Blockchain Ethics

Class 10 Reading Responses [Cryptocurrency : Securities Law :: Internet : Copyright Law]

I used to work for a global asset manager that was exploring what it might look like to create a bitcoin/cypto ETF. One of the reasons that we did not pursue this was because it was early days and the SEC was not sure how to categorize if bitcoin was a security or not/how it should be regulated. I agree with the current consensus of the SE where cryptocurrencies are autonomous and distributed networks that are designed to be decentralized. I think classifying a cryptocurrency as a security likely goes sharply against the goals of the crypto/blockchain ethos. However, I have an outstanding question around whether or not changes in codebases and forks would ever result in a reclassification? Seems like crypto will change and evolve and the SEC might need to adjust their classifications accordingly.

Another tangential thought is around ICOs. Today industry says that tokens aren’t equity, because they have intrinsic use and because they are “non-dilutive to the company’s capital”. So ICOs would technically fall in the perview of being a security and subject to regulation and punishments if abused. Currently, the US securities laws are already well-calibrated to address any ponzi and centralized investment schemes, so hopefully they can apply the same framework to ICOs.

The last thought is that I think we will see a need to update the Howey test, to better accommodate for the new type of currencies that may result from the digital revolution we are living through. If Web 3.0 bleeds into our financial market system we will need to address how the Howey test evolves to balance bad actors and regulation in a decentralized world where the investment of money may NOT be in a common enterprise
and profits DONT come from the efforts of a promoter or third party.

Hi all,

I feel like it has been a while…but we’re back! Fair, as Rhys would say, is a “semantically overloaded word imo,” and I agree. Similar to “On Fair Token Launches”, I would say that fair involves a decent issuance period to allow for price equality, but most importantly distribution. I was personally inspired by Numerai and their approach to provide proper examples of usage of their network as well as their decision to grow the user-base over time by targeting potential APs. Novel. However, one could counter Numerai with inclusion so perhaps Livepeer’s implentation of Proof of claim could work for non-targeted users? I do like the idea of proving yourself to the network, but I don’t think a launch could solely rely on this, as having an example for anything is crucial. The key takeaway for me was the acute attention paid to time in the case of Numerai and perhaps a new launch could start with a targeted audience and when the community seeks to grow, it expands to parallel comunities as well as non APs at large (this is not just for the sake of inclusion but to account for scope limitations of issuers with respect to APs).

In regards to regulations and the SEC, I am going to have to agree with the guidance and Hinman. In short, tokens during an ICO or IEO (initial exchange offering; more on these later) are considered securities but afterwards are relegated to commodities, especially since the first two spokes of the Howey Test (investment of money in common enterprise) are a given, but the efforts of a third party cannot be accredited to other nodes or developers since no single node or developer is essential to the success of the network. Lastly, the expectation of profit is a little murky as transferred quantities are deemed indicative of a user or investment, but a decent argument could be made that the tokens are mostly means of exchange and hence indicative of a single user. Nevertheless, it was really the failure of the efforts of a third party spoke that really convinced me that tokens were relegated to commodities post-ICO or post-IEO.

Since there is a lack of regulations, I would look towards IEOs becoming a preferred method of fundraising especially since you have the vote of confidence from the host exchange, you can tap an existing user base, listing is easy (instead of your own advertising), prevents ‘gas wars’, and due to this is overall a safer option. If done correctly, an IEO doesn’t need to fall subject to implicit valuations either given this informal backing.

In regards to the benefits of tokens, they are excellently enumerated in “Thoughts on Tokens”; some of which include but are not limited to vastly improved range of potential investors, immediate distribution, better-than-free model, liquidate faster than equity and 0 need for accredited investors. However, I would point out that running to an open market to sell received tokens at a quick 2x turn around is popular, but I don’t think that cryptographically locking tokens the way the U.S. has a 1 year lock-up on investments is the way to go and I point to my first paragraph proposition as a possible means to garner “meaningful distribution”/meaningful participation.

Thanks yall for reading and I look forward to future novel token launches!

Hi All,

I have a few thoughts and questions to share on fairness of token launches, and what tokens even are, in response to my peers above and the articles they referenced.

On “fairness”:

In practice, shitcoin creators pay large sums of money to the exchanges in order to be listed. This buys the confidence of the potential users/traders, and this method of fundraising seems to make the ecosystem less “fair” because only token creators with enough upfront capital to be able to pay for their coin to be listed in the IEO, can create tokens.

In contrast to The-Ripp3r, the On Fair Token Launches article made me pessimistic that there is any “fair” mechanism for token launches. The creators and distributors of tokens logically have incentives that are fundamentally at odds with “fairness”. Those who already have stake in a token must desire that the token is then distributed to others that will raise its value. We can see this as the case with past ICOs and Airdrops. Even those Airdrops may seem to spread potential wealth with free drops of goods, they can instead be considered a marketing vehicle, to distribute to the coin to those who are likely to use it and raise its value.
Numerai’s distribution of Numeraire is also far from “fair” in terms of spreading wealth or increasing equity. When tokens were distributed to Kaggle data scientists with clout in the system, the privileged were further privileged.

As for what tokens are with respect to equity:

I do not understand this argument. It is also made in the Thoughts on Tokens article, which makes other statements I take issue with as well.
The article claims (as its 6th main point) “Tokens are a non-dilutive alternative to traditional financing”. This seems overly optimistic. Issuing more tokens can create an inflationary effect, bringing down the value of the token for existing token holders. This could be considered analogous to a company’s equity holders being diluted when more equity is issued.
This article also states (4th main point) "Tokens are analogous to paid API keys”. The author compares the purchase a token like ETH to the purchase of an API key to Amazon Web Services, saying that in the same way an API token buys compute time on the AWS cloud infrastructure, ETH buys compute time on the Ethereum network. This is an interesting parallel, but these two assets otherwise have diverging properties. ETH and other tokens are fungible, and I can sell or trade ETH for another token or good in a variety of markets. But I cannot sell my Amazon Compute time in the same way.
Moreover, I don’t think the paid API key would pass the Howey test!

“Thoughts on Tokens” was a really interesting read to get into the minds of people as the token and ICO craze took over in 2017. In particular, I was really amused by their equivalence of a token to an API key. It really seems like wishful thinking of the time, where people didn’t want them to be securities or commodities. In fact, from “Coin Center Analysis of SEC Cryptocurrency Guidance”, we know the SEC has indicated that a token’s label is dependent on what its use is; they are definitely not equivalent to API keys. It’s even possible for the label of a token to change based on its lifespan, starting off as a security and transforming into a commodity. If anything, the difference between the two articles just shows how much the space has evolved, from the gold rush of 2017, to the more mature and regulated state that it is. We anticipate that there will be more regulation but a lot of specifics have been left out. For example, how do we know when a token transitions from a security to a commodity? Will the SEC or FCTC begin to regulate token launches based on how fair they are? Will they even need to with Bitcoin solidifying its place as the dominant cryptocurrency? Does the Howey Test need to be updated to fit the current landscape of cryptocurrencies? These are all questions that need to be answered through mediums outside of a guidance but these are questions that no longer seem to be easily dismissed by comparing a token to an API key. I think that’s the biggest thing I got from these articles. It seems like the conversation around regulation has evolved and will continue to evolve as the cryptocurrency space matures.

Responding to a couple things here, mostly diving into the prompt about value-laden language (aka charged language – scam) but I wanted to pull out something from aberke that is also critical.

A number of articles talked about incentives for users and how they might utilize coins – sell their air drop tokens immediately and make a little money, stick around and use the product as is the ostensible case with Numerai, etc. But a conversation surrounding the motivations of the distributors rather than the buyers seems to be missing some pieces here. I’d point specifically to the case of Kik, the anonymous message and kink app turned into a Crypto litigation firm. They sold a token and made a cool $100m, but have now shut down their service to fight in court. I suppose this raises the questions of whether the token or the service is more integral, how these two funding channels relate, and how the answers to these questions might change the tokens financial status. For my part, the important thing here is that the products and services may be influenced in their design by the allures of token-based funding – and potentially bitten by them. Assuming Libra works out, would others follow their model? A consortium of model-games make a micro-transaction-coin? Adult websites make a :sweat_drops:coin? Do grocery stores or gas stations integrate into your wallet to concertize your loyalty program for a 5% discount? How the problem of securities is solved matters because here it changes the motivation of the distributor and not just the bottom line for the buyer/user.

On to other matters, quickly, here is a breakdown of how I see scam, shitcoin, and ponzi scheme:

  • Shitcoin: a token that is, for any number of reasons, open to criticism for being poorly conceived, with little use or exchange value, and otherwise poor in the landscape of crypto. Shitcoins are not necessarily malicious, just not good.
  • Ponzi scheme: A business model, also frequently called a pyramid scheme or multi-level marketing scheme, where the primary financial incentive is boosting the business and selling internal assets to new members rather than to customers.
  • Scam: As compared to a shitcoin, a scam is malicious, an activity aiming to extract resources unwittingly from a target or a mark. Scam is a strongly negative ontology, much stronger than ponzi scheme as a term, which holds some structural description. A scam could be any sort of nefarious activity, from extending a cab ride through the scenic route to bamboozling an election, from systematically skimping on barley malt weigh-ins to selectively charging union membership dues.

The challenge we hit with value-laden language like scam is that is gets so tied up with connotative meaning and does not break down the structures, actors, and motivations that are underneath that judgement. Ponzi scheme enters this same space, but because we can point to non-charged evolutionary terms of similar meaning (pyramid scheme, MLM) there is room to move.

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