The recent Silvergate, Silicon Valley Bank and Signature Bank collapses rattled the U.S. financial system and put the word “regulation” at the forefront of everyone’s minds. All three banks were deeply intertwined with the crypto ecosystem, providing the fiat on-ramps these institutions needed to serve retail investors. In the wake of the FTX fallout, confidence in the digital asset ecosystem soured, causing capital to dry up. As a result, many of the Web3 institutions that banked with Silvergate, SVB and Signature raced to withdraw their fiat deposits—which, long story short, led to bank runs and institutional failures.
The government’s decision to insure all SVB assets beyond the $250,000 limit has shakily improved confidence in the banking system, but it’s only really a Band-Aid to stop the crisis from escalating further and doesn’t address the root of the problem. In order for DeFi and traditional finance to continue to coexist, it is critical that the government install protections through regulatory policy to prevent scenarios such as this one from happening in the first place—especially given that 20% of Americans own crypto.
While some may see greater regulation as restrictive or introducing more complicated processes to the mix, the reality is that most players in the space—including exchanges, Web3 startups, venture capital funds and traditional financial institutions—have been impatiently awaiting guidelines and guardrails. Regulation will provide more clarity and in theory, further propel digital asset adoption into day-to-day transactions, through either point-of-sale transactions, custody or settlements.
Despite having announced the regulation of emerging technologies and digital assets as one of its 2023 priorities, the SEC has yet to demonstrate its ability or willingness to lay out clearly defined regulations preemptively. Instead, it has relied on regulation through enforcement, as evidenced by recent actions against Kraken, Coinbase and Ripple.
The lack of regulatory structure also threatens to push the crypto industry offshore, putting the U.S. at a disadvantage compared to countries like the EU and Japan, which are establishing clear rules for digital assets and blockchain technology. This is particularly true for larger corporations, which are under greater scrutiny by regulatory bodies and need to make sure they are tightly compliant with regulation.
Opponents of regulation argue that it stifles innovation by forcing companies to comply with complex rules. However, if the U.S. fails to provide clear guidelines and continues its retroactive enforcement, it will still lose ground in the global innovation race. The key is to strike a balance between providing clarity and allowing for innovation.
One challenge in achieving this balance is the multitude of regulatory bodies in the U.S., including the SEC, the CFTC and FinCEN, as well as state-level regulations. These U.S. agencies can’t seem to agree on whether or not cryptocurrencies are commodities or securities, creating confusion and uncertainty. It’s up to Congress to streamline this process, potentially drawing inspiration from countries like Japan, where a single Financial Services Agency regulates the entire crypto sector. Japan’s FSA, for example, requires exchanges to segregate customer and corporate assets, ensuring that many Japanese customers of FTX will have their funds returned.
The EU’s MiCA legislation is another strong example of a comprehensive regulatory framework that provides more clarity and predictability for crypto companies operating in the EU. Overall, the new framework has many experts believing it will bring crypto businesses over to the EU, attract global users to EU-based crypto companies and ultimately spur innovation in EU markets.
Among other guidelines, MiCA provides clearer rules around stablecoins, requiring issuers to prove they have sufficient reserves to back them. Fortunately, the U.S. House Financial Services Committee is pushing forward a bill to provide stablecoin regulations, similar to MiCA. Despite this glimmer of clarity amid much regulatory uncertainty, there remains much work to do in the U.S. For instance, the SEC has yet to provide a way for crypto exchanges to register themselves, as evidenced by Coinbase’s back and forth with the SEC on the topic, creating unnecessary unease for U.S.-based crypto companies—and potentially pushing innovation overseas.
Ultimately, the U.S. must establish clear guidelines and expectations for the Web3 space, rather than retroactively penalizing individual issuers. This will not only create a fairer system but also will make projects more comfortable staying in the country, fostering greater innovation and ideally positioning the U.S. to compete with the rest of the world.
Originally posted on Forbes.