As cryptocurrencies continue to shape global finance, regulators are scrambling to keep up with the ever-changing landscape, sparking debates about how to strike the right balance between financial oversight and decentralized finance.
Here’s a look at the pros and cons of crypto rules and the current state of crypto regulations.
How Cryptography Works
Before crypto regulation, there were cryptocurrencies, which are digital currencies largely managed without the regulations and protections of a central bank or government. Crypto works like this:
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Cryptocurrency is a digital asset that appeals to many investors because it runs on blockchain, which is a decentralized ledger that records transactions across multiple computers. These computers validate transactions and leave a permanent record that is essentially a long receipt of each transaction made.
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Blockchain records the flow of information and, by design, aims to be transparent – provided you can access the blockchain database containing that data. Blockchain technology ensures that information is stored securely, while maintaining a record of changes and disallowing changes after a transaction is entered, creating a clear audit trail of changes.
Major regulated currencies – like the Euro or US Dollar – tend to be fairly stable and backed by a government. Conversely, cryptocurrencies are extremely volatile for several reasons, including because they are less regulated. Most cryptocurrencies are not tied to a physical asset, such as a company with revenue, nor backed by a government. Instead, cryptocurrencies derive their value solely from what people are willing to pay at the time.
In fact, a 2022 study published in the journal Finance Research Letters identified four main drivers of Bitcoin price volatility: Google trends, the number of bitcoins in circulation, consumer confidence in the United States, and the S&P 500 .
Pros and Cons of Crypto Regulation
In recent years, some governments have focused on integrating crypto into existing or new regulatory frameworks in an attempt to protect investors. Others believe regulation could stifle innovation and limit financial freedom within a currency specifically designed to be beyond the reach of the government.
Benefits
- Helps protect investors against fraud, scams and market manipulation
- Discourages illegal activities such as money laundering and terrorism
- Reduces price volatility and improves market stability
- Promotes trust and more secure adoption of digital assets
Disadvantages
- Contradicts the decentralized nature of crypto and may stifle innovation
- Legitimizes a volatile asset
- Limits inclusiveness, especially for those without access to traditional financial services
- Reduces user privacy and increases government surveillance
How is crypto regulated in the United States?
These differences of opinion have led to divergences in crypto regulation in the United States and around the world. Depending on how digital assets are structured, federal and state regulators may have authority over transactions in the United States.
The Securities and Exchange Commission (SEC), Internal Revenue Service (IRS), and Commodities Future Trading Commission (CFTC) each define crypto differently as securities, commodities, and property, respectively.
The SEC
The SEC classifies cryptocurrencies as securities, like stocks, and requires that all sales or issuances of digital assets be recorded by the issuing company. This means that the SEC wants crypto to follow the same rules as publicly traded companies. For example:
- Purchase a digital asset means the crypto must be registered and approved by the SEC, which proponents of regulation say gives the buyer more transparency about the risks associated with it.
- When selling a digital asset, it must also comply with SEC rules, including adding disclosures or other legal representations before selling cryptocurrencies.
In recent years, the SEC has cracked down on crypto exchanges that have allegedly violated these rules, including filing lawsuits against Coinbase and Binance.
The taxman
The IRS classifies crypto as property. This means that any time you sell or buy cryptocurrencies there may be tax implications.
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Capital gains taxes are applied when you sell or exchange the crypto for a higher price than you bought it for.
- Selling, trading, or buying crypto can trigger a taxable event that investors must report on their annual tax returns.
These rules have been in effect since 2014, meaning investors must track their transactions in order to accurately report the taxes associated with them.
The CFTC
The CFTC considers cryptocurrency a commodity, like gold or silver. This means that buying or selling crypto may be considered a taxable event and capital gains rates may also apply.
Additionally, this means that cryptocurrencies can be traded on futures markets, allowing investors to speculate on the price of a currency at a future date.
States
Although federal agencies like the SEC and CFTC set general rules for the United States, each state also has its own crypto regulations, which vary widely.
New York, for example, has BitLicense, a commercial license for virtual currencies with strict requirements. Meanwhile, Wyoming – one of the most crypto-friendly states – plans to issue its own stablecoin and has passed around 30 laws since 2019 to try to attract crypto and blockchain companies.
How is crypto regulated globally?
While U.S. government entities have focused on classifying cryptocurrencies, other countries have taken different approaches. Some countries have banned crypto altogether and others have opted for a more welcoming approach.
- In the European Union, THE Markets in Crypto Assets (MiCA) were introduced, providing a framework for viewing crypto across member states.
- In China, cryptocurrency is completely banned.
- In Japan, crypto is considered legal property and exchanges must register and comply with anti-money laundering laws.
- In Canada, crypto entities must register with the government and there are strict anti-money laundering rules and regulations.
Are stablecoins regulated?
Stablecoins also live in the regulatory Wild West of crypto. Stablecoins are a type of cryptocurrency designed to maintain a fixed value over time and pegged to a fixed asset, which is often a specific real currency, often the US dollar. Unlike other cryptocurrencies, the price of stablecoins is supposed to be stable.
For this reason, stablecoins can be easier to use for everyday transactions – and provide a lifeline for people living in struggling economies with sanctions and weak local currencies – and potentially transformative by offering the benefits of cryptocurrency without the volatility.
Regulation of stablecoins is also in the works, but policymakers in the United States and abroad are considering bank-style regulation for stablecoins.
Conclusion
Crypto regulations vary in the United States from state to state and even between federal agencies, all of which have different ways of defining crypto that have their own tax implications and laws. Investors should conduct their individual research to determine what crypto laws exist in their respective states. Most importantly, regardless of how cryptocurrencies are regulated, remember that they are very volatile assets and investors should be very careful when investing in any type of crypto.
