This is epicenter episode 328 with guest Gabe Shapiro.
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with the show. Hi, welcome to epicenter.
My name is Sebastian with you today.
Our guest is Gabe, Shapiro. Gabe is a lawyer at the firm
zero law. They're experts in the area of
tokenization dows and blockchain Engineering.
Gabe has written a four-part series of monster blog posts
where he shares his philosophy of Securities Law for As
networks, this is an amazing piece of work.
It takes about an hour and a half to read all posts, but I
would strongly recommend everyone to read them.
Now, let's try to understand why this is important and why it's
so timely the moment for the last few months, there's an SEC,
commissioner by the name of Hester Pierce.
You may have heard of her. She also goes by the name of
crypto mom and she's been pushing for this idea of Safe
Harbor and under her proposal tokens would be exempt from
being classified as Securities for a period of three years.
Years. And this is so that projects
could build an initial development team with the
intention of becoming mature and becoming more decentralized
until which point the SEC would no longer consider them to be
Securities. Now, just as we were recording
this interview with Gabe, commissioner Pierce posted an
opinion piece on coin. Desks where she essentially asks
the industry. What do you think of my proposal
tell me if this is right? Tell me if this is wrong and
Want to improve it, and fix it, which in my opinion, really
shows the the openness of the SEC.
And particularly if this commissioner to create an
environment where the crypto industry can Thrive, and there
have been a number of reactions to this this call for for
feedback. There's been a number of
reactions also, to the proposal in general, some positive, some
more negative and gave also published an open letter in
which he provides his feedback and his thoughts and his
Philosophy on how the Safe Harbor proposal can be improved.
So willing to Gabe's articles his open letter and Hester
Pierce's, opinion piece in the show notes.
So here's what you'll learn in this interview, Gabe's
background, and how you got involved in crypto.
The classifications that we tend to give tokens like Equity
suffer products, Commodities, currencies and examples of why
these classifications can be misguided.
We got a crash course on Securities Law and the Howey
test, we went deep into the exchange Act of 1934, which is
an often forgotten piece of important legislation, but that
has tremendous impact on companies that issue.
Securities, we talked about Gabe's philosophy and how
Securities Law should be applied when it comes to issuing tokens
and launching networks. And we talked about the Safe
Harbor proposal. What It Is, What It encompasses,
how it defines Finds things like decentralization and network
maturity and Gabe's thoughts on how it can be improved.
So, I want to thank Gabe for coming on the podcast.
Brian. And I did this interview and he
was incredibly articulate. In sharing his philosophy,
helping us understand, Securities Law, and also, how
things could evolve in the future.
Before I go to the interview, I want to tell you about some
interesting developments epicenter, is the official
podcast partner of ECC. And we're so happy to be doing
this with Peppo. We're going to have a dedicated
podcast booth in the main networking area upstairs.
It'll be like epicenter mission control and we'll be recording
interviews over the three days and posting a lot of content to
Peppo will be soliciting the communities questions for the
people that Reviewing and also getting people to share just
what they're learning in the takeaways from the conference.
Also we're having a casual drinks meet up on Wednesday the
4th if you want to register for that.
You can go to epicenter that rocks / Paris meet up and thanks
to Papo for also sponsoring the drinks meet up.
So if you're not going to eat CC, if you can't make it, Peppa
is the best place for you to follow what's going on and to
follow the conference. I wasn't at East Denver, but I
followed all throughout the The weekend on Papo and I felt like
I was there. So download Peppo go to
paypal.com epicenter and you can follow me there.
You can also follow the epicenter Community where we'll
be posting all the content from each CC.
We're also brought to you by the nervosa ecosystem grants
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I don't need to go into detail about how nervous works there to
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You and here you can find all the information you need.
And with that, here's our interview with Gabe Shapiro.
We're here today with Gabe, Shapiro and Gabe.
So first of all, this closer, but we have been working with
him as our lawyer, through course wands.
So, I've been kind of known gay for a while and work with him
and he's he's a very thoughtful on.
Lots of questions around Securities Law and and crypto
and sort of understands both very well.
Decrypt, the side as well as the legal side and of course, this
is an endless topic that gives so much rise to discussion and
Is written really very in depth and detail the a sort of series
of posts about crypto Securities Law, and sort of his philosophy
of what it should look like. So, we want to dive into that
today. And yeah, thanks so much for
joining us gave my pleasure. So, I guess, let's start with
our, you know, our typical question of, what's your
background? And how did you, how did you
originally kind of get bitten by the crypto bog?
And Get into this field. Sure.
So, my original legal background is actually fairly traditional.
I've been a corporate attorney based almost exclusively in the
Bay Area for 10 years. And the first seven years of
that I worked at, you know, really, really big law firms.
Their California offices doing almost exclusively by side
technology mergers and Acquisitions.
So I did like, I represent represented Facebook in the
Facebook. WhatsApp deal did a bunch of
deals for Oracle, did a bunch of deals for eBay, big public to
public deals. Some of them you know in many
billions of dollars working very traditional law firms right
alongside of that. You know I always had this
interest in technology obviously most of the deals were fur
technology clients and I got interested in sort of
cryptography mainly from the perspective of messaging apps
like WhatsApp, I done the WhatsApp acquisition.
So thinking about end-to-end encryption and so on.
As I was researching that, you know, I started running into
cryptocurrencies and one day I was reading about this new one
called aetherium and something called smart contracts and it
actually was one of these Eureka moments when I read about what
smart contracts were because I realized, oh this is basically,
you know, an escrow without a bank, my deal with escrows all
the time, but with banks as an m and a lawyer, you know, I could
sort of immediately see where this was heading.
And the potential utility. So that was sort of n dish of
2015, early 2016. And the first meet up I ended up
going to was, if you can believe it or not, Nick Szabo talking at
in a theory of Meetup, which nowadays would be unheard of and
since he had this legal background and was talking about
all the all the legal issues around blockchain, and the law
that pretty much sealed the deal for me and, you know, then there
was no looking back. And so, then what what has your
kind of like Journey Through The Block Chain space?
Look like, I know you did some some work on it.
Here, IAM. That's right.
Yeah. So and usually, you know, it's
pretty tentative. I kept my normal job and all
that. But the in 2018, I joined up
with a company called grid plus, which is a consensus folk, they
needed someone in-house for legal, and I sort of raise my
hand worked at those guys for about six months to get them set
up in the meantime. Time colleague of line from
Hogan Lovells named. Louis Cohen, had started a
boutique called DLX specializing in representing blockchain
clients. So I kind of thought, hey,
representing lots of blockchain clients is better than
representing one. So I've moved over their work
there for a while and then subsequently, I met some guys
who are really interested in building out, sort of a
tokenized stock platform for aetherium that we ended up
calling the zero law org augmentation.
Call. So, you know, I focused on that
for a while, you know, that was sort of like my last big kind of
commercial project. And in the meantime, I've been
representing clients, like, Horace, one and some others.
Let's get into your, you know, your article.
So, first of all, give us a little bit.
Like, once you take after being sort of active working in the
legal space, especially when Securities Law in the blocks in
space, after a few years and that, you know, what's what's
your overall Take and what motivated you to write these,
like, series of posts. Right.
So basically, you know, back in 2017, when I see Romania was
going hard and the SEC first started releasing its actions
against tokens. Most of us lawyers, you know,
we're having a lot of discussions at the time about
what all that meant reading the tea leaves, where judges would
come out on the issue. Etc.
And while we knew there were open questions about it, I think
we all thought that those would be long resolved by now.
You know, it's been like nearly three years and Still very few
of them are resolved and still even lawyers who understand the
technology reasonably well and are good lawyers.
Understand the law still debate with each other all the time and
have very, very different opinions.
And so my desire, having spent kind of three years in the
trenches debating with everyone and thinking about it, a lot
changing my own opinions quite a bit in that time and debating
with myself. A lot was to try to write
something that cuts through a lot of the noise.
And Deals a little bit more at the conceptual level, right?
Because I think people get very great and you know they're going
through the elements of the Howey test and they're drawing
analogies to pass cases. Is it token like an orange?
Is it like receipt for delivery of future whiskey?
What is it? And just to just to think about
the tokens in the Network's themselves in the purest,
possible terms with the fewest preconceptions as possible and
just try to think about how do the people who actually buy
them. And Like them and use them as
well, think about them, and why do they value them?
And then try to go from there about how that relates to the
Securities laws. So that was sort of the approach
and that was the reason for still writing about tokens and
securities laws, three years later.
So one thing that strikes me as interesting here, is that it
like you said, it's been three years and US regulators and
lawyers are still debating this in the US.
Why do you think it's taking this long?
I mean, speaking from the other side of the pond, it seems that
in a lot of other jurisdictions, these things have been pretty
much solved already here in France.
There's a pretty robust framework for doing stos.
I know there's sort of similar climate in Germany and places
like that, so, Why is it that? This is so complicated in the
US. Maybe it.
So as not to be too, prejudicial, like, I almost like
a, the, like, the recent fincen, guidance to the SEC guidance,
right? In Finn sends guidance that they
came out, and they said, in their guidance.
Certain things are not subject to money transmission, right?
Like, if it's non-custodial and, you know, they, they sort of
said, what do we not have power over?
And they were willing to say that in their guidance up front,
right? And that's one thing that the
SEC has really not been willing to do, they say what?
Might be security is, right? And they try to, you know, site
some of the factors that would lead them to be especially
inclined to say that something is a security.
But they're never sort of tying their own hands and in advance
saying that they won't say something is a security except
for these no action letters. You know, that were granted in
somewhere around the last 12 months that are so conservative,
right? In terms of fact, pattern that
you know, anyone looking at that fact pattern without the SEC,
weighing in would say, A that they're not Securities.
And and so to me that is a bit of a problem.
I'm happy with many of the things that the SEC has done but
I do think that that's an area where it's fallen down a little
bit and being unwilling to go out on a limb and ever say that
that there's something that they wouldn't consider a security,
okay? I mean, people tend to qualify
and classify tokens in many different ways, you know,
sometimes as Equity as software products as currencies
commodities, Even give us some examples and explain why people
usually get these wrong. Yeah.
Again in you have to separate the the legal from the
conceptual right legally speaking, for example, you know,
Bitcoin is a commodity, right? It's commodity because they
their Futures that relate to bitcoin and that automatically
makes Bitcoin a commodity as a matter of law, but the intuitive
concept of a commodity, right? You think about, you know, oil,
you know you think about wheat. You think about these things?
I mean, these they gold All right, these things are sort of
like they have constraints of nature associated with them.
They're not, they're not synthetic things that, that
humans make their, they're not things that depend for their
value, on a network of humans working together in accordance
with certain rules. And so at a conceptual level,
you know, tokens and token. Networks are very different from
Commodities. A lot of people analogize tokens
in 2017 to licenses and that was sort of One of the main
arguments for why they wouldn't be Securities because there's an
exception under our Securities, laws to the effect that if
something is bought mainly for a consumer purpose.
That that it's not a Securities transaction.
Now, if you think about tokens there, clearly actually not
software licenses because the software involved is is you
don't need a token to get it right, and you can go onto the
guest GitHub, right? And you can download Download
The Gap software client and you now have a software client that
embodies all the protocol rules of the etherium.
The token is not getting you that you could spin up your own
private network of that, right? And you could be using that and
you didn't need to go and buy eith to do that, right?
So, so to me, that clearly seems wrong.
But what is specific to 'if right?
As what people call, 'if it's actually a specific Network,
right? It's it's the way you can figure
that software client to point at A tidy one, right?
And, and that's the network you want.
You want the token on that Network and if you think about
that, that starts to make sense as a framework, right?
Because why is the token on that instance, of the etherium
software more valuable than the one.
I just spun up at home. It's because they're all these
other people. Using that particular Network,
it's a selling point, so to speak.
It's something everyone has converged on.
And the more people that John that Network the higher, the
value of that token will be and really in a certain sense, all
these tokens are actually designed to track the value of
that Network. The people do things like make
them finite in Supply or, you know, restrict the rate at which
they are. The new issuance is done right.
And so, it's almost like they've been set up on purpose to, you
know, appreciate indefinitely as the Value of this network.
So that's sort of how I came up with the idea of.
Well, what really are you investing in with the token?
You're not investing in the token itself.
It's not like buying a bottle of whiskey and you got the bottle
whiskey, because you could drink the bottle whiskey, without The
Distillery here, the equivalent to The Distillery is like the
network and you need that network to use that token.
So really, it's a method of investing in this specific
Network and it seems to be a relatively good at tracking the
value of that network over time. She described this as Network
Equity was the first time that I've heard that, I heard that
term. Can you explain what that is?
And how it differs from the concept of equity and a company?
As we've come to know it sure. Yeah, in this case, I mean
equity and I was being sort of a little bit deliberately
provocative, right? Because I knew a lot of lawyers
would complain about using the word Equity because, you know,
usually Equity means it's a claim on the assets of the
Corporation. After Sure all of its debts are
paid, right? That's what I that's what a
share of stock is, in fact, less its preferred in which case it
may have more debt like rights. But we also use terms like brand
Equity, right? What is brand Equity?
Really mean it's like it's like the value that's associated with
a certain brand. Yeah that's that's the idea I
could have called it also like a share of network value right in
that would have been a little bit more of a neutral term, but
I wanted to kind of hit people over the head with the idea that
tokens are not. Investments in it of themselves,
they're letting you track the value of something else.
And so, it's sort of at least equity-like, but it doesn't
necessarily entitle you to dividends and payments after
liabilities. And so on.
Although, if you look at proof of stake, networks starts to
look even more, you know, like a piece of equity, right?
You you stake it and you get payments as a result of owning
it not exactly the same as a dividend, but somewhat similar,
and you know, and so on. Yeah, I mean I would say that
will dive into this a lot more of a maybe maybe to bring sort
of a last point up that people would often use II member fix a
kick. You start in their argument I
think is like oh, but it's a currency, what's your?
Take on on that like the idea that opens our currency in these
Networks, Sure. I think they are currency, but
the analogy I use in my article, right?
Is that is The Old Company script, right?
So there used to be these company towns and there actually
are still Provisions in the corporate codes of Most states
in the US where you can take a stock certificate and you could
tear it into pieces and those little pieces are scrip and they
don't have any of the rights of a stockholder while, but they
still can have value. And if you put, you know, say
there were 10, Pieces, you put 10 of them together.
Now, you have the rights of a shareholder again.
So there used to be these company towns where script would
trade, you know, that's a kind of currency, right?
But but it's not a very good currency, right?
It's a currency in a very weak sense, and it still may be a
security, right? Because it depends on the will
of this company. But if suddenly lots and lots of
company towns, started accepting the same script, right?
And then it, that it's spread all across the nation, and it
may be spread to other nations. Then it looks more like a
currency. It's very similar.
I think with Chain networks as they become more decentralized.
This thing that you know, initially starts to look like
it, maybe have a lot to do with some particular group of people
who first created it, it starts to look more like a universal
thing. And it starts to not so much
depend on any particular person. And so over time, it's going to
look more and more like a currency, right?
So I do think it has aspects of a currency but I think legally
speaking toward the beginning, I of its life.
It's not so much best viewed as a currency as most likely
security depending on the circumstances of its launch and
who's controlling the network. You know, that's kind of
coherent argument but let's let's get into a little bit like
what Securities Law is and then kind of come back to, to your
argument of how it should apply in the crypto instance.
So, first of all, the Howey test, you know, most of most
listeners will have heard of that.
I have some familiarity of it but can you just very briefly
run us through what the Howey test is and how it has kind of
been applied in crypto space? Sure so yeah, this is a you know
the key thing I would say here that maybe some people still
don't get. Even though a lot of people talk
about the Howey test is that it's a test for one type of
security called an investment contract.
There's a whole list of types of Securities in the 33 act stock,
bonds, blah, blah, blah, right? Investment contract is one of
them. The test is basically that when
someone has made an investment of money and it doesn't have to
be money Any that can be a contribution of your time that
could be an opportunity cost as well.
That you encourage Us by locking up some funds for a period of
time and investment of money. Really an investment of value
with a reasonable expectation of profits which are not just
profits. In the sense of excess of
revenues over costs. But any type of capital
appreciation, any type of gain from predominantly from the
entrepreneurial efforts of others.
In a common Enterprise, then the law says that if that test is
met, then there something called an investment contract exists,
which is a security. Now, that security in most of
the case law is not something, it's not a contract that people
wrote down and said, I hereby agree to make efforts for you to
help you make profits. Usually it's quite the opposite.
Usually they did a bunch of other things that don't look
like Securities. But when you sort of look, Look
at the total picture, it's just could be a Securities
transaction. And so the law implies the
existence of a security called an investment contract.
You kind of alluded to it right that basically seems like what
the lot of projects have done and you crypto space is sort of
take his Howey test and then try to argue that, you know, they're
not, they don't fall in this bucket.
I guess mostly. It has been around the last
point, right? This effort of others Point.
That's right. Sometimes common Enterprise, you
know, I like probably, you know, something like crypto kitties
and FTS, right? Why are they not Securities?
I think a big part of the reason is the lack of a common
Enterprise, right? Because it's not like gapper
Labs is keeping a copy of the same nft you know that it means
each time and so it's not, similarly situated to each buyer
but you're right. Typically they're hanging their
hat on the efforts of others. So oftentimes the the Howey test
is brought up and you know we've heard about the Howey test
numbers of times but the exchange act isn't necessarily.
The first thing that people will cite when talking about tokens
and their possible security status, what is the exchange act
and what does it have to do with all of this?
Yeah, so you're exactly right. Most of the discussion has just
been around fundraising activity, which is covered by
what we call the 33 act and that, you know, the core of that
act is every sale of Securities has to be either registered with
the SEC or exempt from registration, very simple.
The 34 Act deals with what happens next, what happens when
you have a security and then you want to start treating it after
the initial fundraising? So there's a whole set of
secondary Market regulations around that and a little bit
depends, which one's apply depend on what type of security
it is. There are two main categories,
debt, Securities and Equity Securities.
If it's an equity security, it's much more highly regulated.
So, the now you're now, you're kind of getting at my diabolical
reason why I called it Network Equity is to suggest that maybe
some of the regulations Under The Exchange act such as
relating to limitation. On Insider swing trading of the
security rules about how you solicit votes to.
The extent that tokens, may be voting Securities, may be
relevant early on, in a networks life while it's still
effectively controlled by a small group of people.
Can you go a little bit more in-depth as to the requirements
in the exchange act? Like I mean I guess it would be
interesting to understand where a lot of crypto projects maybe
are failing to comply to the laws under which that, which
fall under the exchange act. Sure.
So the big one is if it's an equity security, there's a rule
called 12g that says that if it's if the security is held by
more than 499 unaccredited, And investors or more than 1999
investors overall. And the issuer has at least ten
million in assets. At the end of a fiscal year that
the issue is required to become and exchange act reporting
company. What is an exchange act
reporting company? Think of Apple think of Tesla
fully public companies. That's a very expensive regime,
that really only mature high value companies are equipped to
deal And one of the interesting things is that in pretty much
all of the settlements that the SEC entered into with token
issuers, Paragon are Fox Etc. Other than block, one part of
the remediation that was ordered of those issuers.
Was they had to become 12g reporters and none of them ended
up successfully doing it so far. But so, clearly the SEC at least
implicitly thinks that these may be Equity Securities.
So once you're in an exchange act or Porter, you become, you
have to file 10ks. You have to file 10-qs.
These are long annual reports of a lot of financial information.
You also have to publish a lot of information.
This I think is probably more relevant to tokens than the
financial stuff information about.
Okay, who are your officers or directors?
Who owns 5% or more of the security and you have to report
about those things. And even if someone even if a
third party goes out and it requires five Center more of the
of the total outstanding tokens that person is just
independently having nothing to do with the issue, where they're
required to report with the SEC about their Holdings.
So these are the types of these are the types of regulations
that apply Under The Exchange act.
And of course, there are a lot of sort of just pure
market-based rules. Like, like, for example, all the
rules about Securities exchanges, right?
And then having to register, right?
Those are under the exchange act as well.
Yeah, I just wanted to be pleased looping on this thing.
You said, so, yeah, they have been very settlements with the
SEC, right? Like, Paragon being one thing
and a bunch of others and to give mind just elaborating a
little bit on. You said that none of them have
been able to basically comply with live up to these reporting
requirements that they've agreed to in the settlement.
So like, how did those cases play out in the end?
Yeah, I'm curious about that myself.
They basically just totally flaked on the SEC.
They made some preliminary filings the SEC made some
comments and, you know, from what I understand, they just
kind of, you know, scatter to the winds said, they ran out of
money and I'm sort of waiting for the other shoe to drop on
that one. But, you know, it does go to
show that it's look, I don't know.
Let's assume for the moment that that those teams were attempting
to comply in good faith with the order.
I'm not Totally surprised that they were having trouble doing.
So, because it's just such a reporting regime that's designed
for startups. It's designed for something like
apple. You two are like, let's say,
Uber, you know, that that had great funding and really built
up a business over 10 years and then it's ready to IPO, right?
So, I'm not surprised that they ran into problems.
That's an interesting point. I think, like that, that is one
of the things about, I guess, regulation that applies to
crypto that, I mean, we, we talked about this.
Also, with the idea for new, see, in terms of sort of kyc
compliance and things like that, is that a lot of these
regulations were just not meant to be applied to startups.
And Regulators are either having a hard time or not wanting to,
you know, have that regulation evolve.
I mean, in terms of, in terms of the exchange act, I mean, just
broadly, looking at most of the big crypto networks, you know,
based on what you're telling us with regards to the proper
record reporting, you know, insider trading Etc.
It would seem like some of them might be failing to report or
might be failing to be compliant with this exchange act.
Why do you think we haven't seen?
You know a lot of these projects getting sued by their talking
holders and seems like no one's really talking about this.
Let me pick up on two things you just talked about.
So, the one thing I would say about the, you know, just going
back to the point about the exchange act and it being
difficult to comply with there is something called regulation
A+, right? Which was sort of designed to be
an IPO for startups, right? You know, because people do
recognize that this is a problem and they would like companies to
be able to get access to the public market sooner.
So that's why regulation A+ was passed and what enables You do
is raise 50 million from the public up to 50 million and you
have a much lighter reporting regime, still reporting regime,
but lighter, you actually get an exemption from those tougher
reporting obligations for some period of years.
Now, there are some tweaks that might need to be made to that
for tokens. Like, there's a transfer agent,
requirement and stuff, but so there's not no option for
startups. It's just that you have to
decide to use it at the beginning, which would require
that you labeled your tokens as a security from the Beginning
and none of these projects did now as to why more projects
haven't gotten pegged that again, is a complicated
question, you know, I think it's one of the reasons is that the
SEC can only go after so many things.
There's a private right of action as you point out under
the Securities, laws for people who feel like they got ripped
off. A lot of people made money you
know from a lot of tokens and a lot of people who bought tokens
are not the kind of people who make it plaintiffs right,
because my sense is a Of them made out of pay taxes on their
crypto for many years. You know, a lot of the may not
be US citizens, right? A lot of them may not want to
kyc themselves in order to pursue a complaint even if they
did lose money. So, I actually think on the on
the private action side, there's quite a bit of that going on and
on the SEC side there's a lot of.
How do you unscramble the egg we went after some?
It didn't really deliver a good result for investors.
The block one result is interesting, right?
Because They had a lot of money, still.
They paid a really big fine and they weren't required to
register the tokens as Securities.
So, you know, in a sense, it was a big win for the SEC.
I'm not quite sure what he owes holders, got out of it, but on
the other hand, no EOS holders, who from the original sale will
probably damaged because the token went up a lot.
So there's a lot of that sort of thing going on just real
politic, but you could probably see more.
I think the SEC doesn't want to kill the technology so they've
been Judicious about what they've gone after and when and
why kick in telegram have been there two big targets that date
and I think the reasoning behind that is it's a clear case of
cure or two companies that use tokens kind of in lieu of an
equity financing, right? And I think one of the things
the SEC rightly doesn't want to happen in the market is they
don't want to create a strange situation where a certain type
of Of financing that implicates the Securities laws or maybe
ought to implicate. The Securities laws is given
preferential treatment and the whole Market just gets distorted
toward that due to a weird loophole in the laws.
I actually do think they're very smart about what they go after
and they're not just trying to tyrannize the entire Market.
Let's take a step back, we play because one of the things that
you've discussed quite a bit in your post is sort of to say,
okay, let's look at the culture of the cryptocurrency industry.
Let's look at, you know, some of the maybe on this era Behavior,
some of the strange incentives and how, you know, Securities
laws has caused that. So can you talk a little bit
about that? Like what's your take about, you
know, kind of what's wrong in the blockchain industry and what
it has to do with Securities Law What's wrong is basically it's
just a strange species of hypocrisy in effect.
We know why we like tokens people want the tokens to
increase in price. People want to be trading the
tokens people view the tokens as investments in the network, at
the early stage in the team, they're evaluating the when they
thinking about buying the tokens.
They're looking at who the people on the team are just like
they would be if it was a start-up, the people who are at
the in the project there, look, giving up the Token allocations,
just like they would be whacking up equity and a valuable, you
know, potentially valuable hot start up.
These are investments. Let's just view them as
Investments. That's how people think of them.
Right there, are exceptions, of course, crypto Kitty and FTS,
right? Well, whatever.
But for vast, majority of cases, they are investments.
And we've been trying to stick our heads in the sand to try to
get regulatory Arbitrage and argue that it's like buying
cotton candy, you know, at the amusement park or something and
it's just Not the part of point of my article is they can be
Investments and still ultimately not be Securities, right?
Because the SEC or director Hitman from the corpfin division
of the SEC. Came out with this amazing
speech called when how he met Gary plastic about how,
basically, if may have started out as being a security and its
early days and over time, it basically turned into a public,
Commons controlled by no one. And so now it does Securities
laws, just don't really make sense to apply to that.
We need to figure out what that point in time is and Define it
better for people, right? Which is what I think the
purpose of a safe harbor should be, but what we shouldn't do is
just keep pretending that they're not Investments because
it's just not true and it's just kind of dumb and it'd be better
if we could just all admit with the things are and pursue them
for the reasons we want to and then figure out how the
regulations do with it. Maybe just a final points on
this. What do you think have been the
negative effects of people as you sort of describe it?
I guess. Kind of skirting around the
issue so many negative effects, right.
Because if everyone was open about the fact that the tokens
are investments and what regulations applied, then, the
teams could try to do their best to give the the buyers what
they're looking for. His gains they could be like,
Elon Musk is a Tesla. He owns a lot of the stock.
He's always trying to make the stock go up.
Sometimes he gets a little too aggressive with that.
In the SEC gets mad at him, right?
But the teams could be trying to deliver value to the people who
are owed that value because they invested and instead perversely,
they're driven to do the exact opposite.
Thanks for the money. This was basically free money to
us, I'm sorry the token price is going down.
We can't do anything about About it.
We can't get it listed on new exchanges.
We can't Market it and go to the world, you know?
And say why people should be buying this token, because we're
driving value to the platform every day.
That's just crazy, right? I think I saw an interview, you
know, some talk metallic was given a while ago and people
were asking questions of the audience and one guy stood off,
he had the temerity to ask about each price and they like drag
the guy out of the room. Now, imagine an apple
stockholder conference, right? I'm not saying specifically for
a theory on because now it is, you know, fairly far along but
like, imagine an out like an Apple stock and someone asked
him cook about Apple price, and they, like drag the guy out of
the room. This should not be happening,
right? Vitalik should feel free to
answer some question about if price and honestly, I kind of
feel like you should feel at least a little bit of an
obligation as say, something about each price because after
all, that's why the vast majority of the people have
bought it. It's just gotten topsy-turvy
because of this desire to try to pretend that it's not a security
and doesn't have investment reasons for buying it.
I love the clarity and what you just said.
I just want to point that out. Good.
Let's say we won did as you propose.
What would that look like? Hester Pierce, right?
Commissioner peers, came out with a safe, harbor proposal
recently. And without getting into, too
much, in the weeds audit, which he proposed is, is basically let
these networks launch. Just only apply the fraud rules
to them for the first three years.
And then after three years test, basically, whether the network
is mature, that may be overlap somewhat with sufficiently
decentralized and decide whether their securities, I think that
goes a little far I don't even know if the SEC has the power to
just say yeah we're just going to say that we'd like something
so much the Securities laws. Don't apply to it for three
years, just to clarify they said you.
Okay, Network's launch and only fraud rules apply would that
mean that for example, public token sales like we saw in sort
of 2017 like you could do that sort of thing.
Yes. And not just sell to accredited
investor and all that. Yeah, you could tell to anyone.
I don't think that's going to end up being supported.
You know, by people outside the space or by many people outside
the space, but I do think what we should do.
Right is clarify this point of, when does it stop being a
security if it starts out being a security?
When does it stop, right? Because a lot of even the most
conservative members of the, the staff of the SEC seem to be
somewhat aligned with that approach, right?
A even Clayton, you know, seems to be somewhat aligned with that
approach. What I think would look like is
somewhat like what block stack did?
They did a regulation A+ offering.
They had to now to get that in and of itself is somewhat
expensive and probably too expensive.
The SEC could do things to lower the cost of doing a regulation
A+ offering. They could do things.
They can make a more specific, more crypto specific variation
of Reggae plus I believe that's within their power.
So for example, they could say that right now, there's a rule
that if you did a regulation A+ offering for or an equity
security, you get this kind of like indefinite plus 2 year-ish,
reprieve from rule 12, G. If you use a transfer agent, you
process all transactions through a transfer agent.
Well, this is crypto. We don't want to process
transactions through a transfer agent that's going to make it
useless but the SEC could say, okay if it's crypto the
blockchain is the transfer agent.
They can totally do that and in fact block stack took that
position in its filing and the SEC.
By the filing you could use something like that reason.
Why? A lot of that's not enough for
many people in the industry is they say well blocks that gives
and trading on coinbase, this is very bad, right?
Okay. What I say to that is coinbase.
Get your act together, go register as Securities Exchange,
why can't you do that? Create a crypto.
Create a coinbase, crypto Securities Pro or whatever,
right? And have that be registered as a
Securities Exchange and then those things could train there.
What about dex's personally, I think that a true Dex is just
facilitating, a peer-to-peer trade and I don't believe that
that ought to be required to be registered as a Securities
Exchange. The SEC.
If they agree with me on that they could clarify that publicly
to the world, right? And that would be a way that
even non reggae plus, even sort of things issued in private
placements that eventually become freely trading.
You know, those could trade on their even and that would be an
even less Expensive path. So, there are these ways.
I think what we should do is not try to keep fighting the basics
of American Securities Law, but focus on this, this idea of
mutation and say in the meantime, let's improve the
crypto Securities rails. So that even when things are
securities, they can trade relatively freely and with
people being protected and hey, by the way, there are also all
still all these things called like stos and stuff like that
like tokenize stock and things like this where it's never going
to stop beings. Already and an incidental
benefit of improving the crypto Securities rails for tokens that
are temporarily Securities is it will also improve the crypto
Securities rails for all those things and that may actually
become the basis for fundamentally improving.
The infrastructure of all of our public Securities markets.
This type of approach, I think is more holistic, more
forward-looking is actually Embraces crypto more in the long
term and I think it's what we should do.
Just to clarify that. So what you saying, basically
what you're proposing is that like a project could go and
raise funds, maybe through some sort of, you know, regulated reg
the exemptions are selling to accredited investors or maybe
there could be something like a reggae plus something like a
block stack did but you know, maybe cheaper simplified
version. That's more kind of geared
around crypto. So what exactly does this?
Let's say there was this three year You're safe harbor.
Like what does that do? Well, so under commissioner
Pierce's version, the part you just mentioned about needing
reg, D or reggae plus, you wouldn't need those.
You just get out of everything for three years, and coinbase
could trade the tokens for three years, even though their
securities. Under my version that wouldn't
be the case you would need, you know, reggae Plus or you need to
do reg D. They wouldn't be able to trade
on normal coinbase, but you'd also have some benefits, right?
You wouldn't have to like immediately be go become Apple.
There's a difference in Vision there.
Which way will it? Go?
I don't know, right? The key thing that ever that
both proposals have in common though, is you have to pin down
some type of concept and you have to tell people in advance,
when would this no longer be considered?
Our security. That's the concept of network
maturity under commissioner Pierce's definition.
It's that. The either the network is
functional for its kind of originally advertised purpose or
its kind of no longer controlled by anyone under my version.
It's a kind of a three-prong test its that there's, there's
no longer functional control of the network.
There's no longer economic control of the network and the
initial development team has, sort of fulfilled, all of its
promises. Is performed the investment
contract. So, to speak.
The investment contract has been performed.
You're no longer is an investment contract and it's no
longer a security, that's kind of the idea, but that would
imply that there would need to be an investment contract.
That's right to begin. With which in most cases, there
are not any sort of formal investment contracts in these
cases under my version, one of the ideas would be you file with
the SEC at the beginning in order to take advantage of this
Safe Harbor. And you basically say with the
investment contract is, so now, instead of it being a bunch of
Of implicit fuzzy promises. Are they promises?
Are they not promises? Are they merely forward-looking
statements in a white paper? And in some forums and in some
slack channels, you now have the benefit of everyone.
Knowing we are the founders of this project here, is what we're
going to do. When we do this, we will go away
and the network will have to stand on its own.
And I just think that's better for everyone for the team for
the buyers for the market and it lets you kind of say yeah,
instead of the investment contract.
Being applied by law and others. One written down on paper, and
it's actually like objectively measurable.
Do you think that this aligns with the incentives of Founders,
like in your proposal? Do you feel that everyone's
incentives are aligned in a way? That the founders can feel that
they have made money from this project because they're also
looking to make money, right? Like let's be honest about that
by having an investment contract, in which they promised
to it at some point. Leave the project.
Can they still be aligned? That sense?
By the way, they don't have to leave.
They just have to stop being sort of the biggest contributors
and they have to give up control.
That's kind of the more important thing, right?
If you're contributing, you don't have control at that
doesn't implicate. The Securities laws the one way,
it's worse for them, right? Is that the same way that Travis
kalanick had to wait? You know, until sort of an Uber
IPO until he could really cash out?
This would go kind of in stages, right?
Initially the, you know, Founders would have something
that's the relatively illiquid and hard to price, just like in
a normal startup over time it would become more liquid and
easier to Price, Right? And they would have exit
opportunities along the way, and they would probably want to
titrate that over time. So that, you know, they're
selling a little bit at each stage of the way.
And if they've done their job, well, the value of the token
will go up and up and they'll actually want to hold onto it.
They won't want to sell at the earlier stage.
They'll be Wally wanting to sell as late as they can.
I think it align the incentives way better, it's more like a
traditional company trajectory. What do you think the role of
Foundations is in this context? And what are some of the
criticisms that you have with regards to the way that many
icos have structured themselves as Swiss foundations?
I'm not trying to impunity one, right.
A all these projects are doing good work etc.
But from you know, kind of a let's cut through the noise
here. The foundations are basically,
you know, they're getting Massive tax benefits, right?
Because the proceeds of the token sale are not treated as
income. Ironically, if they were sold a
Securities, they wouldn't be taxed as income either, right?
Because they be Capital contributions but you know,
really, I see it. As you know, that's another
Distortion because the people didn't want to call them
Securities. Now suddenly, it's like, oh, I'm
saying for Securities Law purposes, I'm selling this
product, oops. That means I'm going to be taxed
on all this stuff, but really I just want to use it as capital
to build the project. So I now need to find some other
way of not getting taxed on it. Let's say we're not really a
company. Let's say we're a non-profit but
I think a lot of these foundations are basically run
like companies. They're basically right.
You know, because all the people in them, hold a bunch of the
token, everything you're doing is driving profits to those
people, you know it's just happening in a disguised way.
That's really what I think is going on it would be better
looking be better if they were just companies.
To be honest with you I could just you know nakedly / super
what they're actually doing you know which is driving value to
this instrument and Hitting the people who bought it and the
people who work at the foundation who hold it, I think
woodsy cash has done to decentralized governance and
again during a little bit of different boat, they never did
an icy. Oh so who knows if they're
thing? Exactly.
Was covered by the Securities laws to begin with but it's very
interesting, right? Because the foundation is sort
of one player that's contributing value.
There's also a company called the electric Coin Company.
That's a for-profit thing that has Venture investors.
That's some of the things that does are Related to Z cash, some
not and they've set up a complicated sort of to taunt
between those two main players for how to govern the network
and that looks pretty decentralized to be.
But most of them are not don't have that going on, right?
It's really the foundation. Is that the elephant, and
they're basically running the show.
Just a brief introduction on the foundation's first.
I'm personally, I actually find it.
It's kind of a nice vehicle in that they do have a sort of like
explicit purpose, right? Like at least in Switzerland,
right here, they have like a description of like, okay, this
is what the money has to be spent on and then they're like
all the didn't supervise. And so there is kind of actually
it's a little bit like what you described in the sense that this
kind of like some sort of Promise made.
And then the funds have been used to that, you know, it's
very different from I think I love block one date, where you
have this for profit came in on company and like they can do
whatever they want with the money that this know, every
child, I think they did also pay out like some massive dividend,
right to the shareholders what I think should be you know, in the
United States as a pure corporate law Movement, we have
this new trend that even some of the old school.
Delaware law junkies are getting into now called public benefit
corporations right which Operations, that may be run for
profit in a certain sense, but are able to, they're not sort of
solely for the benefit of their stockholders.
We've Just Begun, scratching the surface on the potential for
that, but I think that kind of new entity which is sort of like
it's for the public benefit, but it's not exactly.
Not-for-profit is kind of what might end up ultimately being
the right vehicle for these open source software Network,
Commons, You know, to be governed under but no one's
really, you know, kind of fully explored that yet you have any
sort of coherent pieces for how you think it should play out.
Now I'm curious, what do you think will actually happen?
Like what's your prediction of how we see this thing develop in
the next year or two years or beyond that?
I have no idea man. I won't even say flip a coin,
you know, get a Dungeons and Dragons you know Dice and roll
that right because that's got like what I'd like 16 size or
something and no one knows. It's too crazy man.
I mean that's what that's what keeps me in the space.
Don't forget, we've got so many other X Factor's out there.
Like, what will the cftc do about defy, right?
And then it's all the swaps, you know, and synthetic derivatives
that are being created in defy. And what will fincen do?
You know, secretary just sort of the treasury secretary just kind
of sort of threatened last week that a bunch of new guidance and
or regulations are coming about that.
So there are many X Factor's I couldn't tell you.
I could see something. I would say is equal odds that
we give free rein to ico's again.
And that, you know, there's like another like massive Crackdown
you know where everything has to go underground and some of it
depends on how the next election goes and who gets appointed as
the next SEC commissioner and All this kind of thing it's
fascinating and no one knows we have the telegram case.
I think this week, this week, the motion for summary judgment
on whether the distribution of g under telegrams pre purchase
agreements. With this investors should be
enjoined on the basis of Securities laws that could have
a huge effect which way that goes down and I don't know which
way it will go down. It would be great for all these
Regulators, the cftc, the Securities Commission,
everything like to align on some kind of coherent regulation in
all their respective jurisdictions, but that's never
going to happen. No, I don't know.
That's anything that involves like lots of coordination or
like, oh, well, create a new agency and it'll be a nuisance
like that's going to be the hardest of, all right?
And therefore, it's also the least likely, I would say
there's sort of a final topic I wanted to dive into To a little
bit, which is, you know, we've talked about the SEC and US
Securities Law, pretty much the entire episode.
Now, of course, blockchain space is, you know, probably the most
certainly, one of the most kind of international Global
industries that there is and kind of will almost every
project is global from the get-go.
All these networks are team situated entities in many
places, token holders users all over the place.
How do you think that impacts first of all what makes sense
for the u.s. to do and like how do you assure the will approach
that and you know kind of like how this is all going to play
out. It's very tough, right?
That's the objection that a lot of people raised her like.
Well, look for in jurisdictions are much more liberal about
this. We can't have everything out of
sync, you know, the US needs to kind of get in sync, personally.
People are going to hate me for this.
People are going to think I'm a jingoist.
I do think that World Financial Market Regulators tend to
ultimately follow the United States, right?
Part of that is because, you know, the United States and its
International proxies start strong-arming.
Little local jurisdictions like Malta into doing, you know what,
it's like, look at what happened with Panama.
There's a great example, in Panama something called in the
United States. Bearer Shares are illegal.
You guys know what Bearer Shares are?
It's like a stud company issues, a stock certificate.
It's like, whoever is physically holding this stock certificate
in their hand owns a million shares, you know, of this
company, right? That's basically what it is.
That the last state in the United States to ban.
Bearers certificates, was Wyoming?
That was in 2007. I think there are legal in every
state. Sorry, why are they illegal in
the US? There are great tax Dodge.
Right. So basically, the federal
government, you know, pressured, all the states, to ban this
because it's an amazing just like crypto the same thing, you
know, who now hates crypto the most out of every agency the
IRS. But Panama and worldwide most
jurisdictions. Now been barristers Panama was
like the Haven. It was like, whatever the Cayman
Islands or Gibraltar are for tokens, right?
Panama was that for like companies that want to issue
Bearer shares. Eventually even they had to
capitulate right? And they didn't want to like go
so far. They want to totally lose face
by like Banning them but they set up this like complicated
structure where they have to be held in you know, effectively
they totally nullified them. It took a little while but all
the every time these like special jurisdictions come up
that are kind of like, hey come To us because we give you better
laws for the cool stuff you want to do it, never lasts the bigger
countries, that want the tighter regulations, always win.
And the other thing I would say is that the u.s. laws are
different from other Securities laws, really just in the sense
of these investment contract Howey test thing, right?
Where it kind of tends to suck everything in and and other
jurisdictions don't have that. But as these proof of stake
networks get more popular or existing proof-of-work, networks
transition into proof of steaks. And you have voting, you have
staking to get network rewards, right?
And you have companies like cracking that's going to make
that incredibly easy for people to do with putting in no work
and these sorts of things quesos were you vote and it's this
automatic upgrade when Regulators.
Even I think outside of the US start looking revisiting their
2017. If guidance in light of those
things, I think they're going to have a rethink because that It
starts to look like Securities under the laws of nearly any
jurisdiction, I don't know, ultimately, but if I had to bet
I would bet that the international laws start
becoming are more likely to start becoming like the u.s.
laws. Then the u.s. laws are like a
start becoming like the international laws which is why
I want the u.s. to say that within the laws.
You can have this Evolution and that once it's of the real
cypherpunk deal, decentralized, it's a peer-to-peer thing and
we're not trying to get in the middle of that that to me would
it'd be an incredible result. Well, that was certainly be
desirable and let's hope that things go that way.
I guess you're right. I mean, one of the things that
we'll have a massive influence on this is the result of next
year. S election, it's unfortunate to
consider what the results of that might be.
But I guess we'll have to see what happens.
Then, maybe we'll have you on again after that happens.
Depending on the result. I would love to thanks for
coming on. Get my pleasure, guys.
Thank you so much for having me. Thank you for joining us on this
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