What New York Regulator's Crackdown on Binance USD (BUSD) Means for Investors

Worried about your BUSD? We've answered all your questions here.

The New York State Department of Financial Services (NYDFS) has ordered crypto firm Paxos to cease minting Binance USD (BUSD). Paxos says it will stop issuing new BUSD from Feb. 21, and that it will work in coordination with the NYDFS to manage the existing reserves. It assured BUSD holders that the tokens are fully backed, and will be redeemable until at least next year.

Paxos also confirmed that the SEC is considering taking action on the basis that BUSD is an unregistered security. In a statement, it said, "Paxos categorically disagrees with the SEC staff because BUSD is not a security under the federal securities laws." The two moves by authorities have spooked investors and could have wider implications for the crypto industry.

What it means for crypto investors

Several news sources are talking about a regulatory crackdown on crypto, particularly as the Binance USD news comes days after the SEC demanded Kraken cease its staking-as-a-service program. But SEC Chair Gary Gensler has been warning that many crypto exchanges are trading unregistered securities and talking about the dangers of stablecoins since his first speech on crypto back in 2021. It is nothing new.

However, it does raise a number of questions about Binance, BUSD, and stablecoins, some of which we've answered below.

What does this mean for BUSD?

Essentially, after Feb. 21, no new BUSD will be issued. But Paxos says all the BUSD in circulation are backed "1:1 with US dollar-denominated reserves." If you hold BUSD, you should be able to redeem them. Indeed, the NYDFS says it will monitor Paxos closely to ensure this will happen.

The amount of BUSD in circulation will slowly shrink as people redeem their tokens. Binance founder and CEO, Changpeng Zhao tweeted, "BUSD market cap will only decrease over time." He said that Binance will also move away from using BUSD as the main trading pair on its platform.

What does this mean for Binance and Binance.US?

Binance is one of the biggest crypto exchanges in the industry, and Binance.US -- its separate U.S. entity -- ranks in CoinMarketCap's top 10. The news that Paxos will stop issuing BUSD is concerning, as was a move last week from Binance to halt U.S. dollar withdrawals and deposits on its main platform. According to CoinGecko data, Binance Coin (BNB) fell around 10% following the news, but has since recovered slightly.

What impact could this have on other stablecoins?

Stablecoins are crypto tokens that peg their value to another commodity, such as the U.S. dollar or the price of gold. Investors use them to easily move in and out of crypto positions and earn interest. The difficulty, as we saw with the collapse of the Terra platform and its Terra USD, is that those tokens are not the same as traditional money. In a worst case scenario, they can lose their pegs and collapse completely.

BUSD is the third-biggest stablecoin in terms of market cap. Tether (USDT) and Circle's USD Coin (USDC) both have a bigger market share, and together the three tokens make up over 10% of the total money invested in crypto. While we know that authorities are concerned about stablecoins as a whole, it isn't clear whether this week's action is specific to Binance USD or representative of wider issues.

U.S. authorities, including Treasury Secretary Janet Yellen, have called for increased regulation to protect investors from the risks posed by stablecoins. At one point, the Treasury was pushing for stablecoin issuers to be treated like banks and have to follow similar rules. Money held in a bank account is protected by FDIC insurance against bank failure. Stablecoins held on a crypto platform are not.

Are stablecoins securities?

The SEC argues that many cryptocurrencies are in fact securities because they count as an "investment contract." It says an investment contract exists, "When there is the investment of money in a common enterprise with a reasonable expectation of profits to be derived from the efforts of others." If a product is a security, it comes under the SEC's jurisdiction and there are strict rules about how it is traded and information is communicated.

The SEC said that various crypto earn-lend products fitted this description because people expected to earn set rates of interest from the platform's lending activities. However, this is the first time it has applied this definition to a major stablecoin. Some critics question how a stablecoin -- which doesn't promise to generate profits -- can be categorized as a security. Until we see the SEC's complaint, it is hard to know if it is only concerned about BUSD or all stablecoins.

Bottom line

If you're a crypto investor, be prepared for both increased regulation and further action from authorities. In the absence of additional rules, the SEC will continue to exert the power it does have, as will other bodies such as the NYDFS. In the long run, more regulatory enforcement could strengthen the industry's foundations. But in the short term, it will likely lead to more volatility -- particularly if many existing cryptos are deemed to be securities. This could make it difficult for U.S. investors to trade them, and difficult for crypto exchanges to do business.

The related issue is that the lack of regulation means we don't know for sure what is going on behind the scenes at some of these crypto platforms. Trust in crypto exchanges is extremely low right now and investors often only find out about problems when it's too late. For example, FTX was still tweeting that customer funds were safe, days before the platform froze withdrawals and filed for bankruptcy.

If you keep your funds on any centralized exchange, your assets could be at risk if the platform fails or your account gets frozen. Look into moving your crypto to a non-custodial wallet so you have complete control over your assets. Crypto wallets involve more work and carry additional risks, as you are 100% responsible for their security. But in the current climate, it may be worth the extra hassle.