The high-stakes legal battle between the U.S. Securities and Exchange Commission (SEC) and leading crypto exchange Binance took a dramatic turn this week when stablecoin issuer Circle submitted a court filing arguing that stablecoins like USDC are not securities.
Circle's intervention in the case marks an unexpected alliance between the two crypto firms and brings fresh scrutiny to the SEC's claims that Binance's native stablecoin BUSD is an unregistered security.
The SEC filed charges against Binance and its affiliates back in February, alleging that the exchange offered trading in digital assets that qualify as securities without proper registration. This included not only ADA and SOL tokens but also Binance USD (BUSD), the exchange's own stablecoin pegged to the U.S. dollar.
However, in its court filing this week, Circle contested the SEC's view that stablecoins are securities.
"Payment stablecoins, on their own, do not have the essential features of an investment contract," Circle stated. "Decades of case law support the view that an asset sale - decoupled from any post-sale promises or obligations by the seller - is not sufficient to establish an investment contract."
Circle is the principal operator of USD Coin (USDC), the second largest stablecoin with a market cap of over $50 billion. Its intervention suggests there is broader resistance in the crypto industry to the SEC's attempt to categorize leading stablecoins as unregistered securities.
How Circle Says Stablecoins Avoid the Key "Expectation of Profit" Prong
Circle's argument centers on the longstanding Howey Test that courts use to determine whether a transaction qualifies as a security. For an asset to be deemed a security under the Howey Test, there must be:
- An investment of money
- In a common enterprise
- With an expectation of profits
- Derived from the efforts of others
According to Circle, stablecoins do not meet the critical "expectation of profits" prong because they are designed to maintain a stable value rather than generate investment returns.
"Stablecoin holders do not expect to make a profit from purchasing those stablecoins themselves," the company said in its filing.
This view echoes statements made by SEC Commissioner Hester Peirce, who has previously argued that stablecoin valuations are completely decoupled from speculative expectations.
"You're looking for a stable value," Commissioner Peirce said regarding stablecoins in a 2021 speech. "That seems odd for something that is a security."
Unclear How SEC Will Respond to Circle's Arguments
It remains to be seen how the SEC will respond to Circle's assertion that dollar-pegged stablecoins are fundamentally different from securities like stocks and bonds.
The regulator may counter that stablecoins are bundled with other financial incentives when issued by exchanges like Binance. Or it may argue that certain marketing practices effectively do cultivate an expectation of profits among stablecoin holders.
Either way, Circle's filing represents a rare instance of the crypto industry closing ranks to challenge the SEC's stablecoin assertions.
The court's ruling on this issue could have far-reaching implications not just for Binance but for rival stablecoins like USDC and Tether's USDT.
Ayn Rand once wrote that "money is the barometer of a society's virtue." If the court sides with Circle and Binance, it will be confirming that stablecoins are a measure of stability and not speculative profits. This would enrich the diversity and health of the crypto ecosystem.
However, if the SEC prevails, the regulatory uncertainty around stablecoins could hinder innovation and growth. Entrepreneurs may turn away from dollar-pegged stablecoins and focus their efforts on more exotic algorithmic versions not tied to fiat currencies.
Ultimately, the court must decide where the line should be drawn between prudent consumer protection and overzealous regulation that stifles progress. Both sides no doubt believe they have strong legal arguments. But the principles of economic freedom at stake go far beyond technicalities of securities law.
How Decentralization Can Check the SEC's Power
One way to limit the SEC's authority over crypto assets is to leverage decentralization. Bitcoin and other permissionless blockchains allow peer-to-peer transactions without centralized oversight. Users can exchange economic value without middlemen or arbitrary gatekeepers.
Regulatory bodies were not designed to govern decentralized networks, which operate on consensus among users rather than top-down control. Their power diminishes in proportion to the degree of decentralization.
Stablecoins are more centralized than pure cryptocurrencies, relying as they do on asset reserves held by issuers. But decentralization may still curb the SEC's ability to designate them as securities. For example, algorithmic stablecoins aim to maintain a stable value without any underlying fiat collateral. It is harder to regulate these fully decentralized stablecoins under securities law.
The more crypto projects embrace principles of decentralization, the more the SEC's reach will be limited. This checks the organization's authority while still allowing beneficial oversight where investors are clearly relying on others for investment gains.
Prediction: The Court Will Side with Circle and Binance
My prediction is that the court will ultimately side with Circle and Binance in finding that stablecoins are not securities. The SEC faces an uphill battle convincing the court that stablecoins meet the "expectation of profits" criterion after prominently arguing the exact opposite in the Ripple case.
There, the SEC contended that XRP could not be a security precisely because it is designed to function as a currency and medium of exchange, not for speculative investment. This reasoning applies equally well to stablecoins whose values are pegged to fiat currency.
Of course, the SEC will try to distinguish stablecoins by arguing they are bundled into an investment scheme when marketed by exchanges like Binance. But I expect the court to see through this nuance and recognize the asset itself is not peddled as an investment.
The SEC may be able to regulate how exchanges offer stablecoins. But stablecoins in their own right will avoid designation as securities, which is a big win for Circle and the broader crypto industry.
Historical SEC Overreach in Other Domains
The SEC's aggressive posture towards crypto has parallels in how it has attempted to expand its authority into other domains historically. Two prime examples are the SEC's efforts to regulate mutual funds in the 1970s and expand into social media governance more recently.
In the 1970s, the SEC tried arguing that mutual funds were issuing securities when selling their shares to investors. This could have let the SEC assume expansive powers over regulating funds. However, the Supreme Court ruled in 1982 that mutual funds themselves do not issue securities. This curbed the SEC's mission creep.
More recently, the SEC has sought to regulate social media activities by labeling some tweets or other communications as securities offerings if they impact a company's stock price. But a federal judge rejected this in 2018, ruling the SEC cannot label every social media post a securities offering just because it theoretically causes investors to buy or sell shares.
These examples illustrate that courts have often reined in SEC overreach into areas outside its core mission. The same pattern may play out regarding stablecoins.
What is the strongest counterargument the SEC can make regarding stablecoins as securities?
The SEC's strongest counterargument is that stablecoins still qualify as securities when bundled with incentives like lending rewards or trading discounts by platforms like Binance. Even if stablecoins lack inherent profit potential, the SEC will argue that exchanges effectively cultivate an expectation of profits through associated incentives. This may allow stablecoins to meet the Howey Test after all.
However, the counter to this is that courts typically look at the inherent features of an asset itself when classifying it as a security - not external factors like how third parties market the asset. So incentives offered by Binance should not determine whether BUSD itself is a security. But the SEC will contend the associated incentives are essential to the stablecoin's value proposition.
How might this court case impact the stablecoin market long-term?
If courts rule against the SEC, it will provide much-needed regulatory clarity and give stablecoin issuers confidence to operate without fear of being designated securities. This will support further stablecoin growth and adoption.
But if the SEC wins, it may hamper innovation as developers turn away from fiat-backed stablecoins to avoid burdensome regulations. More experimentation around algo stablecoins may ensue. Issuers may also restrict stablecoin rewards and incentives to avoid appearing like securities offerings. This may limit user adoption of stablecoins overall in the U.S. market.
Either way, the court case will likely provide guardrails on how stablecoins can be marketed and supplied without straying into securities territory. This guidance will shape the stablecoin landscape for years to come.