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The SEC v. Coinbase: Brian Armstrongs recent response

Commentaries & Views

The United States Securities and Exchange Commission (SEC) has intensified its ongoing dispute with cryptocurrency exchange Coinbase, reaching new heights of contention. On March 22nd, the regulatory body issued a Wells notice to Coinbase, signaling its intent to pursue legal action against the largest U.S.-based crypto exchange for alleged securities law violations.

In response to this development, Coinbase's Chief Legal Officer, Paul Grewal, sought to assuage concerns among investors and the crypto community in a blog post. Grewal revealed that the allegations are primarily aimed at the company‘s staking service, Coinbase Earn, and its offerings, Coinbase Prime and Coinbase Wallet.

In late April, in a written and video statement, Grewal got together with Coinbase CEO and founder Brian Armstrong to respond to the Wells Notice. In the video, the CEO said, "A Wells Notice—at this stage, when there's not a clear rulebook—is not constructive, and it's not good for America."

Coinbase argues that any enforcement action would be without merit and pose significant risks to the current regulatory model. This legal battle between Coinbase and the SEC highlights the challenges of regulating the cryptocurrency market, which is still in its early stages and lacks clear guidelines from regulators.

Why SEC Issued Well Notice to Coinbase

The legal dispute between Coinbase and SEC is on whether cryptocurrencies are securities and if they should be regulated as such. Coinbase is seeking to gain regulatory clarity for trading digital assets.

SEC Chair Gary Gensler has repeatedly claimed that, in his view, most digital assets are securities. This sharply contrasts Armstrong's claims that cryptocurrencies listed on the Coinbase exchange are not securities.

He says not all cryptos assets are securities, as some are commodities. This is because there are many types of crypto, including stablecoins and artwork crypto, that are commodities as well. Stablecoins, for instance, are designed to offer less volatility like we commonly see in crypto assets. Stablecoins are also pegged to exchanged-traded commodities or fiat currency, even though they are based on blockchain technology. They offer a good solution to investors who want to invest in crypto but who also want to invest in something more stable.

Coinbase received a Wells notice from the SEC alleging the exchange violates securities laws. In his recent response to the SEC‘s Wells notice, Armstrong said, "The staff‘s enforcement action would fail on merits because Coinbase does not list, clear, or effect trading in securities." In a blog post that announced Armstrong's response to SEC, Grewal writes, "Coinbase is the same company that we were when the SEC allowed us to become public two years ago, we didn't list securities then, and we still don‘t."

In the written submission to SEC, Coinbase clarifies aspects of their business that are subject to the Wells notice.

In the letter, Coinbase argues that Coinbase Wallet is not a broker, as the SEC staff alleged in their notice, and that it is a software tool incapable of performing the customary activities that would be required for the Commission to prove that Wallet is a broker.

It also says Coinbase Staking Services isn‘t a securities offering. The SEC Staff contends that Coinbase‘s staking services constitute an unregistered securities offering in violation of Sections 5(a) and (c) of the Securities Act. According to Coinbase, securities must satisfy the prongs of the Howey test for an investment contract, and their stacking services do not.

The four prongs or elements that Howey requires to satisfy a transaction investment contract as security are an investment of money, a common enterprise, reasonable expectation of profit, and profit derived from the work of others. According to Coinbase, their stacking service fails all four of these.

Coinbase is Preparing to Defend Itself Against SEC

In a video statement in response to the recent Wells notice issued by the SEC targeting Coinbase, Armstrong emphasized the rationale behind registering his company in the United States, citing a strong belief in the country's commitment to the rule of law and recognizing its significance in the global marketplace.

Armstrong further expressed his concern regarding the absence of clear regulations and specific guidelines governing cryptocurrencies, arguing that this lack of regulatory clarity adversely affects investors, the industry, and, ultimately, the United States.

Armstrong pointed out that since starting Coinbase eleven years ago, he has proactively worked with regulators and is committed to working with them to make the industry safe. He closed his remark before handing over to Coinbase CLO Grewal that the Wells notice wasn‘t constructive and they are prepared to defend their position in court.

In a video shared on social media just before Armstrong's response to the Security and exchange commission was made public, Gensler, SEC chair, reiterated his view that crypto exchanges must register as regulated entities in the U.S., saying "Crypto markets suffer from a lack of regulatory compliance. It's not a lack of regulatory clarity."

While agreeing with Armstrong, Coinbase's chief legal officer, Grewal, expressed an unambiguous stance that the company "will defend itself vigorously" against the SEC if the commission moves ahead with the Wells notice.

Amicable Solution

In the blog post announcing Coinbase‘s response to SEC, Grewal said their exchange doesn‘t list any securities. However, they‘d like to in the future, but the SEC has still not complied with the law by providing companies like Coinbase with a way to register to be able to do that. And in the video, Armstrong expresses willingness to work with the SEC to create a framework and regulated marketplace for crypto securities to be traded in the U.S.

In the response, the Coinbase executive said, "Coinbase has never wanted to litigate with the Commission. The Commission should not want to litigate either. Litigation will put the Commission‘s own actions on trial and erode public trust cultivated over decades."

As the SEC and Coinbase gear up for a legal showdown, this dispute will undoubtedly have far-reaching implications for the future of the cryptocurrency market and the regulation of digital assets.

The legal dispute between Coinbase and the SEC shows the need for greater regulatory clarity in the crypto industry. While the sector has seen rapid growth over the years, it is still relatively new. The lack of clear guidelines from regulatory bodies such as the SEC has led to confusion and uncertainty for businesses and investors.

As the conflict between Coinbase and the SEC persists, it is uncertain how the regulatory framework for digital assets will develop in the United States and globally. In their blog post, Coinbase said they would continue to ask Congress for legislation and the SEC for rulemaking so that regulatory clarity isn‘t left to the courts.

Recent Development

In April, Coinbase initiated a lawsuit seeking the court's intervention to compel the SEC to clarify its position on previously submitted petitions publicly. On May 4th, Grewal, Coinbase's chief legal officer, announced a significant development in the ongoing legal battle, stating that the US Court of Appeals for the Third Circuit has responded to the complaint against the SEC.

The court issued a text-only order instructing the SEC to respond to Coinbase's writ of mandamus within ten days.

However, the SEC countered Coinbase's claims in a recent court filing, dismissing them as groundless. The filing argued that Coinbase's request for expedited or alternative regulatory action does not warrant extraordinary court intervention. The SEC's legal representatives firmly advised dismissing the petition, citing the agency's ongoing engagement in other rulemaking and enforcement matters.

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