HFSC Crypto CEOs Hearing
House Financial Services Committee
Digital Assets and the Future of Finance: Understanding the Challenges and Benefits of Financial Innovation in the United States
Wednesday, December 8, 2021
- Jeremy Allaire, Co-Founder, Chairman and CEO, Circle
- Samuel Bankman-Fried, Founder and CEO, FTX
- Brian P. Brooks, CEO, Bitfury Group
- Charles Cascarilla, CEO and co-Founder, Paxos Trust Company
- Denelle Dixon, CEO and Executive Director, Stellar Development
- Alesia Jeanne Haas, CEO, Coinbase Inc. and CFO, Coinbase Global Inc.
Chairwoman Maxine Waters (D-Calif.)
In her opening remarks, Waters said Americans are increasingly making financial decisions using digital assets every day, and even pension funds are beginning to invest in cryptocurrencies despite the volatility of these products. She said the rapid growth has become more visible with celebrity endorsements, but several questions remain as to how traditional rules apply and if regulators have the authority needed to ensure market integrity. She noted one downside is the environmental concerns around computing power needed to mine certain coins but said positives include faster payments and instantaneous settlements.
Ranking Member Patrick McHenry (R-N.C.)
In his opening remarks, McHenry said many questions need to be answered about digital assets and argued that this technology is already regulated. He said many colleagues do not yet understand the topic enough to have a serious debate. McHenry highlighted a positive of this technology as being a new direction for financial economies, services, and products. He said it will be important to ensure this technology revolution happens here in the U.S., not overseas, to keep us at a competitive advantage. McHenry added that Congress should not raise a red flag around the tech-revolution but rather embrace it and try to be leaders in the space. He concluded with saying digital assets are not a threat to the financial system and discounted the argument that they are used for illicit activity, stating that cash is also used for such activities.
Jeremy Allaire, Co-Founder, Chairman and CEO, Circle
In his testimony, Allaire began saying the U.S. should aggressively promote the use of the dollar as the primary currency of the internet and leverage that as a source of national economic competitiveness. He continued that there is more work to be done in defining the reserve, liquidity, and capital requirements, and the risk management and operational resilience requirements for global-scale stablecoin issuers. Allaire said that simultaneously, the technology of blockchains and open protocols for value exchange are not standing still, and whatever the ultimate policy and regulatory outcomes, it is crucial that policy embraces and enables the U.S. to be global leaders in the development of the internet of value, similar to the policy frameworks established in the mid to late 1990s that helped ensure the U.S. was the global leader in internet technology and communications.
Samuel Bankman-Fried, Founder and CEO, FTX
In his testimony, Bankman-Fried discussed three main points about FTX – a global cryptocurrency exchange in which $15 billion of assets are traded daily on the platform. His first point was that there is huge potential to improve people’s lives, explaining that FTX offers products that are easily accessible and inexpensive, so investors and consumers can make simplified choices to achieve their economic goals. The second theme he highlighted was that FTX has designed and offered a platform with a market structure that is risk reducing. And finally, he noted that FTX is already subjected to U.S. federal regulatory supervision of the highest standards, including that of the U.S. Commodity Futures Trading Commission (CFTC) and the U.S. Department of Treasury, as well as stringent supervision by other global and state regulators. He followed up that FTX would prefer to operate under one, federal, unified regulatory regime.
Brian P. Brooks, CEO, Bitfury Group
In his testimony, Brooks discussed three important threshold issues the Committee needs to understand. First, he said a national policy agenda that takes crypto compliance seriously should assess whether it makes more sense to continue to keep crypto activities largely out of the regulated financial system, or to bring them inside the system precisely so they can be supervised and operated with appropriate levels of risk management. Second, he said Americans deserve to know what our national policy is for a decentralized Web 3 powered by crypto assets. Brooks argued that treating “crypto” as a single unitary activity whose main feature is a need for financial regulation would be like treating the original Internet in the 1990s as primarily a tax policy issue. Finally, he said any crypto policy should take into account not only any new risks introduced into the system, but also the risks in the present system that are being mitigated and solved by the nature of decentralization.
Charles Cascarilla, CEO and co-Founder, Paxos Trust Company
In his testimony, Cascarilla said the uncertain state of digital asset regulation is hampering the industry’s development. He suggested that if policymakers were to give non-bank digital asset platforms direct access to the Federal Reserve’s services – just as the Bank of England already grants access to non-bank payment service providers – it would enable these platforms to offer a wider array of products to consumers, without the cost and delay of depending on financial intermediaries. Cascarilla added that Paxos believes a primary prudential state or federal regulator should regulate both digital asset companies and their products. For stablecoins, he said independent auditors should regularly attest that the assets backing the tokens are always held in reserve, and those reserves should be held bankruptcy-remote and therefore not available to the issuer’s general creditors. Cascarilla concluded that the longer U.S. government waits to adopt digital assets, then issuers, talent, and capital will flee to more welcoming jurisdictions.
Denelle Dixon, CEO and Executive Director, Stellar Development
In her testimony, Dixon discussed many use cases that show how stablecoins can promote financial inclusion around the globe. She touched on the President’s Working Group (PWG) report, saying that she disagrees with the recommendations on how to address stablecoin risks. Dixon said the primary recommendation of the PWG report is to limit stablecoin issuance to insured depository institutions but noted that this is not narrowly tailored to the actual risk identified (run risk) because of a fundamental difference between bank and stablecoin business models (banks hold fractional reserves while stablecoin arrangements are predominantly intended to be fully reserved). Instead, Dixon advocated for a regulatory approach that focuses more on stablecoin reserves than on stablecoin issuers in which stablecoin arrangements are based on a reserve-backed model and required: (1) to be fully reserved, and (2) that those reserves should be held at insured depository institutions in bankruptcy remote segregated accounts.
Alesia Jeanne Haas, CEO, Coinbase Inc. and CFO, Coinbase Global Inc.
In her testimony, Haas highlighted many key benefits of crypto including access, individual ownership, enhanced transparency, increased resiliency, and lower transaction costs. She also listed challenges including the need for purpose built crypto tax code, and the need for controls and oversight for illicit finance. Haas said Coinbase urges policymakers to adopt clear rules for crypto and believes the government should regulate digital assets under a new framework. She added that the responsibility for this new framework should be assigned to a single federal regulator and a new registration process should be established for marketplaces for digital assets. She said a dedicated self-regulatory organization (SRO) should be established to strengthen the oversight regime and provide more-granular supervision of such marketplaces.
Question & Answer
Understanding Web 3
McHenry asked how digital assets fit into the Web 3 Internet revolution. Brooks said the concept is that there are application layer tokens and protocol layer tokens, and for a miner, the Bitcoin is the reward they receive to keep the network operational. He continued that people make judgements about which network is likely to win and they will invest in the tokens in that network in the same way you invest in Google stock.
Cybersecurity Concerns and Protections
Rep. Barry Loudermilk (R-Ga.) said blockchain is a solution to our cyber security problems.
Rep. Carolyn Maloney (D-N.Y.) asked what happens in the event of a hack and what protections a Coinbase customer currently has. Haas said Coinbase has third party insurance and that the type of hacks they typically see is when a customer has lost their phone or wallet. Maloney asked if customers could benefit from standardized minimum protections for when they lose funds through no fault of their own. Haas said yes.
Rep. Josh Gottheimer asked what exchanges are doing to ensure consumers are protected from hacking, and then how they flag transactions to law enforcement agencies. Bankman-Fried spoke about Know-Your-Customer (KYC) and said they work with law enforcement to track down bad actors.
Rep. Sean Casten (D-Ill.) said asked if stablecoins can be designed to insulate the contamination of that system such that if someone is buying something that looks like a dollar, they are not actually being tracked by adversaries. Allaire said the benefit of this technology is the greater transparency.
Rep. Pete Sessions (R-Texas) asked the panelists how they identify fraudulent activity. Haas said, specific to Coinbase, they perform KYC during on-boarding and have a robust assessment of each of their assets to make sure it is not fraudulent.
PWG Stablecoin Report
Casten asked Allaire if he supports the PWG’s report recommendations. Allaire said he supports it but not uniformly because there are a number of challenges with the report – such as what form of federal charter ought to be in place around a large scale stablecoin. Allaire argued it should not necessarily be what the PWG report suggested.
Gottheimer said he is working on a bill that could potentially implement many of the PWG recommendations and asked if it is necessary for stablecoin issuers to be required to become insured depository banks or if partnering with insured institutions is sufficient. Allaire said while they have decided to pursue a national bank charter, a full reserve digital currency model is not the same as a bank deposit where the bank is rehypothecating and lending money.
Potential Bubble and Crash
Rep. Al Green (D-Texas) asked at what point there should be concerns about the possibility of a bubble, given the explosive growth. Brooks said the volatility has to do with the early stage of the market. He explained that price discovery is largely what makes the equity and debt markets more stable and that in the world of crypto, the U.S. has not developed such tools. Brooks added that 80 percent of bitcoin holders have never sold their bitcoin and concluded that more liquidity and price discovery will help tamp down volatility. Bankman-Fried said the 2008 fiscal crisis had to do with transactions being repackaged and re-leveraged over and over again, such that no one really knew how much risk was in the system. He said in contrast with FTX, there is complete transparency on the positions that are held.
Rep. Alma Adams (D-N.C.) asked about the risk that stablecoins pose to the broader financial system and the assertion from the PWG that a run on stablecoins could cause systemic instability. Cascarilla said there is no risk of a run if stablecoins are backed by cash and cash only equivalents rather than backed by other assets.
Guidance and Definitions
Rep. Ann Wagner (R-Mo.) asked if additional guidance defining clear rules of the road for investors and market participants is needed at this time. Haas said the laws are clear but that the existing laws also make it clear that blockchain tokens are not securities but either a new form of digital property or a new way to record ownership. She said clarity is needed because these are new assets.
Rep. Andy Barr (R-Ky.) asked if there are suggestions for definitional clarity with respect to digital assets. Brooks said whether it comes from legislation that defines a security, or from Congress in the form of legislative discretion to an agency to define a security, both options would help.
Designing a Regulatory Framework
Rep. Bill Huizenga (R-Mich.) asked why it is important to create rules of the road before adding more regulation. Brooks said other countries make this much easier, have super clear derivatives and ETF regulations, and are trying to lure Americans over there.
Rep. Roger Williams (R-Texas) asked what negative consequences could happen with a heavy-handed approach to regulating this technology. Brooks said the options to protect people from losing money is to either prevent as many people as possible from accessing this technology, or to make it safer and bring more people into the system.
Rep. John Rose (R-Tenn.) asked what the most important piece is to structuring the regulatory framework. Brooks said the problem is that crypto assets are being treated differently from all other assets and they should be let into the banking system.
Reps. Bryan Steil (R-Wisc.) and Wagner asked how digital assets would facilitate financial inclusion. Dixon said blockchain allows value and money to flow like e-mail, creates less friction in the marketplace, and allows unbanked individuals to access this technology cleanly. Allaire highlighted the fact that when combined with the open internet, this technology creates an open financial system. Brooks said many people are underbanked because of minimum balance fees and wire charges, and the other important thing about crypto is that you do not need to be well connected or networked so it will allow minorities better and equal access to wealth creation.
U.S. Dollar Dominance
Blaine Luetkemeyer (R-Mo.) and Juan Vargas (D-Calif.) asked how to ensure the U.S. dollar remains the reserve currency. Allaire said there is growth in digital assets as a new asset class, but they will never rival the dollar because their use is different. Rep. Jake Auchincloss (D-Mass.) asked what Congress can to do regulate stablecoins that ensures dollar dominance. Bankman-Fried said the most important thing is to ensure the reserves are what they say they are through having daily attestations and periodic third-party audits to confirm the stablecoins are backed one-to-one.
Rep. Alexander Mooney (R-W.V.) asked how to ensure rogue regimes cannot use an exchange to evade U.S. sanctions. Bankman-Fried said they run sanctions checks on all their users. Haas said they run OFAC checks and do transaction monitoring. Mooney asked how bad actors could try to fool exchanges into thinking they are in a different location. Brooks said the decentralized tools have an ability to trace IP addresses based on probabilistic network information and can associate transactions with countries.
Rep. Ed Perlmutter (D-Colo.) asked how FTX is registered. Bankman-Fried said they are licensed by the CFTC. Perlmutter mentioned derivatives being a key component of failure in the 2008 crisis and asked if FTX is registered with the SEC. Bankman-Fried said they do not list securities on their platform as of now but would be excited to a unified regime with both regulators.
Barr asked if stablecoins could address concerns about the risk of China’s advances in terms of sanctions enforcement and protecting the dollar as the world’s reserve currency. Brooks said yes, they have the potential to benefit the USD.
Rep. Warren Davidson (R-Ohio) said a lot of the volatility is caused by traders and asked about the importance of leverage in volatility. Bankman-Fried said cryptocurrencies are more economically efficient and capital efficient, making it easier for people to hedge exposure and that they are an important part of the digital asset system. He added that it is important to have robust risk engines that monitor the positions in these assets.
Rep. Bill Foster (D-Ill.) asked if having a regulator that can see true beneficial owners is necessary to prevent wash trades and similar abuses. Bankman-Fried said they conduct KYC, and he thinks it is a powerful argument in having harmonized regulatory and market frameworks for different asset classes rather than having a fractured regime.
Foster asked if there is anything wrong with the concept of having a pseudonymous tax ID for digital assets. Allaire said some things need to be balanced, and most would agree privacy and security are challenges and that there is a risk of connecting too much personally identifiable information (PII). Allaire said a next step for the industry would be digital identity standards.
A New Self-Regulatory Organization (SRO)
Reps. Madeline Dean (D-Penn.) and Adams asked about the need for a new regulator or the creation of an SRO. Haas said they are not asking for the creation of a new federal regulator and that adding a new SRO would ensure someone is constantly looking at changes in crypto.
Rep. Rashida Tlaib (D-Mich.) said Bitcoin mining uses more electricity that the entire country of Argentina consumes, and one Bitcoin transaction uses the same amount of electricity that a typical U.S. household uses in a month. She asked why it is such an energy intensive process. Dixon said a lot of energy is needed for the math computations, but not every consensus mechanism uses that large amount of energy. Tlaib asked if governments should be taking more active roles to bring energy consumptions and carbon emissions in line with our agreements. Dixon said the industry should focus on minimizing energy consumption even without regulation.
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