8 months ago

    Is crypto just “fraud and scams and hucksters”, Gary? 

    Is crypto just “fraud and scams and hucksters”, Gary? 
    Table of contents

      Gary Gensler, the Chair of the Securities and Exchange Commission (SEC), expressed a cautionary viewpoint regarding the crypto industry in a recent hearing with the Financial Services and General Government Subcommittee of the Senate Committee on Appropriations. Gensler testified that cryptocurrencies should be considered a “highly speculative asset class” and raised concerns about the prevalence of “fraud and scams and hucksters” within the crypto landscape.

      This stance underscores Gary’s regulatory skepticism, highlighting the urgency for robust compliance measures, especially in light of our recent findings that 5% of crypto MSBs registered with FinCEN are marked as scams.

      As of September 1, 2023, more than 1,000 Money Services Businesses (MSBs) operating in the crypto industry are registered with the Financial Crimes Enforcement Network (FinCEN). Of this cohort, 55 companies have been marked as scams, or roughly 5%. Let’s contextualize this data by comparing it with the prevalence of fraud or misconduct in traditional financial sectors like investment banking and financial services.

      STATE/COUNTRY Crypto MSB companies with active registration marked as Scam
      COLORADO 70.91%
      Foreign countries 23.64%
      NY 1.82%
      FLORIDA 1.82%
      CALIFORNIA 1.82%

      Number of companies marked as scams: 55 or 5.06% of all MSB-licensed companies

      Why Colorado Houses the Most Scam-Related Crypto MSBs

      • Regulatory Environment

      One reason for the high concentration of scam-related crypto MSBs in Colorado could be the state’s relatively lax regulatory framework. Unlike New York, which has stringent laws like BitLicense, Colorado may offer a more permissive environment, allowing easier MSB registration, potentially attracting fraudulent entities.

      • Tech Hub Status

      Colorado, especially Denver, is becoming a significant tech hub. This could create a false sense of security among investors and regulators, making it easier for scam companies to operate under the radar.

      • Popularity of Crypto in the State

      The general popularity of cryptocurrencies in Colorado might create a fertile ground for all crypto businesses, including scams. A robust user base might attract scam operations looking to capitalize on this momentum.

      While Colorado is home to one-third of all crypto MSBs in the United States, this high concentration also opens the door to a larger volume of potentially risky or scam-related businesses. In other words, the number of companies operating in the state increases the likelihood that some will attempt to bend or break the rules. This phenomenon is not unique to the crypto industry; traditional financial firms are well-acquainted with the concept that higher business density can correlate with a greater incidence of irregularities or fraudulent activities.

      Comparative Analysis with Other Industries

      • Corporate Fraud in Publicly Traded Firms

      A study published in the journal “Review of Accounting Studies” estimates that, on average, 10% of large publicly traded firms are involved in securities fraud each year, with a 95% confidence interval ranging from 7% to 14%. Further extrapolation of this data reveals that corporate fraud erodes approximately 1.6% of equity value annually, equating to a staggering $830 billion in 2021. This is about the same size as all the crypto industry combined, which sits now at about $1 trillion. 

      • Misconduct in Financial Advisory Firms

      According to another research paper published on the Social Science Research Network (SSRN), misconduct is notably prevalent in the financial advisory sector. The study reveals that 7% of advisers have misconduct records. Interestingly, this percentage rises to more than 15% at some of the largest advisory firms. Furthermore, about one-third of advisers with a history of misconduct are repeat offenders. These repeat offenders are five times more likely to engage in new misconduct than the average financial adviser. The prevalence of repeat offenses in the advisory sector underscores the necessity for stringent oversight, an issue that resonates across both traditional and crypto financial services.

      • Traditional banking

      The financial services sector has witnessed staggering penalties since 2000, amounting to approximately $380.11 billion, with 7,452 recorded cases.

      According to Violation Tracker, major banks such as Bank of America and JPMorgan Chase top the list, facing penalties of $87.23 billion and $38.99 billion, respectively. Interestingly, these giants usually involve multiple financial activities, including MSB functions. This points to a paradox. On the one hand, you have states bustling with MSBs that generally focus on streamlined activities like currency exchange or wire transfers. On the other hand, there are colossal financial institutions riddled with violations and hefty penalties, offering a myriad of services, including MSB functionalities.

      • Fiat Laundering and the World’s Fight Against Financial Crimes

      The United Nations Office on Drugs and Crime (UNODC) estimates that a substantial portion of global GDP, between 2% and 5%, is laundered annually. In monetary terms, this translates to an alarming range of EUR 715 billion to 1.87 trillion annually. That is roughly double the size of the crypto industry in September 2023. Compared to that, WSJ records that cryptocurrency-based crime hit a record $14 Billion in 2021, a total of 0.15% of the overall crypto market. But what could Gary Gensler do to reduce that number even further. Here are four recommendations from analyzing 80 other countries that deal with the crypto industry.

      Three recommendations for Regulatory Oversight

      1. Special Category for Crypto Companies: Crypto companies should be registered under a specialized category to streamline regulatory oversight further. This would facilitate easier tracking and enforcement activities like Canada does.

      2. Track Publicly Unique Identifiers: Regulatory bodies like FinCEN should track unique identifiers such as websites and the person in charge. This will expedite marking companies as scams and revoking their MSB licenses.

      3. Stricter Approval Process: a more meticulous approval process for MSBs dealing in crypto could deter scam companies. Countries in Europe demand sound legal structures and thorough due diligence processes, which should be a model for MSB regulations worldwide.

      Gary Gensler’s characterization of crypto as an industry filled with “fraud and scams and hucksters” merits a second look, especially when viewed in a broader context. When comparing crypto to other industries and other countries’ regulatory practices, one could argue that the issue might not lie solely with the crypto sector but also with its regulatory oversight. The analogy here is akin to a professor blaming an entire class for failing without considering whether the educational system—or the professor’s methods—may be at fault.

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