From the prosecution of "An", we can see how difficult it is to mix crypto assets in the United States

A few days ago, Sister Sa analyzed for everyone the case of a certain cryptocurrency tycoon and his company, who were suspected of violating the US Securities Act of 1933 and the Securities Exchange Act of 1934, issuing and selling illegal securities crypto assets to the US public that were not regulated by the US Securities and Exchange Commission (SEC), and fraudulently promoting securities crypto assets to the public by manipulating the securities market through "wash trading", and were prosecuted by the SEC. After this incident, the US Commodity Futures Trading Commission (CFTC), another regulatory body for virtual assets, also launched a heavy blow against another leading crypto asset trading platform, "An".

Today, Sister Sa’s team will sort out the full picture of the incident for everyone, and use this incident as an opportunity to explain to everyone the virtual asset regulatory system in the United States and how the CFTC successfully “commoditized” cryptocurrencies.

1. What happened to Mou An?

According to Reuters, on March 27, local time in the United States, the CFTC filed a complaint with the Chicago Federal Court, formally filing a lawsuit against one of the world's largest cryptocurrency exchanges, "A Certain Exchange" (mainly including three entities, Binance Holdings Limited, Binance Holdings (IE) Limited and Binance (Services) Holdings Limited) and its CEO and founder Zhao (commonly referred to as "CZ"). In the indictment, the CFTC stated that CZ operated an "illegal" exchange and had been conducting "fake" compliance projects (i.e., superficial compliance but actually failed to achieve compliance results) for a long time to maintain high liquidity of assets. The CFTC also accused Samuel Lim, a former executive of CZ's Certain Exchange (who served as Binance's chief compliance officer from 2018 to 2022), of "deliberately evading" U.S. laws and "implementing a planned regulatory arbitrage strategy."

After sorting out dozens of pages of CFTC prosecution documents, the Sajie team found that the CFTC mainly believed that An had two major "crimes":

(1) An provided regulated products or services to the U.S. public without registering with the CFTC as required. The indictment stated that An provided futures trading and "illegal over-the-counter commodity options" directly to the U.S. public without registering with the CFTC as a merchant that can collect futures commissions, a designated contract market, or a swap contract execution institution, which is a violation of the U.S. Commodity Exchange Act ("CEA"). During the illegal operation, there was also a lack of supervision, no KYC requirements or anti-money laundering measures were implemented, and no effective anti-tax evasion supervision was taken.

(2) Binance and its leadership, including CZ, proactively provided major customers with a path to circumvent their own compliance measures. The indictment states that Binance proactively "guided" some customers to use VPN and other scientific Internet access tools to conceal their true location, and then allowed such customers with unknown identities and locations to trade normally on Binance's platform, in violation of the CFTC's regulatory rules. In addition, CZ and other senior executives also "guided" some VIP customers in the United States and key American employees who controlled trading decisions and trading algorithms to set up "shell companies" to open accounts and trade on Binance in order to circumvent Binance's own compliance measures (this is false compliance).

There has been no significant progress in the case so far, and it will take time to observe, but Sister Sa’s team believes that the incident will most likely end with a huge sum of money being paid by a certain An to achieve a settlement.

In this case, a key question worth considering is whether the CFTC can regulate crypto assets ex officio? And what kind of crypto assets are within the scope of CFTC regulation?

2. CFTC, an aggressive path to crypto asset regulation

As mentioned earlier, CFTC is the abbreviation of the US Commodity Futures Trading Commission. The regulatory agency was established in 1974. The main responsibilities and functions of the CFTC are to regulate the US commodity futures, options and financial futures and options markets, protect market participants and the public from fraud, market manipulation and unfair operations related to commodity and financial futures and options, and ensure the openness, competitiveness and financial reliability of the futures and options markets.

For financial products, the United States has adopted a decentralized regulatory strategy, dividing financial products into securities and bulk futures commodities for departmental regulation. The SEC regulates "investment contracts" that constitute "securities", while the CFTC is responsible for regulating "commodity" trade for investment purposes such as commodity futures. It is worth mentioning that treating "securities" as investments in enterprises and commodities as "things" for binary regulation is actually a relatively simple regulatory approach, which is very likely to cause regulatory conflicts. As Paul Grewal, the chief legal officer of a certain security company, said in the case of its prosecution: "Securities can obviously also be commodities. The specific definition depends entirely on when, at what time, and which regulatory agency you ask." Therefore, most countries in the world currently adopt the strategy of the Securities Regulatory Commission to uniformly regulate securities and futures products. For example, my country's Securities Regulatory Commission is responsible for unified supervision of the securities market and the futures trading market.

So what constitutes a “thing” that should be regulated by the CFTC? According to Section 1a(9) of the Commodity Exchange Act, the term “commodity” means wheat, cotton, rice, corn, oats, barley, rye, linseed, grist sorghum, milled flour, butter, eggs, potatoes (Irish potatoes), wool, woolen garments, fats and oils (including lard, tallow, cottonseed oil, peanut oil, soybean oil and all other oils and fats), cottonseed meal, cottonseed, peanuts, soybeans, soybean meal, livestock, livestock products and frozen concentrated orange juice, and all other commodities and articles, except onions and movie box office receipts (or any index, measure, value or data relating to such receipts) and all services, rights and interests now or hereafter dealing in contracts for future delivery (other than movie box office receipts or any index, measure, value or data relating to such receipts).

It can be seen that the Commodity Exchange Act of the United States adopts an enumeration + generalization legislative model for the definition of "commodity". In addition to the commodities listed one by one in the bill, as long as they meet the legislative generalization standards, they can be regarded as objects that should be regulated by the CFTC. The legislation is extremely open.

Relying on the ambiguity and openness of legislation, the CFTC has continuously "indirectly" expanded its regulatory power by initiating lawsuits against various commodity transactions through judicial precedents. In history, it has initiated several lawsuits similar to the SEC Howey Test to achieve the purpose of regulating various commodity trades. In the field of crypto assets, it has reached a definition of "commoditization" of cryptocurrencies through a series of precedents such as the 2018 CFTC v. MyBigCoinPay fraud case, and established its own regulatory power based on this.

3. Cryptocurrency has been successfully “commoditized” under the efforts of the CFTC

In the indictment against An, the CFTC directly stated that digital assets such as Bitcoin, Ethereum and Litecoin should be identified as "commodities". So, specifically, how did cryptocurrencies become "commodities" under the efforts of the CFTC? As mentioned earlier, due to the open definition of "commodities" in the U.S. Commodity Exchange Act, the CFTC has accumulated a series of precedents supporting that cryptocurrencies are "commodities".

In the 2018 CFTC v. MyBigCoinPay fraud case, Judge Rya Zobel determined in a ruling that the virtual currency MBC issued by MyBigCoinPay in the case could be considered a commodity because such virtual currency could be traded as a subject in several exchanges and was also linked to futures contracts. In the August 2018 CFTC v. Mcdonnell case, Judge Weinstein of the Eastern District of New York "affirmed the broad definition of commodities in the Commodity Exchange Act (CEA) and the CFTC's authority to prosecute commodity fraud involving virtual currencies." Similar cases include the CFTC v. Bitfinex case and the CFTC v. Coinflip case.

Therefore, a simple conclusion is that any virtual currency transaction that complies with Section 2(c)(2)(D)(i) of the U.S. Commodity Exchange Act will be deemed a "futures transaction" under U.S. law and should be conducted in accordance with the regulatory requirements of the CFTC; unless the transaction of such cryptocurrency meets the exceptions provided in Section 2(c)(2)(D)(ii) of the U.S. Securities Exchange Act.

4. Last words

The Sajie team will continue to pay attention to the case between An and the CFTC and bring you the latest analysis. Judging from a series of recent practices of US regulatory agencies (mainly the SEC and CFTC), the US regulation of crypto assets is moving towards a more stringent path. At the same time, we can also see that the traditional decentralized financial regulatory system in the United States is experiencing unclear regulatory boundaries and regulatory conflicts. This regulatory conflict will eventually increase the compliance costs of the main body of crypto asset operations in disguise, and ultimately lead to market damage. Therefore, how to straighten out regulatory conflicts and creatively resolve regulatory contradictions will be an urgent problem for the United States.