What Kim Kardashian And Kanye West Can Tell Us About Financial Market Regulation

The week after the Securities and Exchange Commission settled charges against Kim Kardashian for (allegedly) illegally promoting a cryptocurrency, JPMorgan ChaseJPM
and Ye (formerly Kanye West), much like Kim and Ye, went their separate ways. For very different reasons, both moguls’ mishaps provide an opportunity to discuss what’s wrong with financial market regulation in the United States.

The problems go much deeper than just legacy securities and banking regulation. They even bleed over to the newly forming fintech industry.

While it very well may have been JP Morgan’s intent to steer clear of political controversy by dropping Kanye West as a client, it remains unclear exactly what West did to anger JP Morgan. (For what it’s worth, it does appear that JP Morgan sent their letter to Ye before his recent controversial comments.) Perhaps all the clickbait headlines caused him to launch an alarming anti-inflation tirade in JP Morgan’s headquarters.

Whatever the reason, if JP Morgan and West want to sever their relationship, that’s between them.

But it’s not surprising that some people suspect political motives could be behind the breakup. (Between JP Morgan and Ye, not Kim and Ye.) Again, I have no idea what truly happened and I’m not defending anything he may have said or done.

Regardless, as I’ve pointed out before, the much bigger threat to Americans is how much power federal regulators have over banks, note whether banks can ditch their customers.

Federal regulators can ultimately revoke banks’ federal deposit insurance and shut them down. If regulators deem, for example, that lending to fossil fuel companies puts a bank’s reputation at risk, or that doing so constitutes an unsafe or unsound practice, they can force the bank to change who it does business with. They have enormous leverage to do so.

That sort of leverage has many climate change activists excited, but they should reconsider. As soon as people with different views run the agencies, the very same authority could be used to target today’s popular activities and activists. The United States has spent decades leading most developed nations down the same path, discounting fundamental principles in the name of preventing mistakes, financial crises, money laundering, tax evasion, and terrorist financing.

Federal regulators could easily use their authority to target groups engaged in constitutionally protected political protests. (Fourth Amendment protections, for example, have been severely watered down.)

The details of Kim Kardashian’s mishap are a bit different, especially in that they involve a capital markets regulator.

As by the Wall Street Journal, the SEC believes that Kim Kardashian violated reported securities laws when she used her Instagram page to promote a crypto token (EMAX) without disclosing that she was paid $250,000 for the post. Sometime after every post, EMAX lost most of its value.

To be extra clear: The problem isn’t that EMAX took a deep nosedive, or that Kim promoted a crypto token which (according to the SEC) is a security. The problem is that she didn’t disclose she was being paid to promote EMAX.

In their Wall Street Journal piece, law professors M. Todd Henderson and Max Raskin explain that:

Section 17(b) of the Securities Act of 1933 requires any person who gives publicity to the sale of a security to disclose any compensation for doing so. The SEC has enforced this anti-touting rule aggressively, bringing cases against people who have published entirely accurate internet posts about companies in return for undisclosed benefits.

On the one hand, if Kim Kardashian didn’t disclose that she was being paid, it looks to be a clear violation of securities law. On the other hand, this law seems odd given that there are no similar laws preventing celebrities (or anyone else) from regularly touting banks and gambling services.

Moreover, as Henderson and Raskin point out:

The jurisdictional limits of the SEC allow it to go after her [Kim Kardashian] and Floyd Mayweather, while Matt Damon’s Super Bowl ad for Crypto.com, part of a $65 million campaign, escapes enforcement because it was promoting a platform and not a security.

Setting all these technical and legal arguments aside and ignoring whether securities laws might provide a false sense of security, the bigger problem here is that federal officials have overly broad discretion to act in the name of “protecting” people from making “bad” investment choices . In other words, a guiding principle behind federal securities laws is that federal officials need to prevent Americans from making mistakes and losing money. The SEC has gone way past prosecuting fraud.

Congress should not have given securities regulators so much discretion and it should not have based securities laws on these principles. The same critique applies to US banking law. What Americans have, though, is a complex web of rules and regulations that blunts innovation and competition, as well as the ability to raise private capital.

In the extreme (not the absurd), the result of this kind of regulatory system is that government officials can allocate credit to politically favored interests.

So, Congress should rethink these principles, but that’s not what they’re doing. Instead, these same ideas, and these same harmful outcomes, are playing out right now as the House tries to craft new stablecoin legislation.

For months, Financial Services chair Maxine Waters (D-CA) and ranking member Patrick McHenry (R-NC) have been negotiating a bill to regulate stablecoins. Negotiations seem to have broken down, and based on the discussion draft, that’s probably a good thing.

During DC Fintech Week, Yahoo! reported that McHenry told his audience “It [the bill] doesn’t look like a modern regulatory regime. It actually looks pretty retrograde.” He then characterized the “current status of the legislation as an ‘ugly baby,’” and added that “It is a baby nonetheless, and we’re grateful and hopeful it can grow and prosper into something that is a lot more attractive.”

As I and my fellow Cato scholars wrote in early October, the “best part of the draft is that the House…is not trying to enact the President’s Working Group recommendation to ‘require stablecoin issuers to be insured depository institutions.’” The problem, though, is that Congress is arguing over which assets stablecoins should be backed with, who can hold stablecoins, what people can do with stablecoins in their own digital wallets, and which regulator should be in charge.

Congress should write laws to protect Americans from fraud and theft. But that goal does not require Congress to dictate which assets can legally back stablecoins. Let fintech companies and other financial experiment, and let people take firms risks with their own money. Most people aren’t going to use something called a stablecoin if it isn’t stable, so anyone issuing stablecoins better figure out how to make them stable.

Moreover, Congress should not protect legacy firms or the best-connected upstart firms from competition. That’s how free enterprise breaks down, not how it works best for the largest number of people.

The notion that Congress or any other group of federal officials knows the best way to create stable or safe assets, much less stable and safe markets, is completely wrong. History has proven the opposite is true. Countless government regulations have created and magnified stability and safety problems.

Hopefully, McHenry’s wish comes true, and Congress comes up with a bill that’s much more attractive.

Unfortunately, that outcome is wishful thinking unless Congress changes its underlying approach. This time, though, a misstep is likely to keep the US payments system stuck somewhere in the 20th century while the rest of the world races ahead. With or without Kim and Ye.

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