New York regulators ordered Paxos to stop issuing the Binance USD (BUSD) stablecoin.
Jakub Porzycki | Nurfoto | fake images
The US Securities and Exchange Commission may be preparing to take action against Paxos, a company that issues a type of cryptocurrency called a stablecoin.
The move will have major implications for the $137 billion market, experts told CNBC.
Stablecoins are a type of cryptocurrency designed to mirror real-world assets, such as the US dollar.
These stablecoins are often backed by real assets such as bonds or cash in reserve. They have become the backbone of the cryptocurrency market as they allow people to quickly exchange different currencies without having to convert them into fiat currency.
Paxos issued a digital currency called Binance USD or BUSD. It is a stablecoin associated with Binance, one of the largest cryptocurrency exchanges in the world. BUSD is pegged one to one to the US dollar.
Last week, the New York State financial regulator ordered Paxos to stop issuing BUSD.
Separately, Paxos saying that the SEC had issued him a notice that the regulator is considering recommending action on the grounds that BUSD is a security. Paxos said the notice suggests Paxos should have registered the BUSD offering under federal securities laws.
The SEC has not taken official action. But the agency's actions are being closely watched because if it launches an official proceeding, it could have huge implications for all stablecoins, including tie and USDCthe two largest that combined are worth $110 billion.
"If the SEC indicts Paxos, any other stablecoin issuer should register or prepare for a court fight with the SEC," Renato Mariotti, a partner at law firm BCLP, told CNBC.
Are stablecoins securities?
While the SEC has yet to file specific charges, the notice to Paxos focuses on the question of whether or not stablecoins are securities.
For its part, Paxos said it "categorically disagrees with the SEC staff because BUSD is not a security under federal securities laws."
The SEC uses the Howey's test to determine what is considered a security or an "investment contract". There are four criteria for determining whether something is an investment contract as part of the Howey test, for example, whether there is an expectation of profit on the part of the investor.
It is possible for Paxos to aggressively sue the SEC, but the cost of doing so would be significant.
Renato Mariotti
partner, BCLP
If the SEC deems BUSD a security, then the regulator would oversee the stablecoin. Any company issuing BUSD would have to register with the SEC and agree to stricter regulation.
Another implication is that other stablecoins will also receive the same tag.
"The basis for that action will necessarily be specific to the Paxos BUSD structure, but will likely have far-reaching implications for other stablecoin issuers selling coins in the US," Townsend Lansing, head of product at CoinShares, told CNBC. .
What are the likely results?
There are a number of different scenarios that could play out. It will depend on what the SEC alleges against Paxos and how the two sides progress.
โI think it is likely that the SEC will reach an agreement with Paxos in which Paxos recognizes BUSD as a security, leading other stablecoins to follow suit and register,โ Mariotti said.
"It is possible for Paxos to litigate aggressively against the SEC, but the cost of doing so would be significant," Mariotti said.
"Litigation would take years and the risk of losing to the SEC would be significant. The mere fact that Paxos was fighting the SEC would create risk and potentially make BUSD less attractive to the market."
Another result, according to Mariotti, is that the SEC can regulate what assets are used to back stablecoins and the requirements for issuances of the digital currency to make disclosures to the market.
CoinShares' Lansing said that what the SEC considers to be a security or investment contract actually extends beyond the Howey test and that the agency has "extensive knowledge of how to apply both the law and judicial precedents."
โIn the absence of a successful fight, BUSD will most likely no longer be sold in the US or available on US-based digital asset exchanges,โ Lansing said. "It is quite possible that other stablecoins will follow suit."
Are Tether and USDC in the crosshairs?
It will depend on what the SEC's allegations are against Paxos and BUSD.
"We don't yet know the exact basis on which the SEC alleges the violations, so we don't know to what extent those allegations will spill over to other industry participants," Lansing said.
Carol Alexander, a finance professor at the University of Sussex, said the US regulator's action is "more of a move against Binance than against stablecoins."
She said that Tether and Circle, the company that issues USDC, is "close to the US government." Circle CEO Jeremy Allaire previously called for more regulation around stablecoins.
Alexander said that "Binance is causing increasing concern among regulators around the world" in areas ranging from money laundering to violation of securities laws. That could be one reason the SEC has focused on BUSD, he said.
The Justice Department is investigating Binance for suspected money laundering and sanctions violations, Reuters reported last year. Bloomberg reported in 2021 that US officials were investigating whether Binance employees engaged in insider trading.
Binance did not immediately respond to CNBC's request for comment.
A Binance spokesperson said at the time that the company has a โzero toleranceโ policy for insider trading and a โstrict code of ethicsโ to prevent any misconduct, according to Bloomberg.
