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FTX Implosion May Be The Catalyst for Fast-Tracking Legislation

Yesterday, Binance, the largest global cryptocurrency exchange, acquired FTX’s global exchange after its founder and CEO Sam Bankman-Fried appeared to have knowingly parked unbacked, illiquid assets on a sister company’s balance sheet – the stuff regulators warn about – which brought FTX to near-insolvency.

As a result, Bankman-Fried did the only thing he could which was to sell FTX to his competitor.

It’s not a good look for crypto and its legislative champions. On the other hand, if you’re rooting for new regulation, this may be what forces Congress’ hand. Guardrails are needed ASAP if consumers are going to be protected and the industry is going to flourish.

The damage

Is the impact from this bigger than the Terra Luna stablecoin debacle in the Spring? Probably.

First, let’s review the “soft” impact…

Sam Bankman-Fried was arguably the most popular industry figure in Washington D.C., appearing multiple times in front of Congressional committees in spite of his global company’s Bahamian address. Now, his name and reputation have taken a devastating hit affecting relationships with the CFTC and Congress especially as it relates to the feedback he was providing on crypto derivatives changes and the Stabenow-Boozman Digital Consumer Commodity Protection Act (DCCPA) coming out of the Senate Ag committee.

Undoubtedly, SBF’s (as Sam Bankman-Fried is colloquially known) actions were damaging to the crypto industry itself which was already dealing with multiple scandals,  hacks and “rugs” making DC power players wonder if crypto is a positive, world-changing innovation or just a fleeting ponzi scheme that allows SEC Chair Gary Gensler to say, “I told you so.”

Moreover, the financial damage wrought by the enormous blunder is still unknown. Are all customer funds safe? Maybe. Seems so. What about FTX’s billions in funds? Likely not. How about FTX’s investors? They’re definitely holding the bag.

One important qualifier in this mess is that FTX.us (the carve out within FTX which deals with US business) will remain independent from the Binance deal meaning Bankman-Fried is still in the game, so to speak – at least for now – until another shoe drops.

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Congressional Blockchain Caucus Collides With Midterms, Partisan Risk

Congressional Blockchain Caucus

The U.S. House of Representative’s Congressional Blockchain Caucus, a key vehicle for driving blockchain interest in Congress,  may be on the precipice of significant change with midterm elections looming next week.

Among the Caucus’ 39 members, seven are retiring (4 Democrats, 3 Republicans). The remaining 32 members are expected to win their elections. See below.

According to polls for the seven retiring seats, only one is expected to flip to another party: Tennessee’s 5th District where Andy Ogles (R) is expected to win the seat for Republicans replacing retiring Democrat Rep. Jim Cooper. Interest in blockchain tech – let alone the Caucus – by any of these newcomers is unknown at this time.

Caucus before-and-after totals look like this:

    • 117th Congress: 22 Republicans and 17 Democrats
    • 118th Congress: 19 Republicans and 13 Democrats

Next year’s membership seems poised to grow – if its leaders want it to – given Congressional momentum for blockchain legislation. Amidst this backdrop is the original purpose of many caucuses: bringing Members together across party lines on a particular area of interest. The Congressional Blockchain Caucus would appear to be no exception with an aim to both educate and promote to all Members.

Bipartisanship 2023

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Treasury, SEC and CFTC Leaders Commiserate With Financial Markets On Crypto

Secretary Yellen

It’s not every 350-person trade conference that could attract a Cabinet member and the chairs of two U.S. regulatory agencies. But, that’s the importance of the annual meeting of the Securities Industry and Financial Markets Association (SIFMA) to the Biden Administration and keepers of the financial system at-large. And crypto took a “bow” repeatedly during the day-long agenda.

SIFMA defines itself as representation for broker-dealers, investment banks and asset managers and was formed in the early 2000s from the merger of the Bond Market Association and the Securities Industry Association according to Wikipedia. The day’s content showed that crypto is a subset of key concerns for the industry which include public policy & financial regulation, “modernization of finance” and retail investors.

As stated during the meeting by SIFMA President and CEO Kenneth Bentsen, consumer protections are at the top of the list – at least publicly – in terms of his organization’s views on crypto’s entry into the global financial system.

Janet Yellen – prepared remarks

The first U.S. government representative to take the stage was U.S. Treasury Secretary Janet Yellen.

Her prepared remarks are here. The highlights include:

    • On the U.S. economy – Sec. Yellen began by reassuring the audience that there is “significant strength” in the U.S. economy amid the global tempest of war and inflation to name a few. But, “inflation remains too high, and we are contending with serious global headwinds.”
    • On crypto – She touted recent reports from Treasury in response to the Biden Executive Order on digital assets saying, “Our goal is to realize the potential benefits of digital assets while mitigating and minimizing their risks.” She stressed the need for “adequate regulation.”

Janet Yellen – Q&A

During the Q&A with SIFMA’s Bentsen, Sec. Yellen said regarding digital assets:
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FDIC’s Gruenberg Sees Crypto and Private Stablecoins As Risk To Banking System

FDIC

Today at a Brookings event in Washington, D.C., Federal Deposit Insurance Corporation (FDIC) Acting Chairman Martin Gruenberg discussed his government purview and how crypto assets are and should be addressed by banks. Video of the event is here.

Though recognizing blockchain’s innovative qualities, he largely saw huge risk to the banking system from crypto and suggested there is broader FDIC guidance forthcoming.

As he began, Gruenberg noted that innovation is a double-edged sword saying that financial products such as credit default swaps were seen as innovative, but helped cause the Great Financial Crisis in 2008-9. The accessibility and convenience of crypto was attractive to consumers and banks, but Gruenberg believed it was difficult for the banks to move quickly given the dynamic nature of the new assets as tech, business model and use cases are subject to change in short order.

Don’t mix the message

For background, in late July, the FDIC released guidance on how banks should deal with the crypto ecosystem. The over-arching concern from the FDIC was the consumer believing they are insured when they are not.  According to the FDIC, non-banks were offering uninsured crypto asset products and insured bank deposit products but that doesn’t mean for the consumer using these products that their crypto product or asset is insured.

See:

In his speech, Acting Chairman Gruenberg claimed that consumers are often finding they have no one to turn to with distributed ledger technology. If something goes wrong, transactions were difficult to track on the blockchain – a contradiction of pro-crypto advocates who claim it is trackable, sometimes too trackable and presents privacy challenges.

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Crypto Meets ‘Global vs. National Regulation’ With Financial System Stability At Stake

IIF AMM 2022

Stability.

At the height of the Great Financial Crisis of 2008 and 2009, all anybody wanted was stability within the banking system.  Enter 2010’s Dodd-Frank legislation, a “Wall Street reform and consumer protection act,” which sought to put the banking system on a solid foundation and calm domestic and global nerves.

Accordingly, stability was a consistent thread among on-stage discussions last week at The Institute of International Finance (IIF) Annual Meeting which brought together banking titans across industry and government in Washington, D.C. Market structure dynamics, Net Zero initiatives and digital assets mixed with macro issues such as war, inflation and a post-COVID society.

And again… every topic could draw a line to the desire for stability. Yet, that didn’t stop companies within the high volatility, digital asset universe from taking its seat at the IIF table.

In the form of sponsorship for the event – and among a list of TradFi sponsor companies – FTX and Circle were there sending chief executives Sam Bankman-Fried and Jeremy Allaire, respectively, for onstage interviews that engaged a much larger financial community which will one day envelop, embrace or crush all or part of the crypto ecosystem.

BNY Mellon – America’s oldest bank – is already “embracing” as it announced crypto custody services last week after receiving approval from New York State’s financial regulator. Michael Demissie, Global Head of Digital Assets and Advanced Solutions at BNY Mellon said at the conference, “Digital assets is a much broader sector. I think crypto is really just the tip of the spear.” Beyond Bitcoin, Ether and other cryptos, he said settlement and tokenized assets enabled by blockchain technology are in its infancy, but on the way.

The IIF meeting’s exhaustive agenda (PDF) showed that crypto is clearly on the mainstream banking system’s radar but still early in its TradFi implementation. The heavily regulated banking sector’s reluctance ranges from a belief by some that crypto is a speculative “Ponzi” scheme to hesitation tied to a lack of regulation – money transmitter licenses for exchanges and the like, notwithstanding.

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Are Modifications Needed to the Howey Test? It’s Time for the Digital Asset Test

SEC Chair Gary Gensler

At The Financial Markets Quality Conference, hosted by Georgetown McDonough’s Psaros Center for Financial Markets and Policy in D.C., Securities and Exchange Commission Chair Gary Gensler participated in a virtual fireside chat covering everything from payment for order flow to crypto.

Gensler offered no surprises in his crypto-related answers. See the interview on YouTube.

He remains convinced all the regulation is in place with the Howey Test whose foundation was laid by securities laws created in 1933 and 1934 and then “tested” in a case in front of the Supreme Court in the 1946 focused on land sales of Florida orange groves. Ever since, it has served as the basis for understanding “What is a security.”

But, Chair Gensler was talking to a peer with interviewer and Georgetown professor Reena Aggarwal, who Gensler said volunteered as part of President Biden’s transition team for financial regulatory agencies. The dynamic seemed to allow for Ms. Aggarawal to press a bit further. With her crypto questions centered on regulatory needs, she drilled down to the baseline of the Howey Test which required a crisp answer from the Chair.

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Jamie Dimon Likes Blockchain, His Stablecoin – Not Crypto

JP Morgan CEO Jamie Dimon

This afternoon at a session of the Institute for International Finance (IIF) Annual Meeting in Washington, D.C., JP Morgan CEO Jamie Dimon pleased the crowd with his increasingly legendary response to the efficacy of cryptocurrency.

He wasn’t the only one talking crypto at the conference. The IIF brings together the top leaders in traditional finance to help coordinate a global approach in financial policies. Crypto and digital assets was among the meeting’s hottest topics.

The IIF’s Tim Adams teed up Dimon asking: “You’ve had strong opinions in the past on digital currencies, speculative currencies, stablecoins… still have strong views?”

Dimon, clearly reveling in the moment, “Yeah. [audience laughter] But, I’ll clarify them.”

He explained that “blockchain technology is real” and that JP Morgan deploys it in many places through their Onyx coin system. Using distributed ledger technology, it’s a business-to-business system that enables a stablecoin backed by US dollar deposits at JP Morgan which purports to efficiently clear assets between banks.

Dimon said, “My issue is …. what you guys call cryptocurrency – which I call a crypto token – that doesn’t do anything.”

Invoking Voltaire (not a type-o), he said he respected people’s right to do what they want,  but Dimon saw crypto as a “decentralized Ponzi’ scheme hyped around the world and responsible for “fraud, stealing, sex trafficking, drugs, ransomware, tax avoidance – it’s extraordinary.”

He continued, “There’s no real use for it other than speculation, and it’s also dirty and expensive and volatile.”

Finally, he equated crypto to Beanie Babies.

The bright side

For crypto supporters, the fact the JP Morgan CEO never made a tulip bulb reference could be seen as a limited win.

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Fed Needs To Maintain Oversight on Crypto -And Stablecoins Which Align With US Dollar

Michael Barr, Federal Reserve

The Federal Reserve added its fingerprints to DC Fintech Week as the recently appointed Michael Barr, Vice Chair for Supervision of the Board of Governors at the Federal Reserve, presented a policy address titled “Managing the Promise and Risk of Financial Innovation.”

Get the transcript of Barr’s speech on the Fed’s website.

Barr began by recognizing the broad umbrella of fintech – without mentioning crypto – saying that financial innovation can positively grow the financial system, serve consumers more efficiently and better address underserved communities.

Unsurprisingly, he believed the fintech roadmap ahead included regulation:

“I would note with some humility that striking the right balance between creating an enabling environment that supports innovation and managing related risks to businesses, households, and the stability of the financial system is no easy task. When regulations are too prescriptive or regulators too cautious, they run the risk of stifling innovation and locking in the market power of dominant participants in ways that can raise costs and limit access. When regulation is lax or behind the curve, it can facilitate risk-taking and a race to the bottom that puts consumers, businesses, and the economy in danger and discredits new products and services with consumers and investors.”

Barr then re-iterated crypto themes of fraud, manipulation and money laundering and made clear that oversight was necessary both inside and outside banks.

Outlining the oversight committee, he said that the Federal Reserve Board of Governors was working with the Office of the Comptroller of the Currency (OCC) and the Federal Deposit Insurance Corporation (FDIC) “to ensure that crypto-asset-related activities banks may become involved in are well regulated and supervised, to protect both customers and the financial system.”

He emphasized that the oversight regime didn’t mean to “discourage banks from providing access to banking products and services to businesses associated with crypto-assets.” Perhaps this will increasingly assuage concerns coming from institutional investors who have moved slowly with digital asset investment due to a lack of approved government guardrails for the new crypto ecosystem.

So regulation needed; and oversight already happening.

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