Tuesday saw the U.S. House of Representatives Committee on Agriculture assemble for yet another ‘crypto’ hearing, this one discussing “The Future of Digital Assets: Providing Clarity for Digital Asset Spot Markets.”
The hearing centered on a new digital asset legislation, currently only in discussion draft form, tentatively titled the Digital Asset Market Structure Bill. The draft was crafted by Agriculture and Financial Services committee members and published last Friday.
As detailed here, much of the bill aims to carve out clearly defined roles for both the Commodity Futures Trading Commission (CFTC) and the Securities and Exchange Commission (SEC) and stop the ‘turf war’ allegedly being waged between these two agencies over who takes the lead in regulating digital assets.
Committee chair Glenn Thompson (R-PA) got things rolling by thanking House Financial Services Committee chair Patrick McHenry (R-NC) for helping to craft the bill in question. Thompson also emphasized that the bill is still very much a draft, with wholesale revisions likely before any potential votes are considered.
But Thompson also emphasized his belief that the federal government currently “provides few rules of the road” for those dealing in digital assets, “leading to complicated enforcement actions.” Those included this week’s one-two legal punch by the SEC against the Binance and Coinbase (NASDAQ: COIN) exchanges, the latter coming just hours before Tuesday’s hearing got underway.
For his part, the committee’s ranking member David Scott (D-GA) channeled ‘the rent is too damn high’ guy by repeatedly insisting that the CFTC’s budget is too damn low, particularly if it wants to handle the significant additional burden of overseeing digital assets. Scott took pains to note that there was nothing about CFTC funding in the draft legislation.
Scott said the proposed legislation “does not respond to the wants and needs of the CFTC. Instead, it establishes number of complex and untested processes, raising questions as to whether the provisions will meet the industry’s stated goals to establish clear regulatory and registration guidelines.”
Scott added that the digital asset sector “exposes all who choose to participate to serious potential financial risk and uncertainties.” Citing several grim financial statistics from 2022’s cavalcade of collapses, Scott warned that “this is not sustainable and cannot go on.”
The first panel the committee heard from consisted solely of CFTC chairman Rostin Behnam, who testified as to the regulatory gaps that he’d like to see closed and the additional powers his agency would require to fulfill that goal.
The CFTC currently oversees select digital asset derivatives, including futures markets. Behnam insisted he wasn’t looking to encroach upon the SEC’s traditional oversight of securities. But Behnam does want to take point on “the spot market for digital assets that are not securities.”
The digital asset sector has been “plagued by fraud and manipulation,” and while the CFTC has brought over 85 cases against perpetrators, Behnam said, “Our legal authority in the spot market for digital commodity tokens is necessarily limited to acting only after the fraud has occurred.” Behnam wants legislators to give the CFTC the authority to “proactively establish rules to minimize fraud in the first place.”
If the CFTC has an Achilles heel, it’s this inability to go after fraud and manipulation until “after consumers complain.” Of the CFTC’s 80+ digital asset enforcement actions, “nearly all” were in response to angry customer missives. Behnam said the CFTC’s existing regime of registration, surveillance, and enforcement “has worked well and can be replicated” in the digital asset spot market.
Fixing this will take additional funding, which Behnam estimated at $125 million over the first three years, to build the necessary teams and implement the new regime. The CFTC’s current budget is around $365 million, so the extra funding would represent an 11.5% annual bump.
Behnam later clarified that the CFTC was the only financial regulator without a user-based fee system, something the new oversight regime could address, with registrants paying a “proportional fee” to fund services.
Rep. Shontel Brown (D-OH) tartly observed that this was the committee’s third hearing on digital assets, while Wednesday would bring the very first hearing on food insecurity. Brown also wanted to know how the CFTC would do its regular job given the significant appropriations cuts recently signed into law by President Biden.
Behnam countered that funding the CFTC was basically a revenue-generating move for the feds, claiming that, over the past ten fiscal years, the CFTC has “returned $8 for every $1 appropriated” thanks to $4 billion in penalties assessed against bad actors.
Queried by Rep. Austin Scott (R-GA) as to how the CFTC expects to oversee the 20,000+ digital tokens out there, Behnam suggested the vast amount of spot trading involves “dozens at most” tokens, most of which will “disappear” over time. Behnam said his focus is on BTC and ETH, the derivatives trading which the CFTC already oversees.
But the CFTC doesn’t regulate commodity cash markets, with which retail customers are increasingly involved. Behnam said the Venn diagram of SEC/CFTC oversight allows BTC and ETH—which Behnam claimed are commodities and account for 60% of all spot trading—to “live inside this regulatory vacuum.”
Apples v. oranges
Rep. Kat Cammack (R-FL) asked Behnam about the CFTC’s reputation as a ‘light touch’ regulator, which explains why crypto crooks like Sam Bankman-Fried appeared so keen to have the resource-starved CFTC take point on digital asset oversight. Behnam suggested a quick survey of current CFTC registrants would show that “we’re the farthest thing from light-touch.”
Rep. Dusty Johnson (R-SD) dripped sarcasm over the proceedings by claiming some observers believe the SEC has the situation well under control, so everyone else shouldn’t “worry your pretty little heads.” Behnam insisted that his push for more authority wasn’t “a zero-sum game” with the SEC and that the existence of regulatory gaps meant the CFTC wouldn’t be “taking authority from anyone” by regulating digital asset commodity spot trades. Said authority currently “doesn’t exist.”
The legislation would require the SEC and CFTC to conduct a joint rulemaking process to determine what is and isn’t a security. Behnam assured the committee that he frequently talks with Gensler, as CFTC staff do with their SEC counterparts, including discussions on how markets evolve.
Regarding determining a commodity from a security, Behnam said decentralization was “the core question,” but the other “critical question” was where a customer obtained a digital asset. The draft bill would require registration of ‘intermediaries’ such as exchanges and create new definitions for ‘siloing’ digital commodity dealers/brokers.
Rep. Monica De La Cruz (R-TX) quizzed Behnam on how a digital asset might transform from a security to a commodity and vice versa. Behnam admitted that he wasn’t a “technologist” and didn’t “fully embrace or understand” some of the processes that might occur. But he suggested a “break in the linkage” between a centralized security token issuer and their token would result in decentralization and render said token a commodity.
Behnam added that one of the other “core arguments” in the security/commodity debate was where/how an investor acquired a token. The presence of a third party—like an exchange—in this acquisition means the token “would most likely become a commodity.”
Asked by Rep. Barry Moore (R-AL) about vertical integration among major digital asset entities—the kind that got Binance and Coinbase in such trouble with the SEC—Behnam said “conflict of interest was a pervasive issue” in unregulated digital asset markets with “no recognition” among these entities that conflicts exist. Behnam added that he was seeing “more requests for vertical integrated structures” domestically, which he said would require more debate.
When you gotta file, you gotta file
Rep. John Rose (R-TN) asked Behnam about the SEC’s Tuesday morning lawsuit against Coinbase for breaking securities laws by acting as an unregistered exchange, broker, and clearing agency. Citing active litigation, Behnam declined to offer an opinion on the suit’s claims that many of the tokens listed on Coinbase are securities, but noted that the confusion over this question “is the reason we’re here.”
Rose pressed Behnam on whether he thought the timing of the filing of the Coinbase suit on the day of the hearing was coincidental. From experience, Behnam said that when it came to enforcement cases, “when the time is right … you gotta file.”
Four out of five dentists agree
The hearing’s second panel featured four former CFTC/SEC bigwigs, along with Paul Grewal, Coinbase’s chief legal officer. Grewal’s testimony started by addressing the SEC lawsuit, which he called “disappointing but not surprising” for arriving on the day he was scheduled to appear. Grewal insisted it was business as usual at Coinbase, claiming the solution to the current regulatory quagmire was “legislation, not litigation.”
While Grewal was joined by one other private sector panelist—Robinhood Markets chief legal officer Dan Gallagher—the latter was once a former SEC commissioner. Dan Berkovitz was both a former SEC general counsel and CFTC commissioner, while Walt Lukken and J. Christopher Giancarlo each formerly served as CFTC chairman.
All spoke in favor of the proposed legislation, while most warned that the United States would effectively crumble into the sea without swift action to catch up to the digital currency-friendly regimes in foreign jurisdictions like the U.K., EU, Singapore, and Hong Kong. The panelists also basically thought the CFTC was, well, just super and would most certainly shine like a diamond if given new powers to regulate digital assets.
Only Berkovitz sounded a real note of caution, warning that “carving out a specific asset class from SEC oversight based on a particular technology of creation or distribution or degree of centralization in its market for distribution would upend decades of settled securities laws, create confusion and delay compliance.”
Berkovitz acknowledged that assets can change over time, “but the technical description of an asset isn’t determinate of its nature.” Better to “focus on the functional nature of the instrument or asset to raise capital from investors” to resolve the security v. commodity conundrum.
Giancarlo, aka ‘CryptoDad’ and who formerly served as a BlockFi director, warned the committee that other jurisdictions were “stamping their values” on digital asset regulation and if America wanted to enshrine God, Mom, and Apple Pie on the blockchain, it had better get a move on.
When Rep. Scott again brought up the issue of CFTC funding, Gallagher questioned the cost of digital asset markets and companies moving offshore. Gallagher insisted the relocation threats issued by the likes of Coinbase were “real, not the boy crying wolf.”
Gallagher also claimed the U.S. digital asset sector was suffering from lower investment, which he tried to blame on regulatory uncertainty, without acknowledging that VCs may have finally realized there’s no ‘there’ there when it comes to all these utility-free tokens.
Both Gallagher and Grewal lamented their history of dealing with the SEC, with Grewal claiming that “there hasn’t been a dialogue, only a monologue.” Gallagher said Robinhood spent 16 months with SEC staff “proactively” trying to register as a special purpose broker-dealer, but was told in March that “it wasn’t going to happen.” (Others have had better luck.) Gallagher said the “technical term for the state of Robinhood’s SEC process is ‘DOA.’”
Missing in action
When Rep. Yadira Caraveo (D-CO) asked what was missing in the draft bill, Berkovitz warned that “regulatory regimes are fit for purpose.” The SEC was designed for the retail market, and the CFTC for wholesale markets. There are different standards when dealing with people’s retirement funds rather than cattle.
Berkovitz noted that advisers have a fiduciary duty to customers. The CFTC lacks sufficient consumer protection obligations, something the bill—which “assumes a level of sophistication” on the part of the consumer—doesn’t address.
Lukken said the bill contemplates a “disintermediated marketplace,” i.e., no brokers, meaning “protections will now be placed with the exchange itself.” Gallagher agreed, saying Robinhood could simply shift these protections from its registered broker side. Lukken acknowledged there might be conflicts with vertically integrated exchanges, but the bill “imposes firewalls” to address these conflicts.
Giancarlo said the bill should impose hard deadlines for the SEC and CFTC to complete their joint rulemaking process because “deadlines focus the mind” of staff and will force organizations to bring the necessary resources to bear.
Berkovitz cautioned the committee regarding “freezing regulatory categories” given the rapid pace of change in blockchain technology. Apart from creating potential loopholes, “fixed technology definitions may not allow the innovation this technology needs.”
Tuesday’s hearing was a marathon session, lasting nearly five hours. Passing this bill will take infinitely longer if it ever passes. While the committee members clearly have a favorite dog in this hunt, there are plenty of ‘crypto’ skeptics on Capitol Hill cheering on SEC chairman Gary Gensler as he looks to rein in some of the sector’s excesses.
Watch: SEC Commissioner Hester Peirce on BSV Blockchain Association’s Blockchain Policy Matters
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