New York regulators threaten crypto’s festive spirit

Hello and welcome to the latest edition of the FT’s Cryptofinance newsletter. This week, we’re taking a look at US regulators’ powers to rain on crypto’s parade in 2024.

As Christmas approaches, there are no shortage of bullish predictions for 2024 around the crypto market. After 18 months of misery and failures personal and corporate, confidence is coursing through an atrophied system.

Bitcoin, developed by mysterious creator Satoshi Nakamoto, is comfortably above $40,000 and has been predicted to go as high as anywhere between $60,000 and $250,000. After all, it’s the time of year when a group of believers pronounce a man never seen in public as a saviour who promises a better future.

It is not the only sign though. Alternative tokens ether and solana have surged 10 per cent and 18 per cent respectively, and the total value locked into decentralised finance projects has increased to $52bn, a 40 per cent rise in the past three months.

Even NFTs — long declared dead — have sparked a return with marketplace Blur recently snapping up almost 80 per cent of trading volume, according to data published by The Block.

The narrative underpinning the surge is a mixture of speculation that the SEC will approve a spot bitcoin ETF, a scheduled halving of bitcoin’s supply that is meant to super-charge the coin’s value, and a belief that the US will cut interest rates extensively next year, ushering in a fresh injection of cheaper money available for speculation.

But if there is one thing the crypto market has taught us, it’s that there is always room for a strong dose of FUD (read: fear, uncertainty and doubt). In Charles Dickens’s classic tale A Christmas Carol, the ghost Jacob Marley appeared to warn Scrooge to atone for past sins committed on the way to making his fortune.

Playing the role this year is New York attorney-general Letitia James, who offered a vision of 2024 when she sued crypto exchange KuCoin for failing to register as a securities and commodities broker dealer, and falsely representing itself as an exchange.

The exchange paid a $22mn penalty, including $16.7mn to repay 150,000 New Yorkers, and agreed to cease operations in the Empire State.

This may sound like retreading old ground. Coinbase and Binance were hit with the same charges by a higher authority — the Securities and Exchange Commission — six months ago.

New York’s case matters because it had argued, when it brought the case in March, that ether was a security. Not even the SEC and its hard-charging boss Gary Gensler has made such an assertion, because it’s hard to conclusively prove people buy it with the expectation that it will produce a return.

James’s view was that ether relied on the efforts of third-party developers in order to provide profit to the coin’s holders. If so, that opens up vast areas of the market to US litigation.

Ether isn’t just the second largest cryptocurrency behind bitcoin, it’s also the engine that drives just about all activity in several pillars of the crypto space, including decentralised finance, NFTs and gaming. 

“Ether being classified as a security would be a watershed moment for the crypto industry,” added Charles Storry, head of growth at crypto platform Phuture. “This could redefine the regulatory landscape and impact the entire market, bringing any new-found momentum to an abrupt stop.” 

The NYAG settlement did not by name describe ether as a security, but said: “KuCoin admits that it operates a cryptocurrency trading platform on which users, including users in New York State, can purchase and sell cryptocurrencies which are securities or commodities as defined under the laws of New York State.”

The settlement could have particular implications for DeFi, a form of crypto trading without a centralised authority. Regulators have long had concerns that DeFi markets lack the very entities that governments turn to for help in enforcing the laws against money laundering — bankers, brokers and money transmitters that stand between people and markets.

“DeFi is the one frontier that regulators are having a particular challenge with, in terms of how to oversee these very global blockchains. This is potentially one way in which New York state is looking to assert some jurisdiction over it by going after ether,” Yesha Yadav, law professor at Vanderbilt University, told me. 

So don’t let the industry’s narrative fool you: crypto remains firmly at odds with US regulators. At the end of A Christmas Carol, Scrooge repents and becomes more generous spirited. It remains to be seen if crypto companies part with their money to the authorities quite as voluntarily.

What’s your take on the New York attorney-general coming after ether? As always, email me at scott.chipolina@ft.com. 

Weekly highlights

• Credit rating agency S&P Global Ratings assessed stablecoins for their stability and scored them on a scale of one (very strong) to five (weak). Tether’s USDT, the largest stablecoin on the market, scored a four, because S&P had concerns about a “lack of information on custodians, counterparties, or bank account providers”.  

• The Internal Revenue Service’s Criminal Investigations unit published its “top 10” cases of the year, which included four crypto fraud schemes. They included mention of James Zhong, who was sentenced to a year and a day in prison for committing wire fraud after he unlawfully obtained 50,000 bitcoins from the now-defunct dark web marketplace Silk Road. 

• While we’re on the subject of the IRS, the tax agency was blasted by bankrupt exchange FTX this week for chasing billions of dollars in tax liabilities from the collapsed trading venue. “It just makes no sense that a company that lost many billions of dollars would have a substantial tax liability, much less one for $24bn,” FTX said in a December 10 filing. 

Soundbite: The lifeblood of ransomware 

The UK’s joint committee on the national security strategy this week published a report that found large swaths of UK critical infrastructure remained vulnerable to ransomware attacks. 

The ransomware industry’s relationship to crypto has been well documented, notably via North Korean hackers using crypto as the currency of choice following high-profile ransomware attacks.

The UK’s report has bolstered this link, alleging that crypto is the “lifeblood” of today’s ransomware industry: 

“Crypto assets are the lifeblood of the ransomware ecosystem, and have been a major driver of the increased threat.”

Data mining: Out of thin air

One reason to be suspicious of the bitcoin rally this year has been the shallowness of the market for trading.

In May I pointed out that trading remained thin even as bitcoin rose 70 per cent compared with the start of the year. That trend has yet to change, even if the narrative around crypto is very different.

According to numbers provided by CCData, it would have taken 1,418 bitcoins to move the price of the token by 1 per cent at the start of the year. At the end of April that number dropped to just 462 bitcoins. Latest figures show it would take only 386 bitcoins to have the same impact today. 

FT Cryptofinance is edited by Philip Stafford. Please send any thoughts and feedback to cryptofinance@ft.com.