Weekly Stories - 6/7

This week in the newsletter, we write about President Biden’s veto of the bill that would overturn the SEC’s SAB 121; Robinhood’s acquisition of Bitstamp, one of the world’s oldest cryptocurrency exchanges; and StarkWare providing $1m in grants to accelerate research into OP_CAT, a proposed Bitcoin upgrade.

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Biden Vetoes SAB 121 Bill

President Biden vetoes bill that would overturn SEC’s SAB 121. Last Friday night, Pres. Biden vetoed a bill, H.J.Res. 109, that would overturn Staff Accounting Bulletin 121 (“SAB 121”) from the Securities & Exchange Commission, a bill which passed both the House and Senate with bipartisan support. In the House, 21 Democrats defied the White House’s veto threat to join with Republicans, while 11 Democrats and 1 Independent joined Republicans in the Senate to pass the bill.

Writing to the House of Representatives, Biden called the effort “Republican-led” and argued that overturning SAB 121 “would inappropriately constrain the SEC’s ability set forth appropriate guardrails and future issues” and “risk undercutting the SEC’s broader authorities regarding accounting practices.” Biden continued by saying his “administration will not support measures that jeopardize the well-being of consumers and investors.”

Under SAB 121 publicly traded companies must account for digital assets held on behalf of clients on their corporate balance sheets. This has the effect of making custody clients of those companies unsecured creditors if the custodian goes bankrupt. Because many banks are publicly traded companies, and due to separate bank capital rules that require banks to hold cash 1:1 for crypto assets on their balance sheets, SAB 121 has had the effect of deterring any banks from custodying crypto assets on behalf of depositors.

The votes on SAB 121 were a major part of significant crypto-political drama over the last month. Former President Trump embraced crypto, telling an audience at Mar-a-Lago in May that “if you like crypto, you should vote Trump,” and later said at the Libertarian Party National Convention that he would “keep Elizabeth Warren and her goons away from your Bitcoin” and pledged to support the right to self-custody cryptoassets. A couple weeks later, the House voted to pass the Financial Innovation & Technology Act for the 21st Century (“FIT 21”), with 71 Democrats voting in favor. That same week, the SEC abruptly took a major step to approve spot-ETH ETPs after months of silence on the pending applications.

While most congressional Republicans and many congressional Democrats have been supportive of the crypto industry over the last few years, a loud and vocal group of influential Democrats have either spoken against or ignored it. These House and Senate votes, statements from the former president, and increasing political fundraising in key races had appeared to cause a shift in the White House’s political strategy from overt hostility to perhaps a more ambivalent strategy, if not outright support. President Biden’s veto stalls some of the momentum in that direction, though he said he was “eager to work with the Congress to ensure a comprehensive and balanced regulatory framework for digital assets” and his campaign has increased industry outreach.

OUR TAKE:

It's important to note that the Government Accountability Office (GAO) ruled that SAB 121 amounted to a regulatory rule, and thus the SEC violated the Administrative Procedures Act (APA) by not conducting a formal rulemaking process that included engaging with the public through a comment period. The banks themselves heavily opposed SAB 121, with several large banks pausing or scuttling their crypto custody plans, and the Bank Policy Institute and a coalition writing a letter formally opposing it. But not only did the SEC not follow the APA, they failed to distribute it or notify the bank regulators that they were implementing a rule that would dramatically impact the banking system. How can the SEC and the President say that SAB 121 is needed to protect the safety and soundness of the banking system if they didn’t even consult with the bank regulators who actually have the mandate to maintain the safety and soundness of the banking system? It’s fair to say the SEC overstepped their bounds from a regulatory jurisdiction standpoint.

Before we address the politics, it’s worth mentioning that we strongly disagree with the President’s contention that overturning SAB 121 would “jeopardize the well-being of consumers and investors.” The main effect of SAB 121 is to relegate cryptocurrency exchange and custodian users to unsecured creditors (which is quite “jeopardizing” to their “well-being”) and prohibit the most highly-regulated custodians (banks) from safeguarding digital assets, which has the effect of pushing digital asset custody to more nascent, less regulated alternatives. We believe SAB 121 makes consumers and investors less safe, so overturning it would make them more safe. The President’s other argument for vetoing the bill—that the bill “would inappropriately constrain the SEC’s ability…”—makes more sense to us, as we wrote in our May 17, 2024 edition that “the White House was driven more by circling the wagons around current SEC leadership than taking a particular directional view on the policy matter itself.”

Politically speaking, though, the White House had mostly boxed itself in here. By overtly threatening to veto any bill that overturns SAB 121, the White House provided air cover to House and Senate Democrats to vote against a bill they knew was going to pass. Knowing the bill was going to pass regardless, if the White House hadn’t issued the veto threat, it’s likely that many more Democrats would’ve voted in favor, even if only for reasons of political expediency. But because the threat was issued, the White House set a marker that, regardless of any defections to occur, the party line was still opposition. Reneging on that promise would have caused a serious schism within the party. Contrarily, and perhaps with the benefits of witnessing the shifting political winds in real time, the White House did not threaten a veto on the FIT21 bill, which played a role in the expanded support it received in the House (71 votes vs. 21 votes for SAB 121 overturn).

Perhaps the White House issued no veto threat on FIT21 to avoid creating the same political conundrum as did the veto threat on SAB 121. Another view is that FIT21 is much less likely to pass the Senate, so no veto threat was required, and Democrats were freer to vote in favor (it also helped that Speaker Emerita Nancy Pelosi supported FIT21). Indeed, any comprehensive market structure bill to be seriously considered by the Senate will be one that emanates from the Senate, likely built on the templates of either the Responsible Financial Innovation Act (“Lummis-Gillibrand Bill”) or the Digital Commodities Consumer Protection Act (“Stabenow-Boozman Bill”) rather than on the House’s FIT21. While there are differences between these two Senate bills, and between them and FIT21, broadly speaking all these efforts seek to clarify the regulatory status of crypto assets and brokers/exchanges in crypto, as well as clearly define the jurisdiction of financial regulators as it relates to various stages and segments of the crypto ecosystem.

In any case, we believe the events of the last few weeks have meaningfully altered the national political landscape for crypto, if not the policy landscape. It’s unclear whether the Democrat votes for FIT21 or SAB 121 will translate into enduring support for progressive cryptocurrency policy, or whether these votes and the shifting language from Democratic leadership in Congress and the White House are merely changes in political strategy.

At a high level, we believe that the United States must catch up to other major economies like the European Union, the United Kingdom, United Arab Emirates, Singapore, and Hong Kong by adopting a progressive regulatory framework for digital assets that clearly defines rules and regulatory jurisdictions to promote innovation and protect consumers. Maintaining leadership in the face of global fragmentation and the rise of artificial intelligence demands that the United States formalize a framework for digital assets that enshrines the core values of these networks (self-custody, transactional freedom, permissionlessness) while establishing clear rules for issuers and intermediaries, and we should do so on a bipartisan basis so crypto users and businesses feel secure and empowered to invest and build for the long term. -Alex Thorn

Robinhood Buys Bitstamp

Robinhood acquires cryptocurrency exchange Bitstamp for $200m. Robinhood, the US-based brokerage firm known for providing zero-fee trading, but which has also increasingly embraced cryptocurrency trading over the last several years, agreed to buy Bitstamp, the world’s oldest still-operating cryptocurrency exchange, for “approximately $200 million in cash,” Bloomberg reported. Bitstamp was founded in 2011 and has offices in Europe, the UK, Singapore, and the US. Barclays Capital served as exclusive financial advisor to Robinhood while Galaxy Digital Partners served as exclusive financial advisor to Bitstamp.

Robinhood’s first forays into the world of crypto began in 2018 when it added trading support for Bitcoin and Ether, but it has since added support for dozens of other coins including DOGE, SHIB, AVAX, LTC, UNI, ETC, LINK, XLM, AAVE and more. While the company started by allowing trading with no wallet functionality (i.e., users could only buy or sell, but not withdraw or deposit to/from crypto wallets), Robinhood now supports transfers.

OUR TAKE:

Despite being the oldest continuously operating crypto exchange, Bitstamp is still quite smaller than competitors Coinbase, Kraken, Binance, and others, and is mostly focused in Europe. Despite being relatively small, though, the acquisition firmly puts Robinhood in the cryptocurrency exchange game, expanding beyond mere brokerage and wallet services, and it also gives Robinhood a strong crypto foothold in Europe.

Robinhood said in early May that its U.S. crypto unit had received a Wells Notice from the Securities & Exchange Commission on May 4, and said that it would use its “resources to contest this matter in the courts.” The firm also said “we firmly believe that the assets listed on our platform are not securities and we look forward to engaging with the SEC to make clear just how weak any case against Robinhood Crypto would be,” suggesting that the substance any SEC case against Robinhood would relate to allegations that at least some of the assets listed on its platform are unregistered securities. Robinhood CEO Vlad Tenev told CNBC that his company had met with the SEC 16 times to discuss crypto and “try to create what’s called a special purpose broker-dealer for the purpose of transacting crypto assets” but those meetings were not fruitful in providing the clarity they sought and their “good faith” meetings instead resulted in an enforcement action.

Therefore, acquiring Bitstamp could be part of a Robinhood strategy to hedge against an uncertain U.S. regulatory environment for crypto as much as it could be an attempt to start competing more directly with players like Coinbase and Binance. Firms like Coinbase have continued to expand internationally, and certain jurisdictions like Europe and the Middle East have become more appealing for crypto businesses with the introduction of Markets in Crypto Assets (MiCA) and more accommodative policies in the United Arab Emirates. -Alex Thorn

StarkWare Supporting Bitcoin Developers Working on OP_CAT

StarkWare, the developers of the second largest ZK-Rollup on Ethereum, will contribute $1m in grants to Bitcoin developers and researchers focusing on OP_CAT, a highly anticipated pending opcode for Bitcoin. The grant fund will distribute donations to individuals and entities that are both for and against implementing OP_CAT to Bitcoin. OP_CAT, also known as BIP 347, is a proposed opcode that enables additional programmability to Bitcoin Script, specifically by adding a “concatenation” feature that would allow users to create more complex types of transactions.

In StarkWare’s announcement for the grant fund, Eli Ben-Sasson, the founder of StarkWare, highlighted his mission to scale Bitcoin with STARK technology. While STARK proof verification is only live on Ethereum based ZK-Rollups, Ben-Sasson’s vision is to bring StarkWare's scaling framework from Ethereum to Bitcoin once OP_CAT reaches consensus within the Bitcoin developer community and is implemented in the next upgrade. However, in the event OP_CAT fails to reach consensus among Bitcoin developers, Eli Ben-Sasson shared that StarkWare is also working on alternatives that could serve as a viable substitute for OP_CAT. At this time, several opcodes are vying for developer attention and no consensus has been reached on which, if any, to add to any future Bitcoin upgrade.

OUR TAKE:

OP_CAT is becoming one of the more prominent Bitcoin Improvement Proposals (BIP) and could help enhance Bitcoin’s base layer to support new execution layers and diverse use cases. Over the last 12 months, dozens of teams have emerged to build new types of Bitcoin layer 2 networks, but a primary challenge has been an inability to establish trustless bridges. Bitcoin's limited transaction programmability hampers the creation of L2 bridges that are independent of manual intervention by bridge operators for BTC transfers between the layer 1 blockchain and the layer 2 network. The implementation of OP_CAT to Bitcoin Script could enable transaction programmability for Bitcoin L2 bridge contracts with along with covenants, which are spending conditions embedded in transactions.

Specifically, OP_CAT introduces additional transaction programmability on Bitcoin by allowing developers to concatenate two data points together within a stack and place these values at the top of the stack. For background, concatenating is the process of combining two or more strings of code into a single larger string of code. Bitcoin script is a stack-based programming language that computes each string of code in sequential order. Unfortunately, Bitcoin’s scripting language does not include an opcode that allows developers to merge multiple strings of code throughout the entire stack. Consequently, OP_CAT’s concatenate function enables projects building on Bitcoin to create spending conditions on transactions that can facilitate new use cases like trustless bridges, staking, and advanced vaulted custody solutions. Notably, ZK-Rollup based Bitcoin L2s like Citrea and Bison are already using STARK proof verifications for their rollups on testnet. Notably, OP_CAT was originally included and then disabled by Satoshi in 2010 due to fears that endless concatenation could lead to infinite loop errors or denial-of-service attacks and create exponential memory requirements, though it appears those concerns are now addressed. OP_CAT brings substantial programmability enhancements in a tiny package: only 10 lines of new code are needed to enable OP_CAT on Bitcoin.

StarkWare is the first significant project outside the Bitcoin ecosystem to endorse OP_CAT. Before StarkWare's recent support, the OP_CAT campaign was solely led by Quantum Cats, the fourth largest Ordinals project by market cap and the face of the OP_CAT movement. This increased attention has motivated prominent developers and researchers within the Bitcoin ecosystem to voice their interest in and support for the opcode, such as Blockstream CEO Adam Back and Blockstream Head of Research Andrew Poelstra. Although OP_CAT has not yet achieved full consensus within the Bitcoin community, StarkWare's $1 million grant, coupled with influential Bitcoin players signaling their support, marks a positive step forward for the OP_CAT movement. While reaching consensus on new opcodes for Bitcoin has historically been challenging, the progress OP_CAT supporters have made in educating the community about its importance is nothing to gloss over. - Gabe Parker

Charts of the Week

The number of addresses active on some the largest Ethereum Layer 2s (L2s) reached an all-time high of 1.925 million addresses using the 30-day moving average on June 6, 2024. Arbitrum holds the most daily active addresses (DAAs) at 781,592 addresses, followed by Base at 319,499 addresses, and Linea at 284,727 addresses. Note these values do not account for the possibility that some addresses might transact on multiple L2s in a single day; it is instead the stacked count of addresses active on each network individually.

Complimenting the all-time high made in combined individual counts of each L2 is an all-time high in the outright unique count of addresses on these L2s; this value accounts for the fact that some addresses may use multiple L2s in a single day. The total unique number of addresses using L2s reached 1,632,335 on June 6, 2024 using the 30-day moving average. The breakdown of this 1.632 million address figure shows 1,452,788 addresses have used only one of the observed L2s, while 179,547 (or 12.36%) have transacted on multiple L2s.

Other News

• Kraken explores pre-IPO funding round: Bloomberg

• Franklin Templeton exploring crypto fund for tokens other than bitcoin and ether

• EigenLayer's total value locked surpasses $20bn

• Paxos International launches yield-bearing stablecoin

• Coinbase launches smart wallet

• Uniswap Foundation delays vote for token staking and delegation rewards

• Binance resumes Mastercard payments for Crypto