Cryptocurrency News, Digital Asset Research and Blockchain Features

How Ripple Will Get The SEC To Look The Other Way

The second biggest crypto may become an unpalatable target for the SEC.

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When it comes to the SEC, Ripple plays the long game. While most token issuers are likely to take a plea deal, following the examples of Airfox and Paragon, there’s another way out for digital assets. By rapidly pushing their cryptocurrencies to full functionality, crypto companies like Ripple can create enough “Facts on the ground” to escape a securities classification altogether.

Ripple may be too big too fail. But in case that’s not enough, the company is rapidly becoming the kind of prey that’s just… too much trouble.


The Hinman Paradox

The possibility of “decentralizing” an entity out of being a security was outlined at the Yahoo! Finance summit, when the SEC’s William Hinman publicly stated that treating ether or bitcoin as securities “would seem to add little value.”

“Over time,” Hinman added, “there may be other sufficiently decentralized networks and systems where regulating the tokens or coins that function on them as securities may not be required.”

An SEC director is not under oath when he’s entertaining a paying audience, and a footnote to the speech makes clear that he was not speaking in an official capacity. Nonetheless, with other SEC officers reprising the same themes, Hinman’s speech is as close as we’re going to get to regulatory clarity right now.

And that speech suggests that a handful of advanced cryptocurrencies can escape a securities classification by becoming sufficiently developed and distributed that they no longer depend on central efforts. James Park, in a report for the Lowell Milken Institute, refers to it as the “Hinman Paradox:”

[F]or a utility token to be distributed freely without regulation by the securities laws, it must be functional. But many utility tokens are only functional if they are distributed widely enough so that a de-centralized system arises.

Very few initial coin offerings, Park suggests, will ever be sufficiently decentralized to escape the Hinman paradox, and the Ripple question is not addressed. But, based on what is publicly known of the SEC’s enforcement strategy, XRP is one of the best positioned to become decentralized enough to pass the Howey Test.


XRP: A Functional Utility?

The words “utility token” have acquired a sour taste, and for good reason. Over the past year, it has been badly misused by ICOs in search of easy money.

The fallacy, as SEC officials have made clear since 2016, is that almost every case the “utility” is on a non-existent platform. While regulators like Hinman and Valerie Szczepanik have entertained the possibility of utility tokens that are not securities, the vast majority of ERC-20’s definitely are.

But unlike most purported “utility tokens,” XRP already has almost all of the functionality it needs.

Unlike most ICOs, XRP isn’t intended for anything other than a system for payments and settlements—the platform is already functional. Anyone can use XRP for purchases or payments, and —after the xRapid launch—XRP is also in use for cross-border liquidity.


Sharing the Weight

Then there’s the question of “decentralization,” a thorny point of contention between Ripple and other cryptocurrencies. Decentralization is one of those words with nearly as many different definitions as it has users—but when the SEC uses it, it’s clear that they are referring to management.

In his speech, Hinman pointed out that both Bitcoin and Ether are large communities with many companies, all working (and competing) together. That can’t be said for Ripple – as much as the company insists otherwise, the fate of XRP seems to depend very much upon the company’s “managerial” efforts.

Crucially, that is already starting to change, after this year’s announcements that Omni and Coil will both facilitate payments in XRP. Both companies have strong ties to Ripple Labs, but are nonetheless separate and independent entities—giving a better claim that XRP depends on a market ecosystem rather than a single company.


Dollars and Cents

The final prong of this strategy comes down to nuts and bolts—and lawyer fees. While the SEC has not ruled anything out, all of its recent enforcements have been against tokens that launched after the 2017 DAO report – when the body first warned that tokens could be securities. In the words of Coinsource’s Deputy General counsel Max Rich, they’re “putting out current fires rather than attending to the charred remains of old fires.”

That doesn’t mean there’s a pardon in the mail for Ripple, but does offer a breathing space while regulators go after the lowest-hanging fruit—both in order to develop a stronger body of case law, and (perhaps a cynical point) to take advantage of the SEC’s limited resources.


This shouldn’t be taken as an argument that XRP is not a security. To the contrary, the fact that many investors regard Ripple Labs as the central actor for of XRP—not to mention the enormous centralization of tokens in Ripple’s hands—makes things look very bad indeed.

But that doesn’t mean the game is up. As stated in the Hinman Paradox, a certain amount of centralized effort is required in order to get a decentralized project off the ground. Depending on how high Ripple is on the SEC’s list of priorities, Ripple may have enough time and resources to convincingly turn XRP into a truly decentralized asset.

 

The author is invested in digital assets, including XRP, which is mentioned in this article. 

 

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1 Comment
  1. Edwin says

    At Sharing the Weight you forgot R3. R3 Corda Settler will also be using XRP. With more than 200 member and partners (including some very large banks), I believe this to be worth mentioning.

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