Regulation
Is the latest crypto bill an opportunity for banks to circumvent regulation?
Rep. Maxine Waters, Democrat of California and ranking member of the House Financial Services Committee, said a Republican-led crypto bill could open the door for financial companies to escape SEC oversight. and Exchange Commission. Photographer: Andrew Harrer/Bloomberg
Andrew Harrer/Bloomberg
WASHINGTON-Crypto bill passed by unusually wide bipartisan margin in House could create a loophole allowing traditional financial companies – including banks – to circumvent stricter regulation.
Last month, the House voted in favor of a bill establishing a regulatory regime for cryptocurrencies, and the bill notably passed with rare bipartisan support. Seventy-one Democrats voted for the bill, including high-ranking party members like former House Speaker Rep. Nancy Pelosi of California.
The bill faces tougher challenges in the Senate, where Senate Banking Committee Chairman Sherrod Brown, D-Ohio, has been skeptical of crypto legislation that he sees as too favorable to the crypto industry.
But the House vote was a turning point for crypto in Washington, as more Democratic lawmakers appear interested in considering some sort of bill. Senate Majority Leader Chuck Schumer, D-N.Y., along with a group of mostly Northeast and West Coast Democrats, are becoming friendlier toward a narrow set of crypto issues, creating an opportunity for the crypto industry and for Republicans to find common ground and pass a bill establishing a regulatory regime for the industry.
A number of Democratic senators, including Schumer, voted in favor of the Congressional Review Act’s challenge to SEC Accounting Bulletin 121, which banks say effectively harms their ability to hold cryptocurrency. While Biden vetoed that challenge on Friday, the bill recently passed out of the House would have a very similar effect, prohibiting the SEC from making rules or issuing guidelines that would prevent banks from entering into the crypto custody sector.
Moving forward, a key part of the upcoming debate on the crypto bill – known as the “Financial Innovation and Technology for the 21st Century Act” or FIT21 – will be the implications of the bill not only on crypto, but also on traditional financial institutions. including banks.
Some Democratic members of the House of Representatives argued that the bill could make it easier for banks — typically large banks with established trading desks — and asset managers to create assets that would be overseen by Commodity and Futures Trading Commission rather than the Securities and Exchange Commission, which is generally considered to have a lighter regulatory touch.
Specifically, much of the concern revolves around a section titled “Clarity of Assets Offered Under an Investment Contract.” House Democrats argued that this section was added only in the most recent version of the legislation and after the bill was considered by the House Financial Services Committee.
“Language was added to the bill after it was marked up by the appropriate committees that would allow even some traditional titles to also exist in this regulatory no-man’s land,” said Rep. Maxine Waters, Democrat of California, at the press conference. Floor of the house.
The section describes the ways in which an “investment contract asset” – normally something that would fall under the jurisdiction of the SEC – would not be regulated by the SEC if it meets certain decentralization criteria, including that the transaction of the asset is recorded on a cryptographically secure medium. public ledger.
Graham Steele, a researcher at the Roosevelt Institute and until recently assistant secretary for financial institutions at the Treasury Department, said that under the bill, banks and other financial institutions could implement a blockchain system , subcontract this operation or separate from it, and then everything listed on this platform would be outside the scope of SEC regulation.
“There are ways for a bank to set up a blockchain network,” he said. “Anyone can self-certify to the SEC that the network and associated digital assets are decentralized. And then, assuming the SEC… doesn’t challenge that, it moves into the digital products space and is supervised by the CFTC.”
The risk of larger institutional players entering this market is twofold, Steele said. The CFTC requires fewer disclosures and offers consumers less protection than the SEC, which could harm consumers, and the entry of large traditional companies could create financial bubbles that threaten financial stability.
“There is therefore harm to the micro-consumer caused by investing in products and services and not necessarily having all the information necessary to understand the risks,” he said . “And then, secondly, you could have large incumbent financial institutions that would make these markets bigger and bigger, which could make it a financial stability issue.”
Lee Reiners, a lecturer at Duke Law who studies financial technology and crypto policy, said that in theory, a large non-bank financial company like BlackRock — which already has a tokenized fund — could bring some modifications to this offering to meet the definition in the bill. of what can be classified as merchandise. Reiners, along with a number of financial policy law academics and consumer groups, wrote to the House Financial Services Committee to voice these concerns to lawmakers.
“If you give Wall Street the opportunity to game the system and go for a lighter regulatory regime, they will,” he said. “You can imagine someone saying, ‘OK, if you don’t want to register with the SEC, just put it on the blockchain.'”
Republicans, for their part, say their bill does not pose this dilemma. Rep. French Hill, R-Ark., a lead sponsor of the legislation, said the bill specifically defines assets offered under an investment contract as securities, unless they are not otherwise defined as a title. This is part of a complex legal test called the Howey test established by a 1946 Supreme Court case.
“The minority has repeatedly charged that somehow a big securities loophole is open and wide in this bill,” he said. “That’s just not true, that’s just not a factual statement.”
Hill said the term “investment contract” is a “fungible digital representation” and that the bill specifically defines digital assets as not including notes, stocks, treasury bills and swaps based on titles.
“So this does not open the loophole that the senior member of the Financial Services Committee mentioned,” he said.
This assessment has also gained support from other experts. Zachary Zweihorn, a partner at Davis Polk, said the idea that financial institutions “can just put a blockchain label on something” and therefore fall outside the securities regulatory structure is not “realistic under the text Bill “.
“The way I see it, it says that an asset sold under an investment contract is not automatically a security,” said Zachary Zweihorn, a partner at Davis Polk. “Unless it’s otherwise a security, which is sort of circular.”
If a major bank or other financial institution creates an asset that meets the definition of a digital asset that should be regulated by the CFTC under the Republican crypto bill, Zweihorn said the CFTC could be the best place to regulate this asset.
“It’s hard to imagine a bank creating these types of assets that would meet this definition,” he said. “And you know, if they do it, then it’s probably not the worst idea to do it. [to the CFTC]”.