Rules Make the Game
Creating Clear Frameworks Is A Precursor To Winning the Crypto Regulatory Arbitrage Game
When we talk about arbitrage, we’re used to thinking about financial arbitrage, the opportunity to buy an asset in one market and sell it for a higher price in another. Financial arbitrage has long been a way for sophisticated businesses to turn a buck, but it’s not the only type of arbitrage available to companies looking to generate growth and profits.
Regulatory arbitrage is another flavor of advantage seeking, and it refers to the practice of jurisdiction shopping, of finding the place with the friendliest laws for your particular industry. Sometimes we see regulatory arbitrage take the form of incorporating in tax shelters or registering vessels in far away ports, but it can also take the form of where to build a power plant or locate a logistics warehouse.
In an apparent paradox, rather than abandon countries with lax regulation and oversight, many blockchain-based companies are fleeing to countries with robust regulatory regimes. “This may sound counterintuitive, and downright antithetical to the cypherpunk ideal of privacy and anonymity on which the blockchain was built, but in a global crypto regulatory landscape that ranges from outright bans to red-carpet welcome mats, the countries with the clearest set of regulations will attract the most businesses.”
It should be no surprise that when the regulatory picture is uncertain, businesses tend to seek out jurisdictions where the laws are clear and the rules of the game are fairly enforced. In case you haven’t heard, the regulatory landscape in the U.S. is anything but certain, the rules of the game anything but clear or fairly enforced. So it’s no wonder that digital asset companies are leaving the U.S. for more predictable pastures. The U.S. has lots of early-morning work to do if it wants to bring these potential cash cows back home.
Rules Make the Game
Creating Clear Frameworks Is A Precursor To Winning the Crypto Regulatory Arbitrage Game
Author: Hiro Kennelly
We’re going to start with a game. I’m going to group ten countries into two sets:
In which set of countries would you prefer to set up your next corporate headquarters or subsidiary?
If you’re working in the digital assets space, you might be surprised to know that the United States falls within Set B, countries that take a hostile approach to crypto. Set A, as you probably guessed, is a short list of countries with blockchain-friendly laws.
Even people who pay casual attention to the news cycle, let alone the echo chamber that is crypto journalism, understand that the United States is struggling to offer any sense of clarity as to how blockchain-based businesses should operate within that country. The U.S.'s two regulatory bodies who could naturally claim jurisdiction over digital assets, the Commodities and Futures Exchange Commission and the Securities and Exchange Commission (SEC), can’t agree on how to classify these assets, let alone how to apply the patchwork of laws that has come into place since these agencies were created nearly 50 and 100 years ago, respectively. The White House sends mixed signals but is generally bearish on digital assets, and Congress, despite what may be characterized as recent progress, has completely failed to keep up with countries like Hong Kong and Dubai that have provided regulatory frameworks for digital assets.
In all this uncertainty exists an opportunity for countries to become the go-to jurisdiction for a founder wishing to start a digital assets business, or the place to relocate a blockchain project when it gets regulated out of its home country – that is, countries have the opportunity to take advantage of regulatory arbitrage.
Understanding Regulatory Arbitrage
Most of us, at least in a faint sense, have some understanding of arbitrage - the ability to take advantage of opportunities afforded when the same asset is priced differently in two or more markets. We are used to thinking about arbitrage in financial terms: you buy an asset for $100 in one market and sell it for more in another, pocketing the difference.
Apart from financial arbitrage, there is also regulatory arbitrage: the opportunity afforded to regions or countries with regulations which are friendly to a particular industry. A classic example of this is companies setting up corporate headquarters in jurisdictions with little or no corporate taxation. Of course, not all regulatory arbitrage involves taxation, and the lighter the physical footprint of the business, the more arbitrage opportunities exist.
Thomas Friedman may have written The World Is Flat nearly 20 years ago, but even he would have a hard time imagining just how quickly the barriers to a global workforce have been dismantled. Nowhere is this more true than with people and projects working with blockchain-based technology, where it’s common to have project teams spread across the globe. Apart from using many web2 tools to optimize async work, there are even crypto-native tools designed specifically for global coordination, and that’s not taking into account the borderless magic internet money that pays for much of these activities. Many digital assets projects don’t even yet claim a home jurisdiction for business purposes, operating as a sort of supranational digital organization.
Very few industries have a lighter footprint than blockchain.
The U.S. Must Regulate To Compete
Against this backdrop, the U.S. and other countries who wish to compete to attract both blockchain-based startups and more established projects must create comprehensive regulatory frameworks for digital assets. This may sound counterintuitive, and downright antithetical to the cypherpunk ideal of privacy and anonymity on which the blockchain was built, but in a global crypto regulatory landscape that ranges from outright bans to red-carpet welcome mats, the countries with the clearest set of regulations will attract the most businesses.
The U.S. may have the murkiest regulatory landscape of all and it’s hard to tell whether it’s intentional or the result of some systemic ailment. Regardless, companies are leaving, and even industry champion Coinbase may be able to hold out for only so long. Even so, Coinbase is suing the SEC for regulatory clarity, but the SEC says it need not create new rules and that any new rules will take a long time to promulgate:
Knowing that the SEC enforces the laws created by Congress, forward-thinking legislators are introducing comprehensive crypto regulations in the U.S., but there’s no real clear sense that any have a chance of passing the House and Senate, let alone being signed into law by a largely anti-crypto President. In that sense the SEC may be right that rules are a long time coming, because there does not appear to be the political will in Washington D.C. to create a comprehensive regulatory framework for digital assets.
It’s coming into election season for 2024, and political winds are fickle. With some major candidates running, in part, on a clear anti-crypto platform, things may seem bleak. But we may yet see Congress unify around a shared sense of purpose to ensure that the U.S. retains its global internet technological dominance earned during the past 60 years. The U.S. took the lead in building the early iterations of the internet, and it’s up to Washington to determine whether the U.S. will fight to continue to lead, or whether it will decide to cede its position as the world’s web3 innovation hub. The choice, or lack thereof, is clear.
Hiro Kennelly is a writer, editor, and coordinator at BanklessDAO, an Associate at Bankless Consulting, and is still a DAOpunk.
🎙️ Early Podcast
A Podcast About Web3 Business from Bankless Consulting
Early Ep. 14 Kristie Holden: Disrupting Customer Loyalty Programs
In this podcast episode, Kristie Holden discusses her work on Web3 loyalty programs and strategy and marketing for fashion and music brands, emphasizing the shift from buying to building a brand in Web3. She explores the need for traditional companies to adopt Web3 loyalty programs and highlights the pioneering approach of Starbucks with their Odyssey program. Discussing the benefits of these programs, she points out their potential for easier tracking of customer preferences, reducing counterfeits, and creating new revenue streams. She also delves into the growth of the Metaverse and its potential drivers. Holden further illustrates the consumer advantages offered by Web3 loyalty programs, such as investment opportunities, deeper brand connections, and the chance to participate in market research.
The episode concludes with an in-depth exploration of her work with Purple Meta and her blog, BlockchainBabe.xyz, as well as her dream Web3 project, offering listeners valuable insights into the future of Web3 loyalty programs and their potential impact on various industries.
Web3 Business Developments
Curated News on Recent Blockchain Adoption and Innovation
Is the World Leaving America Behind on Crypto Regulation?
Author: Darren Kleine
🔑 Insights: There is currently a stark divide in the approach to cryptocurrency regulation between the US and Europe, which may contribute to an evolving global financial landscape. The European Union has recently passed its MiCA (Markets in Crypto Assets) legislation, which seeks to provide more services to crypto firms and presents greater regulatory clarity to those in the digital assets space. Conversely, the US has had a fragmented regulatory approach, leading to inconsistent guidelines and a lack of assured compliance. This differing stance might leave the US behind in the growing cryptocurrency industry, potentially ceding its influence to regions like Europe that offer clearer regulatory landscapes. In order to keep up, the US needs to provide regulatory clarity, giving businesses the benefit of:
Reduced Risk: Regulatory clarity minimizes business risks by explicitly outlining compliance requirements, thereby avoiding penalties and legal issues.
Increased Confidence: Transparent and predictable regulations boost investor confidence and facilitate informed business decision making, fostering greater investment and economic growth.
Innovation and Development: Defined regulatory frameworks promote innovation, encourage market entry, and stimulate competition, leading to an enriched array of consumer choices.
“The great thing about MiCA is it is a genuine attempt to actually tell the industry what the rules are so they can figure out how to comply.”
–Jake Chervinsky, Chief Policy Officer Blockchain Association
National Security in the Age of Digital Innovation: The Critical Role of Crypto
Author: Faryar Shirzad
🔑 Insights: Crypto has the potential to revolutionize finance, despite its volatility. For the US, integrating crypto into its digital transformation strategy could enhance its financial leadership and national security. There are inherent risks in transforming industries with digital assets, but neglecting this technology could put the US behind in the global tech race. Therefore, a comprehensive US crypto strategy could include:
Making a clear government commitment to crypto, mirroring the approach taken during the early period of the internet.
Offering regulatory clarity to drive sector growth, in line with other countries' comprehensive frameworks.
Embracing web3 and tokenization technologies to empower businesses, stimulate innovation, and resolve issues with current digital intermediaries.
The Case for Regulating, Not Banning, Crypto
Author: Kristin Smith
🔑 Insights: Banning crypto is a misguided objective that would only harm Americans and overlook the industry's inherent benefits. Given the technology's broad acceptance, global reach, and the beneficial impact on various sectors, regulation should be prioritized to optimize the potential and manage the risks associated with crypto. Here's why:
Banning crypto is unlikely: Due to the already prevalent support from Congress, courts, and the international community, efforts to ban crypto would be met with resistance. Significant support for regulation, not banning, is coming from both sides of the political aisle. Attempts to suppress crypto through regulatory bodies would likely be thwarted by the courts due to the 'major questions' doctrine.
Enforcing a ban is nearly impossible: A crypto ban would require exhaustive enforcement actions by bodies such as the SEC, which would be practically infeasible given the sheer number of existing tokens. It could also financially strain such entities due to extended litigation.
International acceptance of crypto: Crypto is globally recognized, and many nations are vying to become crypto leaders. A US ban would merely facilitate other jurisdictions to compete for American talent and could re-import uncontrollable risks. The International Monetary Fund asserts that comprehensive regulations are superior to blanket bans.
Misallocation of resources: Focusing on banning crypto could lead to overlooking real risks within the financial system, as exemplified by recent bank collapses. Meanwhile, the crypto industry's risks are overstated and not unique to it. Misdirected attention could also result in neglecting the prevention of harmful crypto scams.
Underappreciation of crypto's benefits: Crypto's advantages outweigh the harms, with its positive impact visible in sectors such as inflation hedging, humanitarian aid, creative industries, and the advancement of an open internet.
Stand with Crypto
The Stand with Crypto commemorative NFT, featuring a blue shield, represents unity among the crypto community advocating for reasonable crypto policies. It is a symbol of belonging to a growing community that believes in the future of crypto.
The NFT, which has no intended value or utility, can be minted for free to show one's support for the cause. Supporters are also encouraged to display a shield emoji next to their Twitter names and sign up to become Crypto435 advocates. Any fees collected from minting this NFT collection will be donated to approved organizations through a Crypto Advocacy Round with Gitcoin.
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