SEC v. Ethereum: What to Expect and Why It Is Crucial to Crypto Market

What is happening

The SEC is intensifying efforts to classify Ethereum as a security, issuing subpoenas to companies involved with the Ethereum Foundation. This move casts doubt on the approval of Ethereum ETFs, following the SEC's recent approval of Bitcoin ETFs.

If Ethereum is classified as a security, it could face stringent trading regulations. This might entail increased paperwork and restrictions on buying and selling Ethereum for retail traders in the U.S. Additionally, companies involved with Ethereum may need to adhere to regulations similar to those governing stocks and bonds, potentially introducing complexity into their operations.

Ethereum's transition to a proof-of-stake model in 2022 prompted the SEC's scrutiny, despite previous statements suggesting Ethereum's commodity-like status. The investigation's outcome could impact Ethereum's regulatory status and the approval process for Ether ETFs, adding uncertainty to the crypto industry.

The SEC's investigation into Ethereum involves companies being subpoenaed to provide documents and financial records regarding their interactions with the Ethereum Foundation, responsible for governing and developing the Ethereum blockchain.

The probe gained momentum after Ethereum's transition to a "proof-of-stake" governance model in September 2022, prompting the SEC to reconsider Ethereum's classification as a security. This shift away from Bitcoin's energy-intensive model provided a new pretext for the SEC's scrutiny.

SEC's position

Under Gary Gensler's leadership, the SEC has signaled a broader regulatory approach toward cryptocurrencies, particularly those utilizing proof-of-stake models. However, Ethereum's approval for ETFs tracking Ether futures by the Commodities and Futures Trading Commission (CFTC) has added complexity to its regulatory status.

Despite CFTC's view of Ether as a commodity, the SEC's investigation into Ethereum's security status has led to speculation and uncertainty within the crypto industry. The potential declaration of Ethereum as a security could further complicate the approval process for Ether ETFs and raise questions regarding CFTC's oversight of Ether futures markets.

Gensler suggested that Ethereum's transition to the "proof-of-stake" mechanism, where coin holders earn rewards by staking their assets, might subject Ether to securities regulations. This change from the previous "proof-of-work" method used by Ethereum resembled a significant shift in how the blockchain operated.

Why it matters

While Ethereum's legal status has long been ambiguous, recent developments suggest a push by the SEC to label it as a security. This contrasts with previous statements indicating Ethereum's resemblance to commodities rather than securities. On March 22, the SEC extended the deadline to May 30 for its decision on Grayscale's Ethereum Futures Trust ETF.

If Ethereum is labeled a security, it could face stricter trading regulations, posing challenges for investors and exchanges. Delisting Ethereum from exchanges and the impact on projects built on its blockchain are major concerns. Using a registered security for everyday transactions, like paying gas fees, would be impractical.

Crypto industry reacts

Ripple CEO Brad Garlinghouse is positive the SEC will lose the case:

The SEC picked fights with the industry and is losing badly in the Courts. They’re now fighting fellow regulators like the CFTC, and falling behind international counterparts. At what point will the SEC realize they will lose the war against ETH just as they lost against XRP? https://t.co/rG66npldf4— Brad Garlinghouse (@bgarlinghouse) March 21, 2024

Coinbase CLO Paul Grewal noted that ETH's status as a commodity has long been established:

The SEC has no good reason to deny the ETH ETP applications. And we hope they won’t try to invent one by questioning the long established regulatory status of ETH, which the SEC has repeatedly endorsed. That’s not how the law works. And Americans deserve better. 10/10— paulgrewal.eth (@iampaulgrewal) March 20, 2024