Corey Frayer: Crypto loses its identity when mimicking traditional finance, SEC’s independence is crucial for regulation, and compliance can create competitive advantages

Key takeaways

• Crypto loses its distinct identity when it begins to mimic traditional financial systems.
• If crypto projects function like banks or securities exchanges, they must comply with existing laws.
• The current state of crypto resembles traditional finance but often resists regulation.
• The SEC’s enforcement division operates independently from the chair’s direct involvement in investigations.
• Gary Gensler’s knowledge of crypto is a significant asset for the SEC’s approach to the industry.
• The crypto industry perceives the SEC’s office hours as a trap due to fears of future enforcement actions.
• The distinction between an asset being sold as a security and the asset itself being a security is crucial.
• Engaging platforms to comply with securities laws can create a competitive advantage in the crypto trading space.
• Vertical integration in crypto exchanges poses significant risks to financial regulation.
• Crypto’s fundamental value lies in enabling peer-to-peer transactions without intermediaries.
• Introducing intermediaries into crypto undermines its decentralized ethos.
• The crypto industry needs to start centralized to eventually achieve decentralization.
• The SEC’s approach under Gary Gensler has stifled the potential growth of the crypto industry.
• The crypto market poses a threat to the integrity of established securities laws if not treated equally.
• Crypto startups should be treated like other startups in terms of capital raising.

Guest intro

Corey Frayer is Director of Investor Protection at the Consumer Federation of America, where he leads efforts to advocate for policies protecting investors and promoting market integrity. Most recently, he served as Senior Adviser to SEC Chair Gary Gensler, focusing on financial stability and crypto asset markets, where he shaped the agency’s approach to securities law and digital assets. Prior to his SEC tenure, Frayer held key positions on Capitol Hill, including as a senior staffer on the Senate Banking Committee advising Chairman Sherrod Brown on financial regulation and consumer protection.

Crypto’s integration into traditional finance

• Crypto loses its distinct technological identity when it starts mimicking traditional financial systems.

  — Corey Frayer

• When crypto starts coming into the traditional space and doing the traditional activities to me it loses the protection of the argument that this is a distinct technology built for peer to peer transactions.

  — Corey Frayer

• If crypto projects aim to operate like banks or securities exchanges, they must adhere to existing laws.

• If you’re gonna build a bank if you’re gonna build a securities exchange if you’re gonna raise money the way the Howey Test lies out there are laws for that everyone has to follow the same laws.

  — Corey Frayer

• The current state of crypto resembles traditional finance but resists regulation.

• I take issue with the way that it has become something that looks a lot more like the traditional financial system but doesn’t want to be treated like the traditional financial system.

  — Corey Frayer

• There is a misconception that the SEC under Gensler is pro-traditional finance.

• I think there’s a perception that the Gensler SEC or myself was very pro traditional industry.

  — Corey Frayer

SEC’s regulatory approach and independence

• The SEC’s enforcement division operates independently from the chair’s direct involvement in ongoing investigations.

• I did not have access to the investigations as they were ongoing… there’s a ton of independence in the enforcement division.

  — Corey Frayer

• Gary Gensler’s knowledge of crypto is a significant asset for the SEC’s approach to the industry.

• He actually was informed about crypto… to understand our industry is going to be the greatest asset.

  — Corey Frayer

• The narrative in the crypto industry suggests that Gary Gensler is leveraging his position to gain political capital at the expense of the crypto sector.

• The narrative which was allowed to reverberate without being unchecked was that Gary Gensler is upon maybe even a bishop or a knight of Elizabeth Warren who has a very anti crypto political stance and Gary Gensler is using this as an opportunity to ascend his political capital inside of the world of politics.

  — Corey Frayer

• The crypto industry has largely been isolated from opposing viewpoints, leading to unchecked narratives about regulatory intentions.

• We basically never talked to anyone on the other side of the aisle… the narrative which was allowed to reverberate without being unchecked.

  — Corey Frayer

Securities law and crypto assets

• The distinction between an asset being sold as a security and the asset itself being a security is crucial in understanding investment contracts.

• Being offered and sold as a security doesn’t mean the asset itself is a security… the concept of an investment contract is that you can offer and sell something as a securities arrangement.

  — Corey Frayer

• The SEC established precedent that crypto assets could be offered and sold as securities under certain conditions.

• Crypto assets could be offered and sold as securities… established some precedent that at a minimum according you know to the eyes of the court.

  — Corey Frayer

• Focusing regulatory efforts on centralized platforms is more productive than targeting individual tokens.

• We felt that playing mac whack a mole with you know 10,000 tokens wasn’t gonna be a productive use of our resources.

  — Corey Frayer

Compliance and competitive advantage

• Engaging platforms to comply with securities laws can create a competitive advantage in the crypto trading space.

• Our theory here was that if you could get someone to come in and comply with the securities laws they would have a competitive advantage of being the safe place to trade crypto because they were disclosing they were following industry standard rules.

  — Corey Frayer

• Having multiple financial services under one platform creates conflicts of interest that violate foundational securities law.

• The red line is essentially having all these businesses together in one platform not having those conflicts of interest is a foundational rule in securities law.

  — Corey Frayer

• Vertical integration in crypto exchanges poses significant risks to financial regulation.

• You don’t want these businesses with tons of different exposures like you want people to be in their particular verticals and that way one failure doesn’t cascade across the entire system you don’t want conflicts of interest that give an exchange an advantage over the customers trading on the exchange.

  — Corey Frayer

• The structure of FTX was a classic failing business model.

• We had raised an we all had serious concerns about FTX purely because of the structure like that is a classic failing business model.

  — Corey Frayer

Peer-to-peer transactions and decentralization

• Crypto’s fundamental value lies in enabling peer-to-peer transactions without intermediaries.

• What crypto solved for is peer to peer transactions not relying on an intermediary and that is why the technology exists so no one would have to rely on an intermediary like that is fundamental to the ethos.

  — Corey Frayer

• Introducing intermediaries into crypto undermines its decentralized ethos and necessitates compliance with traditional financial regulations.

• I get very unsympathetic to the crypto industry when they start introducing intermediaries to this process… if you’re gonna show up here and be an intermediary… you have clearly entered traditional financial territory and you have to follow those rules.

  — Corey Frayer

• The crypto industry needs to start centralized to eventually achieve decentralization.

• In order to build some of the more expressive financial infrastructure beyond some of the base primitives like just Bitcoin and Ethereum in order to do more things to make crypto more useful and have better assets and a more flourishing financial system we need to have start ups that raise money and start centralized and with a long term goal of becoming decentralized.

  — Corey Frayer

• The collapse of FTX significantly impacted traditional financial firms’ willingness to engage with crypto.

• The reason that didn’t come to fruition is because before we executed on that plan… FTX collapsed and all the traditional financial firms didn’t wanna have anything to do with crypto after that it was toxic.

  — Corey Frayer

Regulatory challenges and the SEC’s role

• The SEC’s approach under Gary Gensler has stifled the potential growth of the crypto industry.

• We were being treated as an industry that had no values no morals no aspirations and was just trying to do what you were saying which is have our cake and eat it too… we were nipped in the bud by Gary Gensler.

  — Corey Frayer

• If the crypto world had remained focused on electronic peer-to-peer transactions, regulatory scrutiny from the SEC might have been avoided.

• If the crypto world had stayed in the space of electronic peer to peer transactions I don’t think the SEC would ever have gotten involved in it.

  — Corey Frayer

• The crypto market poses a threat to the integrity of established securities laws if not treated equally.

• If you take two things that are economically identical if you have something being offered and sold as a security and you have a biotech firm selling securities and you don’t treat the crypto market the same way you are undermining the securities laws…

  — Corey Frayer

• The economic reality of business practices in crypto must be treated the same as any other financial instrument.

• It is incumbent upon financial regulators regardless of the technology to treat your economic the economic reality of of your business practices the same as any other identical economic instrument.

  — Corey Frayer

Crypto startups and investor protection

• Crypto startups should be treated like other startups in terms of capital raising.

• I don’t see a reason to treat crypto startups any differently than other startups again when they’re doing the same economic activity.

  — Corey Frayer

• The SEC’s role is to ensure issuers follow laws rather than make investment decisions for investors.

• You do not want the securities and exchange commission to be making decisions on behalf of investors… what you want to do is make sure that issuers of securities follow the laws that congress has set forth.

  — Corey Frayer

• The orderly functioning of the securities marketplace is crucial for investor protection.

• The orderly functioning of that marketplace is really important the stability of that marketplace is important disclosure is really important fair dealing eliminating conflicts of interest attempting to eliminate unfair information asymmetry insider trading for example going after fraud that is the kind of investor protection that you want the SEC involved in.

  — Corey Frayer

• Peer-to-peer transactions are fundamentally what crypto was designed to facilitate.

• That’s the thing that crypto was set up to do and I would agree with you there a 100% that that is the thing that crypto is set up to do.

  — Corey Frayer

DeFi and centralized actors

• Decentralized finance (DeFi) aims to perform financial functions without intermediaries.

• What if you can actually get to a point where you can in an intermediary less way you can do all of the functions or many of the functions in finance.

  — Corey Frayer

• The definition of DeFi is nuanced and depends on the presence of centralized actors.

• I would say that it depends a lot on how you’re defining DeFi… if you have something where genuinely there’s sort of this immaculate conception of a protocol that allows for trading of nonsecurity crypto assets in a truly intermediary less way then yeah, I think by definition that falls outside the securities laws.

  — Corey Frayer

• Centralized actors in DeFi platforms create obligations to comply with securities laws.

• If you’re trading securities on that platform and I can identify a centralized actor then I don’t think that’s DeFi and I think it clearly has an obligation to comply with the law.

  — Corey Frayer

• The SEC’s actions against Uniswap represent an attack on open source and DeFi.

• We felt like this was an attack on open source this was an attack on on DeFi and this is maybe beyond the SEC’s jurisdiction.

  — Corey Frayer

Uniswap and regulatory challenges

• Uniswap has achieved significant trading volume, making it a success story in the DeFi space.

• 4,000,000,000,000 in trading volume on Uniswap like it’s a success story coming out of America.

  — Corey Frayer

• The distinction between good and bad actors in crypto is often unclear until after events unfold.

• We never know as regulators at the outset who the good guys are and who the bad guys are… a lot of people loved Alex Mashinsky and when you know we were looking into him we got a lot of hate when we were looking into FTX we got you know angry letters from congress saying like how dare you this is a huge boom for America…

  — Corey Frayer

• Uniswap’s code allows users to verify its non-custodial nature, distinguishing it from centralized entities like FTX.

• You can know who is good in advance when it comes to Uniswap because we can look at the code and know that it is completely sovereign for the individual who is using it which is not true for FTX…

  — Corey Frayer

• Uniswap’s claim of decentralization is misleading because it can still be identified and served subpoenas.

• I take issue with defining Uniswap as decentralized… we can identify the people… they are a company.

  — Corey Frayer

Philosophical differences in regulation

• There is a philosophical difference regarding the facilitation and control of exchanges in the context of securities laws.

• I think we have a a philosophical difference about what it means to facilitate or be involved with or own or control an exchange.

  — Corey Frayer

• Uniswap Labs is not operating the Uniswap exchange, which is a significant distinction in terms of accountability under securities laws.

• They are not operating that application and they are just perhaps they are facilitating on the front end.

  — Corey Frayer

• Mantle is not just another blockchain; it is an ecosystem designed for builders seeking real distribution and users.

• Mantle is not just another blockchain it is an ecosystem built for builders who want real distribution and real users.

  — Corey Frayer

• Projects on Mantle can access Bybit, which provides exposure to over 70 million verified users.

• Projects on Mantle have access to tap directly into Bybit one of the largest exchanges globally giving teams exposure to more than 70,000,000 verified users.

  — Corey Frayer

Outdated regulations and SEC’s capacity

• The SEC’s regulations from the 1930s may not be suitable for today’s decentralized finance landscape.

• The SEC can look at something that has no counterparties that has no intermediaries and say maybe the SEC regulations from the nineteen thirties don’t quite fit this paradigm of the internet.

  — Corey Frayer

• The SEC lacks the capacity to audit every platform’s code effectively without additional congressional support.

• The SEC is not going to have the capacity unless congress gives it at some point the capacity to go through every platform code and you know figure out whether or not it could be exploited.

  — Corey Frayer

• The SEC’s limited budget and resources hinder its ability to effectively oversee the vast securities marketplace.

• The SEC oversees a $125,000,000,000,000 securities marketplace… and it has a $2,000,000,000 budget every year… you have an enormous task at that agency with a very small amount of resources.

  — Corey Frayer

• The DAO concept is fundamentally flawed as a decentralized model.

• I think the DAO concept is fundamentally flawed as a you know quote unquote decentralized.

  — Corey Frayer

Broader implications of DeFi and DAOs

• Decentralized finance (DeFi) may not pose a significant threat to the broader financial services industry or securities laws.

• I’m not sure I would see DeFi as a threat to the broader financial services industry to the securities laws in such a way that it would need to be a priority of the SEC.

  — Corey Frayer

• The governance of decentralized autonomous organizations (DAOs) still holds individuals accountable, regardless of how decentralized they appear.

• You can identify the people who control a DAO who govern a DAO and those folks no matter how broadly distributed they are are accountable to that.

  — Corey Frayer

• Comparing Uniswap to Google highlights the transformative impact of DeFi on trading, akin to how Google revolutionized internet search.

• It’s basically a trading verb on all of the assets you know that can exist in crypto which is like basically all assets and so they’ve kind of like revolutionized trading the way Google revolutionized the internet and search.

  — Corey Frayer

• Corey believes that while there are bad actors in crypto, the presence of good projects is beneficial for both the US and the world.

• I actually think that’s a net good for not only the US but for the world… the projects that have done more good than bad in crypto… do you think that’s net beneficial?

  — Corey Frayer

Fair regulatory treatment and the Howey Test

• Crypto should not receive preferential treatment in regulation compared to traditional financial industries.

• I think it is not fair to give crypto a leg up over other industries or over other financial regulations because it’s new in some way… the crypto industry make arguments for deregulation that look identical to the traditional industry.

  — Corey Frayer

• The Howey test’s application to various assets may be overly broad, potentially classifying many non-traditional items as securities.

• If your definition of a security turns dollars and game items and loyalty points and Pokemon cards and NFTs… into a security doesn’t it seem like you’ve stretched the Howey Test a bit too far?

  — Corey Frayer

• The SEC evaluates whether an asset is a security based on how it is offered and sold, not just the asset itself.

• The SEC under the Howey Test looks at a totality of circumstances right and so what what that means is it’s not about the asset itself it’s about how it’s distributed.

  — Corey Frayer

• Relying solely on the Torres decision in Ripple is unfair, as there are many legal interpretations regarding what constitutes a security.

• I think it’s unfair to rely just on the Torres decision in in Ripple because there were a lot of decisions that did not fall out that way.

  — Corey Frayer

Economic analysis and legal definitions

• The economic analysis behind a security is more important than a strict definition.

• The whole point of the Howey Test is you if you write down in black and white what is and is not a security you’re writing a road map to getting around securities laws… the reason it’s a broad description is so that you cannot do an end run around securities laws.

  — Corey Frayer

• Creating strict definitions for securities could lead to increased fraud and undermine the securities market.

• You’re gonna break the whole securities market you’re gonna invite a whole lot of fraud but… the reason that the securities laws have stood the test of time is that they take this definitional approach.

  — Corey Frayer

• Defining legal terms in legislation is inherently complex and subjective.

• It is philosophically very hard to write into law exactly what you mean and you don’t want to miss things that you mean to capture and you don’t want to capture things that you mean to exclude.

  — Corey Frayer

• The Howey Test remains a relevant framework for identifying securities.

• I think Howey has stood the test of time as a great white way to identify what is and is not a security.

  — Corey Frayer

SEC’s motives and Uniswap’s alignment

• The SEC has ulterior motives that hinder the growth and potential of the crypto industry.

• The SEC from our cryptos from the crypto perspective seemed to have ulterior motives which is why I invoked Elizabeth Warren and the whole anti crypto army at the very beginning of this podcast.

  — Corey Frayer

• Uniswap has created fair and orderly markets that align with the SEC’s interests more effectively than the SEC itself.

• Uniswap for example has created fair and orderly markets which is 100% aligned with the interests of the SEC and even more spicier somebody like Eric Voorhees would say Uniswap as an application has achieved the SEC’s mandate in a far better far more scalable mechanism than the SEC would ever be able to produce.

  — Corey Frayer

• Regulation does not inherently harm an industry; it can actually strengthen it.

• I would argue that in fact it makes it stronger… in a world where crypto follows the law and investors get the same protections that they would in other parts of the marketplace, it gains trust and and it grows.

  — Corey Frayer

• We cannot identify bad actors in the crypto space until regulations are applied fairly.

• We never know who the bad actors are until they show themselves… you don’t know until you have applied the regulations fairly and you have looked closely at everyone in the business.

  — Corey Frayer

Market trust and the SEC’s approach

• Failing to regulate financial markets erodes trust, which is essential for market stability.

• There are consequences to failing to regulate the financial markets and one of those consequences is eroding trust and that trust is what markets are built on.

  — Corey Frayer

• The SEC under Gary Gensler has taken a ‘bad cop’ approach to regulating the crypto industry.

• I think we started out genuinely trying to work with the industry… it came down to us drawing a line in the sand on having conflicts of interest.

  — Corey Frayer

• Even without fraud, Sam Bankman-Fried’s company was destined to fail.

• I will say even if Sam Bankman Fried had not engaged in the fraud he did his company was destined to fail and destined to harm a lot of people along with it.

  — Corey Frayer

• Crypto risks losing its distinctiveness when it engages in traditional financial activities.

• When crypto starts coming into the traditional space and doing the traditional activities to me it loses the protection of the argument that this is a distinct technology built for peer to peer transactions.

  — Corey Frayer

Private currencies and centralized entities

• Private currencies have historically not worked out well.

• I think it’s a really bad idea… we have experience with private currencies it never works out well.

  — Corey Frayer

• Centralized entities like Circle and Tether contradict the decentralized ethos of crypto.

• They are a company that holds a whole bunch of financial assets they are by definition centralized.

  — Corey Frayer

• The Genius Act is not a good idea as it treats economically identical assets differently.

• No I don’t think the Genius Act was a good idea I don’t think you wanna treat economically identical assets differently.

  — Corey Frayer

• Credit card companies will likely start processing stablecoin transactions without consumer protections.

• I guarantee you we are gonna start to see credit card companies saying well actually these transactions on the back end are stablecoin transactions so you don’t get the benefit of consumer protections anymore.

  — Corey Frayer

Bankruptcy law and political influence

• The accounting treatment of crypto assets in bankruptcy is complex and varies significantly from traditional assets.

• There were a lot of outstanding questions about the kind of liabilities that a public company would have that we believed investors in that public company should be aware of… the industry didn’t like it… it’s usually asking for favorable guidance.

  — Corey Frayer

• Banks could have implemented capital rules to accommodate crypto without affecting their balance sheets.

• If the bank regulators felt that they had a handle on this situation and wanted crypto at the banks they could have put capital rules out that meant that the on sheet balance… didn’t affect the capital standing of the banks.

  — Corey Frayer

• The ambiguity in bankruptcy law for crypto will continue to lead to conflicting decisions.

• We were proved right about this ambiguity in the bankruptcy law in crypto winner when we got tons of conflicting bankruptcy decisions about was it governed by the contract was it governed by the activity itself.

  — Corey Frayer

• The crypto industry did not significantly influence the 2024 election.

• I don’t think it’s credible that this one industry had that much influence over the election… it’s really hard to make the argument that it was crypto sentiment that affected any part of that election.

  — Corey Frayer

Political actions and regulatory consequences

• The crypto industry’s political actions were not focused on promoting pro-crypto candidates.

• They ran the same republican ads… they weren’t running pro crypto ads they never used the word crypto.

  — Corey Frayer

• The silence from the crypto industry regarding presidential corruption is harmful to its credibility.

• I think the silence from most corners of the industry around it in exchange for getting legislation or regulatory favors is ultimately harmful to the industry.

  — Corey Frayer

• Corruption will be a significant theme in the next election, impacting the perception of crypto.

• I think there’s a very good chance that the next election might be impacted not by the crypto of it all but the amount of corruption that crypto has allowed the president to get away with.

  — Corey Frayer

• The current regulatory approach under the new administration is a step in the wrong direction.

• I think it’s absolutely the wrong direction… I would stand behind the validity of every one of them and the integrity of every one of them.

  — Corey Frayer

SEC guidance and market uncertainty

• The current SEC guidance lacks the force of law and is easily reversible, which creates uncertainty for the crypto industry.

• Atkins has done everything by guidance there are no rules that have been established through the APA process which means that none of them hold the force of law.

  — Corey Frayer

• A new SEC administration could lead to chaos and legal challenges in the crypto market.

• In a new SEC that wants to enforce the securities laws equally across the entire market is one a little bit of chaos and two a big challenge in court.

  — Corey Frayer

• The SEC’s current actions are harming the integrity of the institution and will have broader consequences for the market.

• I think what the SEC is doing now through these actions through these unprecedented actions is harming the integrity of that institution and I think that’s gonna have broader consequences for the market than even just crypto.

  — Corey Frayer

• There should be stronger advocacy for regulation and enforcement not just in crypto but across the entire financial system.

• Obviously I would be I think a a stronger advocate for regulation in the space for enforcement and it wouldn’t just be in the crypto space.

  — Corey Frayer

Ethereum’s regulatory status and centralization risks

• Ethereum has characteristics that could classify it as a security at certain times.

• I think some of the things that have harmed the argument that eth is unable to be offered and sold as security… is my opinion that there are at a minimum been times at which eth was offered and sold as security.

  — Corey Frayer

• The transition from proof of work to proof of stake has introduced centralization risks in Ethereum’s validation process.

• Now you have these centralized players that can buy up a lot of eth and be a larger part of the validation process and some people are financially locked out of the validation process.

  — Corey Frayer

• The SEC chair cannot engage in open dialogue without risking market movement and legal repercussions.

• It is much easier for me to have an open conversation with you guys now that I’m outside of the agency because so much of what you do there is potentially market moving information… it is really really hard to while you’re in that seat like I would have never been able to do something like this while I was at the SEC.

  — Corey Frayer

• Independent regulators should avoid engaging in public conversations that could compromise their responsibilities.

• I don’t think it’s actually something you really want independent regulators to be to be doing.

  — Corey Frayer