Regulation of initial coin offers The regulatory review

"Only the rich" benefit from the regulation of securities in the cryptocurrency space, said CEO Erik Voorhees in a recent Tweet.

Voorhees, the head of the cryptocurrency exchange Shapeshift, has published his tweet after the decision to initiate the Telegram messaging to cancel his initial offer of coins (ICO), a new way to raise capital enabled by blockchain technology. According to Voorhees, the fear of regulatory control by the US Securities and Exchange Commission (SEC) I drove Telegram will abandon its ICO and will instead opt for private funding, taking its capital acquisition out of the reach of securities legislation, but also beyond the reach of daily investors.

Syren Johnstone at the University of Hong Kong Faculty of Law echoes the concern of Voorhees, concerned that the concerns of companies that ICOs are governed by traditional securities laws may nullify the main purpose of such laws.

According to Johnstone, the main purpose of the Securities Act of 1933 – one of the fundamentals of US securities regulation – is to encourage capital flows away from offers of fraudulent securities and towards "honest business". But since larger startups like Telegram can avoid many of the burden of securities regulation through exemptions that allow them to raise capital through private Financial supporters, Johnstone worries that only small startup companies will use public ICOs.

Since daily investors can not largely participate in the collection of private funds, however, they would be able to invest only in small business ICOs. "Yet these are startups that could be statistically more likely to fail," writes Johnstone. Rather than limiting investment opportunities that are generally accessible to these risky options, Johnstone would not apply securities regulation to ICOs and would instead protect investors by other means.

For Johnstone, the incompatibility between ICO and the design of the law on existing titles creates a tension between what he claims to be the allocation of capital, accessible and efficient for the purpose of 1933, and its alleged effect of suppressing public access to investment opportunities such as the planned ICO of Telegram.

The primary incompatibility of ICOs with the current securities law stems from their ability to raise capital without the need for active human management, says Johnstone. But modern securities regulation presupposes the existence of human actors, who are at the heart of the SEC's use of disclosure rules aimed at protecting investors. These rules, underlines the former SEC Troy Paredes Commissioner, allow investors to "put pressure on directors, officials, fund managers and other market participants to serve investors' interests".

With the ICOs, however, there are no directors, officials or fund managers. Even companies that launch ICO can check them once they are created. Instead, ICOs operate autonomously through the digital code. And, since ICOs are coded as immutable – that is, immutable by human acts – investors have no way of making them responsible for poor performance, unless they are involved in the way the ICO was first coded.

The immutability of the digital code behind the ICO creates another incompatibility with the existing securities law: errors in the initial code can not be changed. Yet the immutable bugs incorporated into ICOs can be repeatedly exploited. In June 2016, hackers used a bug in an ICO created by the DAO, a venture capital startup fund, to steal a cryptocurrency sum worth $ 60 million. Some called it theft, but a person who claims to be the author claimed that it was a "legal" transaction. After all, the ICO code had "approved" it.

The SEC has defined the ICO of the DAO as a violation of the securities law. Believing it to be an offer of securities, the SEC stated that ICO should have been registered with the Commission "to ensure that investors sold investments that included all appropriate and regulated information for investor protection ". refraining from bringing charges, warned that future offers would be subject to federal securities laws "regardless of whether the issuing body is a traditional entity or an independent decentralized organization".

Instead of treating ICOs as traditional stock offers, Johnstone floats in many other ways to protect investors. One approach is self-governance. In the case of the DAO, users of the stolen cryptocurrency, Ethereum, voted 9-1 to reverse the hack. Now there are two universes Ethereum: one that has erased the hack from history, and another that contains users who voted against any overthrow. Johnstone notes, however, that this fork of Ethereum in two universes was a drastic measure, considered by some to be in contrast to the immutable design of the ICOs.

Alternatively, Johnstone says that the creators of ICO could develop and follow industry best practices. As the ICO market is not yet mature, industry standards may not make sense until the industry itself has reached an agreement on ICO best practices, writes Johnstone. But he believes that, eventually, the ICO will be accompanied by the most important financial disclosure: what does or hopes to make the code. The creators of ICO should also reveal how their code is written to prevent hacks and to show what security protocols are incorporated into the code in case of hacking, says Johnstone.

Finally, Johnstone argues that the creators of ICO should reveal if and how events that occur on their code, hacks or otherwise, should be governed after the fact. For the creators of ICOs who decide to provide such "code governance", a blockchain has essentially introduced traditional contract law in the resolution of disputes for its code-based "smart" digital contracts.

That blockchain, known as EOS, allows the resolution of intelligent disputes using "carefully controlled independent referees" who follow "best practices from international arbitration forums". Johnstone states that the EOS arbitration forum has moved the intelligent interpretation of contracts on the EOS network by rigorous, literal execution of the code, which can create negative outcomes such as DAO hacker interpretation of smart contracts that reflects the original intent of their designers.

There seems to be a market for these so-called governed blockchains. The ICO of EOS has raised $ 4 billion worth of Ethereum, the most absolute ever for an ICO.

The EOS dispute resolution model, however, has struggled to get the traction among those who find the arbitration system an anathema for the spirit of the blockchain. For those critics, a centrally governed blockchain like EOS contradicts the purpose of blockchain technology, which supports both the facilitation of decentralized transactions.

While the ICO community is struggling with the adoption of code governance, Johnstone sees an opening for help from traditional financial regulators. He says they could clarify the relationship between the ICO smart contracts and the existing legal system. By guaranteeing potential investors that they will get what they pay by allowing traditional courts to judge disputes over smart contracts, it could facilitate continued growth in demand for ICOs.