Here's what a CLARITY-free crypto market structure looks like

• Key takeaway: As the likelihood of the CLARITY Act passing dims, agencies such as the SEC and CFTC are exploring crypto-related rulemaking. But industry stakeholders warn that regulations are easier to rescind than laws, raising questions about their long-term durability. 
• Expert quote: "I had roughly 40% odds on this becoming law this year, and now I'm down to 25% ... maybe even trending lower." —Ian Katz, managing director of Capital Alpha Partners
• What's at stake: If the act does not pass then issues such as crypto firms offering yield on stablecoins  will be resolved through rulemaking, but whether that benefits banks remains to be seen.

With prospects for the much-anticipated crypto market structure legislation dimming, some agencies are starting to chart a course for their own rulemaking.

The Securities and Exchange Commission has begun moving forward with crypto rulemaking, while the Commodity Futures Trading Commission has signaled it could pursue its own rules if the CLARITY Act fails to pass.

"I had roughly 40% odds on this becoming law this year, and now I'm down to 25% ... maybe even trending lower," said Ian Katz, managing director of Capital Alpha Partners.

The CLARITY Act would establish a regulatory framework for the cryptocurrency industry, including clarifying the responsibilities of the SEC and CFTC and creating clearer registration pathways for exchanges and custodians. There had been a big push from the bill's backers in Congress to get it passed before the August recess, but that effort failed.

A procedural vote is scheduled for CLARITY on Sept. 15, but Katz warned against reading too much into it. "Even if it gets 60 votes because some Democrats vote for it in cloture, it doesn't mean they are actually going to vote for the bill," Katz said.

What this means is that the regulatory agencies are most likely going to be back in a familiar position of having to craft their own rules around a new industry and technology without any help from Congress. Both agencies are being respectful of the legislative process, but depending on the outcome, will move to develop rules on their own.

Thus far, the SEC has proposed rulemaking that would streamline how crypto companies raise money. The proposed rules, dubbed "Regulation Crypto Assets," include two exemptions that would allow certain crypto companies to raise capital without going through the traditional securities registration process.

Meanwhile, the CFTC is exploring potential rulemaking that would create a framework for crypto exchanges to offer leveraged or margin-based trading and establish a legal path for developers to offer decentralized finance protocols in the U.S.

CFTC Chair Michael Selig said Aug. 20 that the agency will give "CLARITY its breathing room for a vote," but warned that if a bipartisan product is not reached and passed, he will "direct CFTC staff to move swiftly to propose these rules for the industry."

But agency rulemaking can only go so far, leaving some issues that matter to banks dependent on the outcome of congressional action.

The banking industry has been keeping tabs on CLARITY mainly because of provisions in it that would prevent in some cases, or allow in others, yield-like products offered by stablecoin companies.

If the legislation remains in limbo, the SEC, CFTC and Office of the Comptroller of the Currency could address different pieces of the crypto market through their existing authorities, re-creating what already had been a patchwork of rules. 

Matthew Bisanz, a financial regulatory partner at Mayer Brown, expects the OCC to specifically address the yield question, which is the one most pressing for banks. 

"I think the overall impact on banking law is small from the CLARITY Act, but for the yield debate by banks it is a big deal," said Bisanz. The OCC has seemingly indicated both a willingness to prohibit stablecoin firms from offering yield and allowing it in other circumstances. 

"Who will be favored? Who won't be favored? I don't know that, but whoever isn't favored will certainly be vocal about it," he added.

The OCC's proposed rule implementing the GENIUS Act, which bars permitted payment stablecoin issuers from paying yield to holders, also addresses certain indirect arrangements through a "rebuttable" standard. Combined with ongoing negotiations over crypto market structure in Congress and the potential for future litigation, the issue remains murky. 

Another issue, according to Todd Phillips, a director at advisory firm Klaros Group, is that if CLARITY does not pass, regulatory uncertainty will make banks reluctant to lend against crypto assets.

Specifically, Phillips argues that while agencies can create a patchwork of regulations, there is a big gap in existing law because the CFTC specifically does not have comprehensive regulatory authority over crypto spot markets, although it has anti-fraud and anti-manipulation enforcement authority over those markets.

"If CLARITY does not pass, we're going to see the SEC and CFTC step in more to shape the rules of the road. That said, the biggest gap in existing law has been that no one has regulatory authority over commodity spot markets, and Selig can't bring that into existence," Phillips said.

Until a regulatory regime exists for commodity spot markets, banks will be hesitant to accept crypto as collateral for loans. "I think banks will continue to stay on the sidelines," he added.

The proposed SEC and CFTC rules, industry insiders say, may not have as much permanence as legislation passed by Congress and could be more easily changed by future administrations.

"It is much easier to change a rule than it is to change a law," Bisanz said. "Banks want clarity with their interpretation of yield, and if it's not going to have their interpretation of yield, then they're not going to be supportive of it."