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Is crypto a commodity or a security?

by SuperiorInvest

The crypto industry is anxiously awaiting the decision of Judge Analisa Torres of the Southern District Court of New York in the Securities and Exchange Commission (SEC) v. Ripple Corporation case. Ripple owns the popular crypto token XRP, which is currently still in the Top 10 of Coinmarketcap.com, a popular token tracking website.

SEC charged in December 2020 that “Ripple has raised funds since 2013 through the sale of digital assets known as XRP in an unregistered securities offering to investors in the US and around the world.” Ripple also allegedly distributed billions of XRP in exchange for non-cash consideration such as labor and market services.”

In addition, the indictment alleges that company executives Christian Larsen and Bradley Garlinghouse “also made personal unregistered sales of XRP totaling approximately $600 million.” They further allege that “Defendants failed to register their XRP offerings and sales or to comply with any exemption from registration in violation of the registration provisions of the federal securities laws.”

This case goes beyond the survival of Ripple and XRP. In fact, it predisposes the SEC to charge many other crypto securities. Commodities such as sugar, wheat, oil and gold are regulated by the Commodity Futures Trading Commission (CFTC), and much of the crypto industry would like to be regulated under this regime. The price of cryptocurrencies depends on buyer versus seller sentiment, which is driven by a number of factors such as news about individual tokens, but also macro factors such as inflation and employment, which also affect the prices of other commodities.

In general, when the following happens, the price of a cryptocurrency will rise. These events include excess liquidity, quantitative easing, money printing, high M2 supply, and low interest rates. Conversely, the price of cryptocurrencies can tend to fall when you have high inflation with quantitative tightening and higher interest rates being used by central banks (including the Fed) to try to reduce inflation.

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If a cryptocurrency is declared a security, it can be Subject to other reporting requirements such as annual reports, profit and loss statements and environmental, social and governance (ESG) reports. There are some tokens that they have decided register with the SEC as a security. Obviously, this move is extremely unpopular with most token issuers in the industry.

The XRP case has been mired in controversy from the start due to well-reported public statements by former SEC Chairman Jay Clayton that both Bitcoin and Ethereum are not securities and are rather commodities like sugar, oil, gold and the like.

When current SEC Chairman Gary Gensler—a former professor of blockchain technology at MIT—took over, the mood changed. Gensler is more inclined now consider many cryptocurrencies, with the exception of Bitcoin, as securities.

In American jurisprudence, the way to determine whether something is a security or not is called the Howey test. SEC v. WJ Howey Company was a case involving orange plantations in Florida that was decided by the Supreme Court in 1946. The Supreme Court basically laid out four criteria for something to be considered a security. The four elements are as follows: [1] Investment of money [2] in a joint venture [3] with the expectation of profit [4] be derived from the efforts of others.

Crypto definitely includes the first three considerations. First, people use their money to buy cryptocurrencies. Second, tokens could be called a joint venture because a token generally has a specific goal. Third, most people who buy cryptocurrencies want to make money. So what is the delay?

The tricky part is the fourth condition, which basically says that most security investors rely on a certain group of people, such as the management of the company that owns the security, to ensure that profit flows from their collective efforts.

For example, Bitcoin was founded by Satoshi Nakamoto, which is a pseudonym for perhaps one or even a group of people. We do not know who this person (or persons) is and where they live. So how can he be held accountable when we don’t even know who is commanding them?

In addition, a new type of organization called Decentralized Autonomous Organization (DAO) has grown up. People with a particular token pool their resources in a DAO and decide together how to proceed to achieve goals. But because ownership is decentralized, condition four of the Howey test is difficult to determine. This is compounded by the fact that many people in crypto also use aliases and pseudonyms.

Still, Gensler won’t back down. It has been condemned in various places for “regulation by enforcement” instead of clearly setting out crypto policies that different tokens can follow. This will most likely change when the US Congress decides on clear laws to regulate the growing crypto sector, but it is challenging because many do not understand what crypto and blockchain are.

Elected officials in the US have very polarized views on how this should be handled. Some want to ban others want the US to maintain a global leadership role and merely want to regulate it.

Whatever Judge Torres decides, it won’t necessarily derail the progress of cryptocurrencies and blockchain into our everyday lives. Clearly defining whether crypto is a commodity or a security would actually clarify the way tokens could move forward.

The information provided here is not investment, tax or financial advice. You should consult with a licensed professional for advice regarding your particular situation.

Zain Jaffer is the CEO of Zain Ventures, a Web3 and real estate investment company.

This article was published via the Cointelegraph Innovation Circle, a proven organization of blockchain technology industry leaders and experts who are building the future through the power of connection, collaboration and thought leadership. The views expressed do not necessarily reflect those of Cointelegraph.

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