Blockchain digital asset regulation: Securities or commodities?

As the influence of Blockchain digital assets in mainstream financial markets grows, their unique decentralized characteristics also pose challenges to the financial regulatory systems of various countries. How can traditional financial regulatory frameworks adapt to the characteristics of this new type of asset? How can risks be effectively managed? The regulatory focuses of different countries and regions also vary.

According to statistics from international anti-money laundering regulatory agencies, among 130 jurisdictions worldwide, 88 allow the provision of virtual asset services, while 20 explicitly prohibit such services.

The Securities Attributes of Digital Assets

As one of the jurisdictions that allows virtual asset services, the United States clearly states that virtual assets are not equivalent to legal tender and adopts a multi-department joint regulatory model. In the United States, the blockchain digital asset industry encompasses a diverse range of businesses including wallet services, exchanges, ICOs, mining, smart contracts, staking services, and NFTs.

However, due to the disputes over regulatory authority, there are still differences regarding the regulatory classification of blockchain digital assets that provide staking services, represented by ETH. The core of the controversy lies in whether these digital assets should be considered commodities or securities. Regulatory agencies have been actively assessing the applicability of existing regulations, such as using the Howey Test to determine whether a digital asset constitutes an "investment contract," thereby deciding whether to include it under securities regulation.

The Howey Test originated from a legal case in 1946, providing regulators with a clear framework to determine whether an investment contract should be subject to securities regulations. Taking ETH as an example, the main points of consideration are as follows:

• Does it involve capital investment?
• Do investors have profit expectations?
• Is there a common investment entity?
• Is the profit mainly dependent on the efforts of the initiator or a third party?

The guidance document issued by regulatory authorities in 2019 pointed out that when conducting an ICO or participating in the issuance and sale of digital assets, the applicability of federal securities laws must be considered. A careful analysis should be made to determine whether the digital asset possesses characteristics that meet the definition of a security.

The Impact of Digital Assets Being Classified as Securities

If a certain digital asset is deemed to be a security, the regulatory authority will have jurisdiction over it. Violating relevant regulations may result in the following consequences:

• Regulatory authorities may file civil lawsuits against relevant companies, founders, and executives for violating securities laws.
• Regulatory authorities may impose administrative penalties on violators, such as selling unregistered securities or failing to disclose key information to the public.

The Commodity Attributes of Digital Assets

In the United States, commodities typically refer to basic items used in commerce that are interchangeable. Typical commodities include gold, oil, and agricultural products. The Commodity Futures Trading Commission is responsible for regulating commodity trading, focusing on market stability and preventing fraud.

Although blockchain digital assets have not yet been clearly defined as commodities under the Commodity Exchange Act in the United States, regulators first stated in 2015 that Bitcoin and other digital assets fall under the category of commodities. Subsequently, this classification has been extended to other digital assets such as Ethereum, which are considered to have characteristics such as substitutability, market tradability, and certain scarcity.

The New Bill on the Classification of Digital Assets

In May 2024, the U.S. House of Representatives passed the "21st Century Technology and Financial Innovation Act," providing a regulatory framework for the development of the digital asset ecosystem. The bill classifies digital assets into two categories:

• "Restricted digital asset" regulated by the Securities and Exchange Commission
• "digital asset" regulated by the Commodity Futures Trading Commission

The main considerations for determining the type of digital asset include:

• Is the underlying Blockchain certified as a decentralized system?
• Acquisition methods for assets
• The relationship between asset holders and issuers

In addition, the bill also imposes registration and information disclosure requirements on certain participants in the digital asset sector.

The Impact of Digital Asset Qualification

Taking ETH as an example, if it is classified as a security, it will face stricter regulatory requirements, including registration issuance, information disclosure, investor protection, etc., which may lead to increased compliance costs, affecting retail investment opportunities and market sentiment.

If classified as a commodity, it would mainly be regulated by the Commodity Futures Trading Commission, with relatively low compliance costs, which is beneficial for the development of the derivatives market, but may not fully reflect the characteristics of decentralized digital assets.

Additionally, disputes over jurisdiction between different regulatory agencies may lead to regulatory arbitrage, creating a more complex regulatory environment for market participants.