U.S. agencies look to existing rules for crypto, Web3 regulation

Last year's collapse of cryptocurrency platform FTX has thrown digital currencies and decentralized platforms into the spotlight of regulation.

A decentralized platform is one where power is distributed -- a decentralized cryptocurrency exchange, for example, relies on peer-to-peer trades rather than a single middleman to handle funds. Web3 is a concept for the next stage of the internet that places significant focus on the idea of decentralized networks and moving power out of the hands of established tech and banking institutions.

While the European Union is crafting cryptocurrency regulation and rules for the blockchain technology that supports many decentralized platforms, the U.S. has instead relied on the Securities and Exchange Commission (SEC) to increase enforcement actions against companies suspected of engaging in fraudulent activity, such as FTX, which allegedly defrauded customers out of billions of dollars.

In this Q&A, Sangeetha Raghunathan, a corporate partner at international law firm Gunderson Dettmer who specializes in financial technology regulatory issues, explores the fallout from FTX and how it will affect Web3 regulations and the financial technology industry (fintech). Over the last 13 years, Raghunathan has served as in-house general counsel and chief compliance officer for startups and large enterprises, including SquareTrade and Indiegogo.

What do you think has been the most exciting development in the fintech industry?

Sangeetha Raghunathan

Sangeetha Raghunathan: The promise of fintech and cryptocurrency has been the opportunity for more regular people to participate in the financial system. Before, the best banking products and lowest fees were for people who already had money. We have a significant number of consumers in the United States who are underbanked or nonbanked because they can't afford to have a bank account.

The promise of fintech and Web3 has been a lot of what those companies talk about, which is expanding financial inclusivity. The tech has made it cheaper and faster to bring more people into the system.

What are some advantages in fintech development for enterprises?

Raghunathan: The beauty of blockchain is a transparent ledger system. That has many useful applications, like fighting fraud, and ensuring [anti-]money laundering policies and procedures are followed.

Blockchain is, to me, so different than a cryptocurrency because that system adds a lot of value in terms of transparent data, and that's where I think it's exciting -- if you can reduce the friction and cost, and improve the accuracy, the quality of the product improves dramatically.

Why is Web3 and cryptocurrency regulation such a hot topic right now? Is it mostly due to the FTX collapse?

Raghunathan: FTX fast-forwarded a discussion that was happening among regulators in the last few years. What prompted it to come to the national forefront was the extent of the alleged consumer harm falling out of FTX. The allegations of what happened and the extent of the purported consumer damages is widespread. It touched so many consumers, and it became a topic that needed to be talked about more forcefully, loudly and nationally.

What lesson can be taken away from the FTX fallout?

Raghunathan: There was harm across the system. The takeaway is a lot around increased due diligence and taking that time to dig into the operations of an investment a little bit more than perhaps has happened in the past. Now, understanding what allegedly happened in FTX, we see that investors are taking more time to ensure their investments are in companies that are doing the right thing.

Has the FTX fallout pointed out flaws in existing rules for Web3 companies?

Raghunathan: The FTX collapse pointed out that the existing rules and regulations have sufficient protections, but companies aren't following them. If FTX had gone through an SEC registration process, it would have likely gone differently because they would have had to go through an audit. There is a huge list of things you have to do as part of that SEC registration process that FTX allegedly didn't do.

The SEC has made it very clear that the existing rules and regulations apply to Web3 companies, and those companies need to take steps to create policies that comply.

We have lots of rules and regulations, and here the gap was that FTX wasn't doing any of those things, and therefore, the oversight ability wasn't there because they hadn't engaged with the SEC ahead of time. Now, what we're seeing is the SEC being much more vocal. Public statements from the SEC communicate to companies as to what's expected and what they should be doing. There may have been gray areas in the last few years, but the SEC has stepped up its enforcement actions and communicated that they believe the existing rules and regulations need to be followed by these companies.

Do you think we'll see more SEC regulations?

Raghunathan: The SEC has made it very clear that the existing rules and regulations apply to Web3 companies, and those companies need to take steps to create policies that comply. There may be updates to those rules and regulations because as technology evolves, the language that might've been written a few decades ago would need to be modified to capture new tech, but the underlying consumer protections and investor protections that are built into so many of these rules means there's no real difference whether it be cryptocurrency or fiat [paper money]. Given that we have a framework that exists, the SEC expects that these companies just need to follow those rules.

What concerns do you hear from businesses?

Raghunathan: Based on what we hear from clients, registering with the SEC is not a particularly easy or straightforward process and can add months or years to product development and launch. That is an area where clients realize that they have a fairly heavy path forward. It's such a slow process to register. Even if you want to do the right thing, you might still wind up in an investigation, and your outcome is not certain.

Editor's note: This Q&A has been edited for brevity and clarity.

Makenzie Holland is a news writer covering big tech and federal regulation. Prior to joining TechTarget Editorial, she was a general reporter for the Wilmington StarNews and a crime and education reporter at the Wabash Plain Dealer.