regimes. They are looking for clear rules of the road, with goal posts and yard lines well-marked, points delineated for certain accomplishments, penalties spelled out for clearly defined violations. Imagine if you were a football player, and the referees may or may not acknowledge your touchdown or call a penalty. Would you reconsider your playbook? Would you play the game at all?
The Chamber has long taken the position that violations of law must incur penalties. Orderly application of laws creates a fair marketplace. It seems, however, that we have fully embraced this role, without the corresponding consideration of how to support innovative technologies to create new and better networks.
That’s why Commissioner Peirce’s safe harbor proposal is important. In it we see the Commissioner attempt to create a period of time in which developing companies can grow a network that is never intended to be a security or operate as one. Certain consumer protection principles must be met to comply with the requirements, and the platform must meet “Network Maturity” within three years to receive the full benefit of the safe harbor and, presumably, not be considered a security at the other end.
Notably, Network Maturity is reached when a platform is decentralized or functional. This is important because it demonstrates an evolution from Director Hinman’s speech, Digital Asset Transactions: When Howey Met Gary (Plastic) in June 2018, in which he determined that certain tokens, such as bitcoin and ether, have become so decentralized that they are no longer considered securities (if they ever were). Decentralization, if we are able to define it sufficiently, would eliminate the presence of one factor in the Howey test, reliance on the efforts of others. However, the safe harbor also allows for another option, functionality. These do not need to be achieved together, but are alternatives, either of which defeats the Howey analysis because, at functionality, the item has become a consumable good.
The achievement is also notable because it no longer forces companies into one business model – that of decentralization. While decentralization is one of the true transformations that Bitcoin and other protocols offer (allowing those who do not know or necessarily trust each other to interact), requiring this element as the only way to avoid the application of the securities laws forces businesses into one type of business model. Why should founders be forced to create something that must be released to a broad community and step back from the project, relying on smart contracts and a network of validators to continue to function? While Bitcoin and others like it are extraordinary, we have seen some projects that would greatly benefit from the founders’ continued involvement to enhance or evolve the protocol’s functionality. Businesses are not static; they adapt to changing environments, competition, customer needs, and demand. We should allow for the possibility of this dynamic environment for blockchain platforms as well.
Commissioner Peirce joined the Chamber for a private meeting last week to detail her views on this proposal and take questions from our members directly. While many of our members are supportive, some asked questions probing certain points. In my view, receiving critical views can sometimes be even more productive – causing creators to think carefully about proposals and enhance them to address all angles. While we have recommendations to help enhance Commissioner Peirce’s proposal, I appreciate her effort to develop such an innovative idea and create clear rules for players to follow.
One of my favorite quotes is by Sam Rayburn (for whom the Rayburn Building in the U.S. Capitol is named): “Any jackass can kick down a barn, but it takes a carpenter to build one.” Commissioner Peirce has not only proven herself an independent voice in the community, but also shown she is a budding carpenter and, as comments come in, a busy referee.
Want to hear directly from Commissioner Peirce? Join Pomp and CryptoMom on March 11-12 at the DC Blockchain Summit at Georgetown University. Use the code – POMP – to save 15% off. Register today here.