De Facto Federal Legislation of Cryptocurrency is Nigh

An upcoming meeting of the Uniform Law Commission (ULC) is likely to change how law enforcement across the U.S. approaches bitcoin. Right now, the meeting is under the radar, but its fallout could soon make a pivotal debate flare on a state-by-state level.

Also Read: Scheduled Scaling Updates for the Bitcoin Network Are Getting Closer

To Regulate or Not to Regulate? – That is the Question

It is the wrong question because it almost always conflates two separate concepts: regulation and legislation. The real question is whether to regulate problems through the free market or to legislate them through the state. Government regulation is legislation and state control. Free market regulation is voluntary exchange and individual control.

Satoshi demonstrated the difference between government and free market regulation when he created a decentralized free-market currency that functioned through an immutable and transparent blockchain. The currency was regulated – that is, it had established knowable rules for customers who chose to accept them – and that goal was achieved without legislation. Indeed, bitcoin was created to avoid the control of finances by the state and central banking system which were corrupt and gutted individual freedom.

Those who advocate Satoshi’s vision are weakening their argument by conflating regulation with legislation. The reason: a common objection to “unregulated” – by which is meant “unlegislated” — cryptocurrencies is that customers’ need protection against scams such as the Mt. Gox fiasco. Too often, advocates answer “yes but…” They should respond “that’s exactly why state involvement is a terrible idea. It introduces the illusion of protection while providing no real safety mechanisms for customers.” By contrast, free market regulation includes such mechanisms as contracts, transparency, and reputation.

Where is the debate on regulation versus legislation likely to occur?

First, The Proximate Cause 

The Uniform Law Commission (ULC) is holding its 126th Annual Meeting in San Diego on July 14-20. The ULC is a body of legal experts who create model templates for statute law on issues that are considered to be inconsistently or insufficiently legislated throughout the various states. The July meeting will address how state statutes should define terms like “bank, create” and it will hammer out a draft proposal entitled the “Uniform Regulation of Virtual Currency Businesses Act.”

If the ULC succeeds in sculpting a final template, as it is fully expected to do, then the model act will be submitted to individual state legislatures for their approval. The legislatures have a long track record of adopting bills based on the ULC’s language with little or no change.

Consider a main thrust of the draft version. It seeks to;

Create a statutory structure for regulating the ‘virtual currency business activity’ of person [sic] offering services or products to residents of enacting states. In particular, the act would require licensure of and impose prudential regulations and customer protection requirements on businesses whose products and services include (1) the exchange of virtual currencies for cash, bank deposits, or other virtual currencies; (2) the transfer from one customer to another person of virtual currencies; or (3) certain custodial or fiduciary services in which the property or assets under the custodian’s control or under management include property or assets recognized as ‘virtual currency.’ 

The key words in the draft template for enforcing the choke point are “impose prudential regulations and customer protection requirements.”

“Prudent regulations” would almost certainly include a demand that Know Your Customer requirements be imposed; this would strip away the privacy upon which individual freedom and true protection depend. “Customer protection” means mandatory licensing of “businesses whose products and services” with those businesses being broadly defined.

The licensing requirements would have teeth. Eth News (June 28) reports, “The draft sets guidelines which suggest a maximum civil penalty of $50,000 for ‘a person [who] engages in a virtual currency business activity with a resident in violation of this [act].’ Material violations of the act could also constitute fines up to $10,000.”

Trusted third parties, such as digital currency exchanges, are the suggested choke point for at least four reasons. They are far more visible which makes them low-hanging fruit. They function in a manner that resembles the banks with which legislators are accustomed. They are a convenient collection point for financial data on customers who are the true target. Dishonest or incompetent third parties are where scams or losses of any real size occur which provides moral justification for imposing laws; bitcoin users who exchange directly can be defrauded, certainly, but it is almost always on a small one-transaction basis.

The preceding are some of the reasons why bitcoin was designed as a direct transfer system.

Where Will The Debate Occur?

If it occurs, it will be on a state-by-state level as the proposed statute law works its way to and through the various legislatures. Unfortunately, this process can be close to invisible to most residents of a state. Most residents are also confused by bitcoin and unlikely to oppose an attempt to control it.

The enactment by individual legislatures will not constitute federal law, of course, but the end result may resemble it closely. The ULC template could and likely will homogenize state statutes so that the same basic laws on bitcoin are enforced from coast to coast. Currently, an inconsistent patchwork of laws promotes freedom by allowing businesses such as digital currency exchanges to leave unfriendly states for more welcoming ones. (See “Prepare For SB1241’s Pit Bull Assault on Bitcoin Freedom” on parallel institutions as a freedom strategy.)

Does It Matter?

The direct exchange of bitcoin cannot be controlled in a meaningful manner any more than the direct exchange of ideas can be. But trusted third party exchanges are vulnerable, and they pass their vulnerability on to customers. The obvious solution may be to avoid them. Some businesses using bitcoin are structured to require their services, however. Moreover, new adopters often have few other means by which to obtain the currency; the less obvious avenues used by veterans can be quite confusing.

Merchants and other businesses who accept bitcoin are also vulnerable to being legislated in a way that makes cryptocurrencies less attractive to them. In fact, anyone who uses conventional financial institutions in transactions, such as cashing out, could be affected.

Ironically, another common reason given for pursuing the government regulation may achieve the opposite of its stated goal. The argument is that state sanction will encourage the spread of bitcoin by providing legitimacy.

Government approval does not confer legitimacy, honesty or customer protection. If it did, then the central banking system would be the most legitimate, honest and customer-respecting institution on the face of the earth. Instead, it is one of the most corrupt, dishonest and abusive institutions. Spreading bitcoin use while negating its intended advantages is no victory.

The ULC’s final template is probably a done deal even before the July meeting convenes. Enactment by all or most states may fall into the same category. Any solutions that ensure future privacy and financial freedom will occur on an individual level. That has always been the case.

What do you think about the de facto Federal legislation of cryptocurrency coming? Let us know in the comments below.

Images via Shutterstock, Pixabay, and the ULC.

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