Law on The Block: T.S. Eliot and worthless crypto tokens

T.S. Eliot … on the Blockchain

I’m going to get to law and crypto in a sec, but first some context and poetry.

Here’s the thing: if like me you’re interested in looking at beyond the bleeding edge, to where there is no edge yet, you have to be able to imagine technological and intellectual developments from a future vantage point that doesn’t yet exist. And if you’re a student of history you know that many grand developments weren’t understood as such until long after.

Stated a little bit differently, in retrospect, things that appear in the present to be in the margins are often the things that a century later — with the benefit of the passage of time— changed the world.

The elevator, for example, wasn’t quite understood as the innovation that it became for nearly a half century. It was actually kind of a hazard, as likely to kill you as take you up high. It wasn’t until the development of steam brakes that the things took off and allowed the development of the modern high-rise.

Hence, maybe, T.S. Eliot’s lovely post-WWI observation in Gerontion that “[h]istory has many cunning passages, contrived corridors/ And issues, deceives with whispering ambitions, Guides us by vanities. Think now/ She gives when our attention is distracted/ And what she gives, gives with such supple confusions/ That the giving famishes the craving.”

While there were many law and crypto headlines in the past week, it’s nice too to look beyond the headlines to see what is burbling up on the margins that might also have impact. So today's post is dedicated to Mr. Eliot.

The Federal Election Committee says feel free to give away worthless tokens!

First, it’s not all doom and gloom for crypto tokens, in case you were wondering. If you want to give away a token that has no value and will never be anything more than a souvenir, the Federal Election Committee says “have at it!” A recent advisory opinion addressed to congressional hopeful Omar Reyes addressed his reelection committee’s proposal to “distribute digital blockchain tokens with no monetary value to volunteers and supporters as an incentive to engage in volunteer activities.” The idea is that volunteers would get OMR tokens, which will be created on the Ethereum blockchain. The volunteers who get the most tokens will get some sort of prize. Tokens that haven’t been distributed will be “destroyed” (whatever that means) and tokens that have been distributed will be valueless “souvenirs”, like a campaign pin or sticker.

The opinion reasons that federal law doesn’t prohibit handing out souvenirs to volunteers and that the tokens aren’t compensation because they “have no monetary value, are not a type of cryptocurrency, and cannot be used to purchase goods or services. The only purpose of OMR Tokens is to provide campaign volunteers and supporters with a novel means of showing their support for Reyes’ campaign: unique tokens in their digital wallets earned by volunteering for and supporting the campaign.” So, if you want to run for political office and give away worthless tokens, apparently you're good.

Wyoming crypto utility rate setting clickbait

I wrote about Wyoming last week and, well, there’s more interesting crypto-related news from that state, including a July 22 Wyoming Public Service Commission ruling that allows something called a “Blockchain Interruptible Service (BCIS) Tariff” to go into effect. Now, “READ ALL ABOUT UTILITY RATE SETTING DECISIONS!” is, generally speaking, not a great title if you want readers – it’s basically the opposite of clickbait. But this is a potentially important development, and the fact that it doesn’t leap off the page makes it even more interesting. 

As anyone who has read this far certainly knows, any cryptocurrency that uses a proof of work algorithm requires electricity, and in many cases a lot of it. So it’s perhaps not a surprise that a state like Wyoming that is interested in attracting blockchain businesses is going to do what it can to make electricity pricing manageable and predictable for the industry, while balancing the needs of existing residential and commercial users. You can read the entire order for yourself via the link above but tl/dr -- what this new Wyoming PCS decision does is allow the utility the ability to negotiate “terms and rates of service outside of rates set by the Commission.” Existing customers are, on the other hand, “isolate[d] existing customers from any increased capital costs or operating expenses, and the inherent business risks associated with blockchain customers.”

Price and cost certainty are definitely boons for crypto customers with significant power needs. We covered ongoing litigation by miners over a price in an April 2019 piece on the Block. That case does not appear to be resolved yet. Whether this development in Wyoming further solidifies the state’s status as a western crypto outpost remains to be seen, but price and cost certainty are likely considerations.

State regulators, busy bees

One of the features of U.S. securities laws that often miss the grand headlines is activity by state securities regulators. If you are outside of the U.S. and don’t know about our legal system, it’s a federal one, in which state governments and the federal government are “co-equal sovereigns.” The federal government has supremacy in some areas (states, can’t, for example, set foreign policy). But in many areas, like securities and insurance, states have their own set of state-specific laws and their own securities regulators.

From a compliance standpoint, dealing with 50 states and the federal government is obviously a lot of work, and this creates a regulatory moat/barrier to entry that can benefit incumbents and also be a real pain in the gourd for anyone trying to build new things. In the ICO space, we’ve seen a decent amount of state-level securities enforcement activity in the past two years, including a coordinated initiative by the North American Securities Administrators Association (NASAA). The most recent state Attorney General to join in this initiative is Maryland’s Brian Frosh, according to a press release dated Aug. 14.

We also saw two New Jersey State ICO related cease and desist orders the week before. In the matter of Zoptax LLC a/k/a Zoptax, respondent involves, according to the New Jersey Attorney General, a self-described “blockchain based calling Network providing its users completely secure and private VOIP calls experience via decentralized network.” 2019 N.J. SEC. LEXIS 5 (Aug. 7, 2019). Zoptax said it would be conducting an ICO in which it would sell (what else?) “Zoptax Coins”, seeking between $500,000 and $3.4 million in capital to raise capital to build things that don’t exist yet. (I am summarizing, but that is the gist.) There is of course a website and a whitepaper (not a proofreader, based on some of the typos quoted in the New Jersey order.) New Jersey says the coins are securities, not registered, not “federally covered”, not exempt from registration and basically totally violating the law. All of this led, somewhat inevitably, to a cease and desist order.

I was honestly a little surprised anyone is doing ICOs like this anymore in the U.S., but this was one of two orders from New Jersey, the other involving a company called Unocall. 2019 N.J. SEC. LEXIS 4 (Aug. 7, 2019). Per the order, “The Unocall Ecosystem will purportedly offer users the opportunity to purchase Unocall tokens, to hold a stake in a secured wallet and to trade Unocall tokens, altcoins and fiat currencies through their UNOpay Mobile Wallet. Unocall is purportedly offering the Unocall tokens to raise capital to build the Unocall Ecosystem.” Similar deal as Zoptax — whitepaper, website, raise capital selling tokens to build a thing that doesn’t exist yet, and no securities law compliance = cease and desist order.

So neither of these orders is a really huge surprise, but orders like this and the coordinated activity of state securities regulators are a thread that underlies securities law compliance not just for ICOs, which aren’t quite yesterday’s news but will be soon enough. One place where we have yet to see a ton of regulatory action is with cryptocurrency exchanges. Again, bear in mind that there are 50 state regulators, as well as the District of Columbia and U.S. territories. While most only have civil enforcement authority, at least one has criminal jurisdiction. If like me you are curious why some U.S. exchanges appear to be listing tokens that may be securities, I suspect that one or more of these regulators may be as well.

In short, the crypto-exchange enforcement story that we read in the future may actually be led by one or more states. I’m not saying that focusing on federal regulation is a “contrived corridor” a la Eliot, but it’s a mistake to ignore the states or focus only on New York and the Bitfinex saga. These cases are harbingers, and I’m talking about severe enforcement actions involving red, white and blue exchanges right here in the U.S. And you will find that once one state successfully dings an exchange for selling unregistered securities, or acting as a broker dealer without a license, others will follow.