March 31, 2021
by Macauley B. Venora

SEC Commissioner Hester Peirce believes the SEC must build a clear regulatory framework that invites people to build and innovate. Answering questions at the last week’s virtual Security Token Summit 2021, Peirce pointed out how some foreign countries are more “forward-looking,” in the sense that they have provided regulatory clarity to those seeking to engage in digital asset and crypto activities, and that the US needs to do the same. Peirce fielded questions on hot topics such as the Howey test, Non-Fungible Tokens (NFTs), and her safe harbor plan to promote crypto and digital asset innovation.  The views expressed by Peirce were consistent with her previous statements on these issues, that is, that regulatory clarity is the first step towards establishing a practical framework for the crypto and digital asset industry.

On whether the Howey test is “broken”—that is, can the 70-year-old rule still be effective—Peirce said that Howey has not been working well for the crypto industry due to unique differences between digital assets and traditional securities. In her view, problems arise when trying to compare the orange groves and investment contracts from Howey to digital tokens and token networks. She cautioned that we should not be looking at the orange grove itself as a security because that “leads to all kinds of complicated problems”—and when you try to apply that reasoning to tokens functioning on token networks, it leads to “all kinds of rules around how [the token] can transfer” from one person to the next, and implicates a host of securities laws.

One solution could be a regulatory safe harbor, which Peirce has lobbied for in the past.  The safe harbor would give firms seeking to develop token platforms a three-year exemption from SEC securities regulations to develop the technology and distribution plans for the tokens, and ultimately distribute the tokens while working towards establishing a decentralized network. Peirce said the Commission continues to welcome feedback on the proposal, and if the Commission decides to move forward, the proposal still will need to go through the administrative notice and comment procedure. Peirce believes a version 2.0 of the proposal is likely, with feedback from the crypto industry, the Commission, and soon-to-be confirmed Chairman Gary Gensler.

On NFTs, which have exploded into the digital marketplace, Peirce said that the Commission has an “interest in anything like a security,” so it will continue to monitor the space. But she said that NFTs are likely not securities because each one, by definition, is different from the next. Still, she cautioned that firms and individuals dealing with NFTs should “be careful” when creating fractional shares or derivatives of NFTs, as those may run the risk of inadvertently becoming securities.

Peirce concluded by saying that the Commission must “be nimble” and “accept that change brings about experiments,” while working towards the goal of cultivating an environment that invites people to build and innovate.

About Blockchain Law Center

Blockchain technology utilizes a distributed digital ledger to record and track information, and can be leveraged to gain transparency and certainty in transactions ranging from cryptocurrency to supply chain tracking.  This blog provides information on the legal developments surrounding implementation of blockchain technology, with an initial focus on the financial services sector.