A.

Definition

1. Digital currency
Cryptocurrency (or “crypto”) is a digital currency, such as Bitcoin, that is used as an alternative
payment method or speculative investment. Cryptocurrencies get their name from the
cryptographic techniques that let people spend them securely without the need for a central
government or bank.

2. Pros and Cons

 Cryptocurrency pros
 Some supporters like the fact that cryptocurrency removes central banks from managing
the money supply since over time these banks tend to reduce the value of money via
inflation.
 In communities that have been underserved by the traditional financial system, some
people see cryptocurrencies as a promising foothold. Pew Research Center data from
2021 found that Asian, Black, and Hispanic people "are more likely than White adults to
say they have ever invested in, traded or used a cryptocurrency
 Other advocates like the blockchain technology behind cryptocurrencies, because it’s a
decentralized processing and recording system and can be more secure than traditional
payment systems.
 Some cryptocurrencies offer their owners the opportunity to earn passive income
through a process called staking. Crypto staking involves using your cryptocurrencies to
help verify transactions on a blockchain protocol. Though staking has its risks, it can
allow you to grow your crypto holdings without buying more.

 Cryptocurrency cons
 Many cryptocurrency projects are untested, and blockchain technology in general has
yet to gain wide adoption. If the underlying idea behind cryptocurrency does not reach
its potential, long-term investors may never see the returns they hoped for.
 For shorter-term crypto investors, there are other risks. Its prices tend to change rapidly,
and while that means that many people have made money quickly by buying in at the
right time, many others have lost money by doing so just before a crypto crash.
 Those wild shifts in value may also cut against the basic ideas behind the projects that
cryptocurrencies were created to support. For example, people may be less likely to use
Bitcoin as a payment system if they are not sure what it will be worth the next day.
 The environmental impact of Bitcoin and other projects that use similar mining protocols
is significant. A comparison by the University of Cambridge, for instance, said worldwide
Bitcoin mining consumes more than twice as much power as all U.S. residential lighting
Some cryptocurrencies use different technology that demands less energy.
 Governments around the world have not yet fully reckoned with how to handle
cryptocurrency, so regulatory changes and crackdowns have the potential to affect the
market in unpredictable ways.
B. Types of Cryptocurrencies

1. Bitcoin was initially developed primarily to be a form of payment that isn't controlled or
distributed by a central bank. While financial institutions have traditionally been necessary
to verify that a payment has been processed successfully, Bitcoin accomplishes this securely,
without that central authority.
2. Ethereum uses the same underlying technology as Bitcoin, but instead of strictly peer-to-
peer payments, the cryptocurrency is used to pay for transactions on the Ethereum network.
This network, built on the Ethereum blockchain, enables entire financial ecosystems to
operate without a central authority. To visualize this, think insurance without the insurance
company, or real estate titling without the title company.
3. Litecoin, for example, started out as a clone of the Bitcoin blockchain's source code, but it
included changes to speed up transaction times and improve storage efficiency. Litecoin’s
purpose is the same as Bitcoin’s — to be a peer-to-peer internet currency — but its founder
sought to improve the way Bitcoin went about it.

C. Blockchain Technology

1. Distributed Ledger
A blockchain is a distributed database or ledger shared among a computer network's nodes.
They are best known for their crucial role in cryptocurrency systems for maintaining a secure and
decentralized record of transactions, but they are not limited to cryptocurrency uses.
Blockchains can be used to make data in any industry immutable—the term used to describe the
inability to be altered.

Because there is no way to change a block, the only trust needed is at the point where a user or
program enters data. This aspect reduces the need for trusted third parties, which are usually
auditors or other humans that add costs and make mistakes.
2. Transparency and Secure
Blockchain Transparency
Because of the decentralized nature of the Bitcoin blockchain, all transactions can be
transparently viewed by either having a personal node or using blockchain explorers that allow
anyone to see transactions occurring live. Each node has its own copy of the chain that gets
updated as fresh blocks are confirmed and added. This means that if you wanted to, you could
track a bitcoin wherever it goes.

For example, exchanges have been hacked in the past, resulting in the loss of large amounts of
cryptocurrency. While the hackers may have been anonymous—except for their wallet address—
the crypto they extracted are easily traceable because the wallet addresses are published on the
blockchain.

Of course, the records stored in the Bitcoin blockchain (as well as most others) are encrypted.
This means that only the person assigned an address can reveal their identity. As a result,
blockchain users can remain anonymous while preserving transparency.

Is Blockchain Secure?
 Blockchain technology achieves decentralized security and trust in several ways. To begin with,
new blocks are always stored linearly and chronologically. That is, they are always added to the
“end” of the blockchain. After a block has been added to the end of the blockchain, previous
blocks cannot be changed.

A change in any data changes the hash of the block it was in. Because each block contains the
previous block's hash, a change in one would change the following blocks. The network would
reject an altered block because the hashes would not match.

Not all blockchains are 100% impenetrable. They are distributed ledgers that use code to create
the security level they have become known for. If there are vulnerabilities in the coding, they can
be exploited.

For instance, imagine that a hacker runs a node on a blockchain network and wants to alter a
blockchain and steal cryptocurrency from everyone else. If they were to change their copy, they
would have to convince the other nodes that their copy was the valid one.

They would need to control a majority of the network to do this and insert it at just the right
moment. This is known as a 51% attack because you need to control more than 50% of the
network to attempt it.

Timing would be everything in this type of attack—by the time the hacker takes any action, the
network is likely to have moved past the blocks they were trying to alter. This is because the rate
at which these networks hash is exceptionally fast—the Bitcoin network hashed at 348.1
exahashes per second (18 zeros) on April 21, 2023.
3. Immutably Records
Blockchain can be used to immutably record any number of data points. This could be in the
form of transactions, votes in an election, product inventories, state identifications, deeds to
homes, and much more.
Currently, tens of thousands of projects are looking to implement blockchains in various ways to
help society other than just recording transactions—for example, as a way to vote securely in
democratic elections.

The nature of blockchain’s immutability means that fraudulent voting would become far more
difficult. For example, a voting system could work such that each country's citizens would be
issued a single cryptocurrency or token.

Each candidate would then be given a specific wallet address, and the voters would send their
token or crypto to the address of whichever candidate for whom they wish to vote. The
transparent and traceable nature of blockchain would eliminate the need for human vote
counting and the ability of bad actors to tamper with physical ballots.
D. REGULATION > POLICIES

U.S. regulators are in the midst of a crackdown on cryptocurrency that has created new
uncertainty about the future of the market for digital assets.

In June of 2023, the U.S. Securities and Exchange Commission filed enforcement actions against
the world's largest crypto exchange, Binance. The following day, the agency went after Coinbase,
the dominant exchange in the U.S.

And if the waters weren't muddy enough, a federal judge ruled in another SEC case in July 2023
that Ripple had not violated securities laws when it sold its XRP cryptocurrency to consumers.
The court did say that some private sales had been securities contracts, however.

Taken together, the developments intensify lingering questions about just how existing laws
governing investment and trading will apply to this relatively new asset class. The fallout from
the latest flurry of litigation could have a lasting effect on how consumers are allowed to buy and
sell crypto.

REGULATION > LEGAL FRAMEWORK

What's at stake with cryptocurrency regulation?

At the very basic level, the challenges by the SEC accuse the targeted companies of violating
securities laws. That might sound technical, but in the United States, securities laws are essential
for investors to understand why markets operate the way they do.

Crypto has so far operated in something of a regulatory gray area. It's not exactly like stock, or
bonds, or real estate — or really any other financial product that existed at the start of the 21st
century. This uncertainty has a real effect on consumers.

Crypto is not covered by Federal Deposit Insurance Corp. policies that protect account holders
against bank failures. It's also not covered by Securities Investor Protection Corporation (SIPC)
insurance, which provides similar help to brokerage customers. Companies issuing
cryptocurrency don't have to file financial reports like publicly traded companies do, which
means that investors may not have the same insight into their cryptos' fundamentals as people
who own stock do.

Have these regulatory gaps cost customers? Sure. Read up on the FTX collapse if you want to
see some of the downsides in action.

The flip side of this is that crypto has been able to grow into a global asset class relatively
unburdened by the strictures governing other products.
 Crypto was born out of an ideological opposition to centralized financial control. And some
proponents argue that the hands-off regulatory approach has led to innovation that would not
be possible under the close watch of traditional financial authorities.

E. FUTURE > ADOPTION RATE

Is crypto a security?
The SEC actions against Binance and Coinbase turn on whether or not cryptocurrency is a
security. But even beyond these lawsuits, the question is the subject of intense legal debate that
could last for years.

The SEC has argued that some cryptocurrencies and products built using cryptocurrency are in
fact securities. Among them are:

- Crypto staking programs: Regulators have argued that staking and rewards programs —
through which customers deposit cryptocurrency and earn rewards similar to interest — amount
to securities. While investors may be able to stake on their own using cryptocurrencies'
underlying blockchain networks, the SEC has questioned the legality of some products that do it
for you — including one run by Coinbase.

- Some, but maybe not all, cryptocurrencies: It's not a new concept for the SEC to go after
certain cryptocurrencies. In its recent action against Coinbase, the SEC argued that
cryptocurrencies including Cardano and Solana are securities. The SEC has not made similar
arguments about all cryptocurrencies, however.

Wondering why the SEC might consider some crypto products to be securities? For starters, it
might help to understand how government agencies in the U.S. define what is and is not a
security — and why it matters.

So, what is a security?

Very sorry to do this, but we're going to have to get into some legalese in order to really explain
this.

The Howey test

The question of whether something is a security or not depends on an evaluation known as the
"Howey test"

This is based on a 1946 U.S. Supreme court decision that found that securities laws apply to an
investment if it "involves an investment of money in a common enterprise with profits to come
solely from the efforts of others."

The SEC interprets this through a four-prong test that follows closely from the wording of the
court decision.
In this reading, you may have invested in a security if the following things are true:
1.) You invested money in something.
2.) Other people have a stake in it, too.
3.) You're expecting to make money from the investment.
4.) Those expected profits would come from someone else's work.

There are arguments to be made on either side as to how the Howey test applies to crypto.

You might say that when you're buying crypto, you're investing in something built by another
person or organization in anticipation that its value will rise.

Or you might argue that because crypto is "decentralized," every user plays some part —
however small — in the operation of the blockchain network on which cryptocurrencies run.

However you come down on this, the ultimate decision will now be in the hands of regulators,
courts and many, many (many) lawyers.

FUTURE > POTENTIAL CHALLENGE

What's the future of cryptocurrency look like?

The future of cryptocurrency will be shaped one way or another by how regulations shake out.

The United States is only one of many jurisdictions wrestling over how to handle crypto, but
given our nation's centrality to financial markets, there is a lot at stake in the Coinbase and
Binance suits — along with whatever else is to follow.

Even days after the litigation was announced, the effects were being felt. Many of the
cryptocurrencies named in the Coinbase suit experienced sharp drops in value, and other
institutions began taking newly cautious approaches.

Robinhood, the investment app that has expanded from the stock market into the crypto space,
said June 9 that it would stop supporting transactions involving Cardano, Solana and Polygon
(MATIC) in light of the SEC's actions.

“A declaration that they are securities and should be regulated as such is not as simple as filling
out a form. There's no form to fill out at this point.”
It might be hard to fathom why it would be bad for cryptocurrencies to be regulated like other
investment products that are considered to be securities. After all, stocks trade freely on the
market and there's no significant debate about whether they are subject to the SEC's regulation.

That said, cryptocurrencies have emerged as an asset class in absence of any kind of regulatory
framework to oversee them. So a declaration that they are securities and should be regulated as
such is not as simple as filling out a form. There's no form to fill out at this point.
Such a determination may leave the creators of a cryptocurrency project with few options for
how to keep their product on the market.

For example, in February 2022, the SEC settled with the crypto exchange Kraken over allegations
that its staking program was an unregistered security. As part of that settlement, Kraken paid
$30 million and agreed to cease the program.

FUTURE > FIELD

Are there other ways regulators may approach crypto?

The question over securities laws is scarcely the only source of regulatory uncertainty facing
cryptocurrency.

In a 2022 report, the U.S. Treasury Department's Financial Stability Oversight Council laid out
three major gaps between current regulations and cryptocurrency.

- No rules for spot markets. In the traditional financial system, spot markets — where payment
and asset ownership change hands immediately — operate under regulations that promote
“orderly and transparent trading” and “prevent conflicts of interest and market manipulation.”
Crypto exchanges exist outside that government-refereed playing field.

- Regulatory arbitrage. Because cryptocurrency isn’t regulated in a comprehensive way,

individuals who find multiple rules for the same type of activity could potentially game the
system. For example, a crypto company could place subsidiaries in multiple jurisdictions in such
a way that prevents a comprehensive understanding of its overall risk level. Meanwhile,
traditional banks that offer similar services face a higher level of scrutiny.

- Centralized services. When the average retail investor buys a stock or mutual fund, a well-
defined process clicks into action. By design, multiple entities are involved with each transaction,
which can take a day or two to complete. This process acts like a series of watertight
compartments in a ship: If damage occurs in one spot, the process itself can limit damage
elsewhere. In contrast, a crypto exchange can perform many of these otherwise distributed
functions itself. While this can result in quicker settlement, it can also introduce elevated levels
of risk.