Also: Ripple filed its response to the SEC and a FinCEN official discusses the controversial counterparty rule in public for the first time.

Feb 2, 2021 at 3:30 p.m. UTC

State of Crypto: How Will the Government React to GameStop?

Welcome to State of Crypto, a CoinDesk newsletter looking at the intersection of cryptocurrency and government. I’m your host, Nikhilesh De.

Yeah, of course we’re talking about GameStop (GME) today. Here are my questions: What can the U.S. government do, what might the government do and what impact could that have on the crypto space?

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Free-for-all

The narrative

I’m assuming you’ve heard that Gamestop’s stock price rose, like, a lot last week. In fact, it rose so much that individuals and hedge funds that shorted it lost billions of dollars. Except not really, and I’ll touch on that, but what I’m more interested in is how the U.S. government (and other nations) will react.

Why it matters 

Retail investors coordinating a massive share price pump for a public company seems like a pretty big story. The White House is monitoring it, newly confirmed Treasury Secretary Janet Yellen is looking at it, the Securities and Exchange Commission published not one but two brief statements saying it was monitoring the situation, and both the U.S. Senate and House of Representatives plan to hold hearings.

It all started with a subreddit called r/WallStreetBets, which showed how a dedicated decentralized community can take on traditional finance. Though this initially had little to do with crypto, the mania quickly spread to cryptocurrencies including DOGE and XRP. But the implications for the industry could be much more far-reaching.

Breaking it down

What happened?

Let’s just recap what happened, in case this is the first time you’ve been on the Internet in over a week. For the past few months, users of the r/WallStreetBets subreddit (a subreddit is a community on Reddit.com) have been buying shares of GameStop and propping up its price. 

This really entered the mainstream when people realized some large hedge funds, including Melvin Capital, had heavily shorted $GME and needed to buy up the stock to ensure they could cover the short. This pumped $GME by a lot. 

People went nuts. White House Press Secretary Jen Psaki has now fielded multiple questions about how President Joe Biden’s team might respond. The SEC has published multiple statements saying the same. Jimmy Kimmel is, for some reason, saying “Russian disruptors” are behind the price boom. 

What will the government do?

So we have to split the U.S. government into two groups here: Congress and regulators. 

Let’s start with Congress, which is already planning on holding hearings about market volatility. The House Financial Services Committee, chaired by Rep. Maxine Waters (D-Calif.) is holding a hearing on Feb. 18 with Robinhood CEO Vlad Tenev, while the Senate Banking Committee, chaired by Sen. Sherrod Brown (D-Ohio) will hold its own hearing. 

Beyond Robinhood’s chief executive testifying at a hearing, there aren’t a lot of details available right now about what Congress might do. Part of this may be because the situation is still fairly new and the committees need to organize these hearings on top of their other tasks, which include confirmation hearings for the new administration and an impeachment trial for the old one. 

That brings us to the regulators. And … it’s unclear what they can actually do. The GameStop pump was coordinated among a huge number of individuals on a public forum. It doesn’t look like a traditional pump-and-dump scheme, one attorney told me.

The SEC could look at whether the participants were acting in concert and coordinating as part of a pump-and-dump, but this seems unlikely. 

Other attorneys seemed equally skeptical about whether the SEC has any real jurisdiction over matters like GameStop. 

The attorney above, who requested anonymity due to the general lack of clarity around this issue, said the GameStop saga might be great for decentralized communities and the general idea of decentralization, but could also lead to more market volatility that would scare investors (and therefore draw the SEC’s attention, given its mandate on investor protection). 

A bit of a mea culpa here: Last week I tweeted that “r/WSB has scared hedge funds more in a week than bitcoin has in a decade changemymind.jpg.” But then, after doing more  research, I’ve changed my mind. Twitter isn’t great for nuance but I now think a better take would have been along the lines of “r/WSB has gotten hedge funds’ attention more effectively.” It turns out plenty of Wall Street firms are making out like thieves by selling their now-highly valued shares on the open market (or could if they actually sold their shares). 

The chief takeaway seems to be that regulators can’t actually stop this kind of thing because it’s not clear if any laws have been broken. They can say they’re monitoring the situation but that’s probably what they have to say. (Imagine the SEC saying, “Hey, we saw the GameStop thing but it’s not really something we’re keeping an eye on.”)

In other words, this drama suggests a properly decentralized entity might be able to  operate without fear of an SEC shutdown. This, in theory, should be good for the cryptocurrency industry. 

Ripple fights back

I should also mention Ripple’s response to an SEC lawsuit alleging it violated federal securities laws by selling XRP since 2013. The company filed a response Friday in federal court, denying XRP sales were securities transactions and saying XRP isn’t a security. It also announced filing a Freedom of Information Act (FOIA) request to the SEC asking how the agency determined that bitcoin and ether are not securities. 

As I said in a previous edition of this newsletter, it’s still early days. Ripple looks like it’s still fighting in the realm of public relations as much as it’s fighting in court. What Ripple does not appear to have done is file a motion to dismiss the case. It does appear to be following Kik’s playbook in responding to the SEC’s complaint paragraph by paragraph.

Changing of the guard

Key: (nom.) = nominee, (rum.) = rumored, (act.) = acting, (inc.) = incumbent (no replacement anticipated)

We’re still waiting on confirmation hearings and votes for most of President Biden’s nominees for financial regulatory positions. The second-week president has yet to officially confirm that Chris Brummer will be nominated to lead the Commodity Futures Trading Commission or that Michael Barr will be nominated to lead the Office of the Comptroller of the Currency. 

Elsewhere: 

Bitcoin and Inflation: Everything You Need to Know: My colleague Sandali Handagama explored the relationship between inflation and bitcoin’s value proposition. She found that while the cryptocurrency is seen as an inflation hedge, there hasn’t  been a whole lot of inflation to hedge against. Indeed, Fed Chair Powell said he’d “welcome higher inflation” at this juncture. Harvard, Yale, Brown Endowments Have Been Buying Bitcoin for at Least a Year: Sources: Let me take you behind the curtain for a minute here. This is actually a story CoinDesk has been quietly investigating for maybe 18 months now. Ian Allison is exceedingly great at reporting, and he was finally able to confirm this story: University endowments are investing in bitcoin. Put another way, crypto is seen as a mature and regulated enough market that typically cautious investment vehicles are comfortable putting funds into it. Judge Rejects Virgil Griffith’s Motion to Dismiss Charges of Aiding North Korea: A federal judge has rejected Ethereum developer Virgil Griffith’s motion to dismiss a federal criminal case alleging he violated U.S. sanctions law. District Judge P. Kevin Castel wrote Griffith doesn’t necessarily need to have been compensated for his talk at a North Korean crypto conference to have rendered “services,” which is what he’s being accused of doing. There will be a telephone conference on Feb. 11 next.FinCEN’s Wallet Rule Aims to Close Crypto-Cash Reporting Gap, Official Says: FinCEN Deputy Director Michael Mosier provided the first public comments on the proposed counterparty surveillance rule on wallets in a talk with TRM Labs. According to Mosier, the rule was a response to a perceived discrepancy between the reporting requirements for cash and crypto. He encouraged commenters to file specific, technical and practical feedback about the implications of the rule. (Need a refresher? Click here).

Outside crypto:

A Vast Web of Vengeance: This New York Times article is stunning. It is absolutely worth a read. In short, people are finding it extremely difficult to remove defamatory information about them off the internet. This may feel like an edge case but it is absolutely the sort of thing that those building decentralized, censorship-resistant platforms should keep in mind. 

If you have thoughts or questions on what I should discuss next week or any other feedback you’d like to share, feel free to email me at nik@coindesk.com or find me on Twitter @nikhileshde. 

You can also join the group conversation on Telegram. 

See ya’ll next week!