The Breakdown - We Pushed Semiconductors Offshore; Are We Doing the Same to Crypto?

Episode Date: March 12, 2023

On this week’s Long Reads Sunday, NLW reads: Semiconductors: A Cautionary Tale by Sheila Warren The SEC’s Other Option by TuongVy Le  SEC Bitcoin ETF Dissent - Commissioner Hester Peirce and Commissioner Mark Uyeda Enjoying this content?   SUBSCRIBE to the Podcast Apple:  https://podcasts.apple.com/podcast/id1438693620?at=1000lSDb Spotify: https://open.spotify.com/show/538vuul1PuorUDwgkC8JWF?si=ddSvD-HST2e_E7wgxcjtfQ Google: https://podcasts.google.com/feed/aHR0cHM6Ly9ubHdjcnlwdG8ubGlic3luLmNvbS9yc3M=   Join the discussion: https://discord.gg/VrKRrfKCz8   Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW   - “The Breakdown” is written, produced and narrated by Nathaniel Whittemore aka NLW, with editing by Michele Musso and research by Scott Hill. Jared Schwartz is our executive producer and our theme music is “Countdown” by Neon Beach. Music behind our sponsor today is “Foothill Blvd” by Sam Barsh. Image credit: Malte Mueller/ Getty Images, modified by CoinDesk.  Join the discussion at discord.gg/VrKRrfKCz8.   Join the most important conversation in crypto and Web3 at Consensus 2023, happening April 26-28 in Austin, Texas. Come and immerse yourself in all that Web3, crypto, blockchain and the metaverse have to offer. Use code BREAKDOWN to get 15% off your pass. Visit consensus.coindesk.com.  

Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. The breakdown is produced and distributed by CoinDest. What's going on, guys? It is Sunday, March 12th, and that means it's time for Long Read Sunday. Before we get into that, however, if you are enjoying the breakdown, please go subscribe to it, give it a rating, give it a review, or if you want to dive deeper into the conversation, come join us on the Breakers Discord. You can find a link in the show notes or get to bit. Breakdown Pod.

All right, guys, well, boy, has it been a tumultuous week? I'm recording this Friday afternoon. Who knows what other shoes have dropped since I was able to record this? But I want to do a few different things on today's LRS. I want to start with what I think is a really good thread comparing the U.S.'s approach to the crypto industry to another high-tech industry that has had an interesting relationship, let's say, with American policy. And then we're going to take it from there.

So this first thread comes from Sheila Warren, who's the CEO of the Crypto Council. She was formerly at the WEF and has a lot of really interesting perspectives. She's also the host, by the way, of CoinDesk's Money Reimagined podcast. She writes, The cognitive dissonance I have around watching the U.S. slowly offshore crypto while desperately trying to bring back semiconductor manufacturing is wild. So I bring you semiconductors, a cautionary tale. Recently, the White House announced an initiative to bring semiconductor manufacturing back to the U.S.,

despite desperately trying to catch up to global competitors. Semiconductor manufacturing is critical to national security, and when we let it leave the U.S. decades ago, only a few predicted just how critical it would end up being. The struggle we are seeing to bring SMFR or semiconductor manufacturing back to the U.S. is foreshadowing our digital future if crypto is pushed offshore. We could see similar fact sheets from the White House about bringing crypto back to America. How did we get here? Semiconductor chips are essentially the brains of electronic devices.

Without them, electronics can't work. So when pandemic supply chain disruptions kept auto manufacturers from getting chips, new vehicles would sit incomplete because they were missing one single chip. The U.S. invented semiconductors in the 1960s and led its development for the industry's first few decades. But since 1990, the U.S. share of global chip manufacturing shrank from 37 to 12 percent, largely due to U.S. underinvestment and neglect. Other governments, especially in East Asia, lured semiconductor firms with tax breaks, land for factories,

cheap labor, and a more open system. The U.S. underinvestment in chip manufacturing was driven by a strategic misstep. In the 90s, U.S. firms decided to specialize in semiconductor design and outsource semiconductor manufacturing. Taiwan, by contrast, focused long term to be an essential country for the chip industry. Fast forward to today. China has been investing heavily for decades and is positioned to outpace the U.S. But these chips are vital to a growing digital economy, and the U.S. is trying to increase manufacturing.

We are finding the tech and expertise can't be ramped up fast enough. While the administration took strong steps in the past year to push for increased U.S. investment in semiconductor research, development, and production, the U.S. is now 40 years behind. Catching up is easier said than done. The COVID-19 pandemic showed just how fragile global supply chains can be in a crisis and the lack of domestic production of critical industry components is not just an economic issue, but a significant national security risk. See the parallel yet? Blockchain software and developer know-how will be critical to the future in ways we can't

imagine. The global economy is becoming more reliant on internet apps. Decentralized tech offers new ways for security and safety and unlocks new dynamism. The U.S. is at a point with decentralized technologies where it was when it led semiconductor manufacturing decades ago. The U.S. pioneered research, entrepreneurship, and investments around blockchain software since Bitcoin was first deployed in 2009. The U.S. also pioneered the regulatory approach for combating illicit finance in crypto. Data shows that the U.S. crypto ecosystem had a lower percentage of illicit finance than others, because FinCent paid attention to crypto exchanges early on. The U.S. has been the place where the crypto industry has blossomed the most, giving the

U.S.'s strategic edge for the advancement of Web3. For on the verge of losing that edge, and this time some think that's somehow a good thing. The current environment is driving crypto entrepreneurs, investors, and developers to other jurisdictions that are more welcoming and open to innovation. Places like Dubai, Japan, Europe, UK, Singapore, and others are making significant moves towards clarity. The U.S. is not. Now, of course, it's true that manufacturing and software development have different realities and capital costs, and dialing the industries up and down isn't exactly the same. But if crypto leaves the U.S. regulatory perimeter, it'll be built within other regulatory guidelines and that bell can't be unwrung without tremendous costs,

if at all. The reality is that getting things back to the U.S. will be even harder than it's turning out to be for semiconductor manufacturing. Crypto moves at warp speed. One year is seven years in other ecosystems. Nobody knows what the future holds or how this ecosystem will grow. If the U.S. loses crypto businesses as other jurisdictions double down on the tech and industry, we could find ourselves playing catch-up again. So a great thread there from Sheila. And of course, what she's talking about is the fact that the U.S. is locked in this weird game right now, where we have regulated like Gary Gensler who say, just come in and register, just come in and register. When it is patently clear that you can't register, it's not clear what crypto companies are

supposed to register as. And in fact, if they try to, they're often served papers because they were doing something that was wrong. So instead, they don't come in to register and hope that things get worked out, which they never seem to do. Join CoinDesk's Consensus 2023, the most important conversation in crypto and Web 3. happening April 26 through 28th in Austin, Texas. Consensus is the industry's only event bringing together all sides of crypto, Web3, and the Metaverse. Immerse yourself in all that blockchain technology has to offer creators, builders, founders, founders, brand leaders, entrepreneurs, and more.

Use code Breakdown to get 15% off your paths. Visit Consensus.com or check the link in the show notes. Which brings us to our next thread. It's from Tongvi-Lay, the partner and head of regulatory and policy at Bain Capital Crypto. She writes, To the SEC staff who know that crypto assets and services by their very nature can't comply with existing securities regulations, but feel they have no choice but to bring enforcement actions under existing law, there is a better way.

In the 90s, Congress gave the SEC broad authority to exempt entire classes of securities from the federal securities laws. And the SEC has used it. In 2004, asset-backed securities backed by things like mortgages were new, but it quickly grown to a $416 billion market. After years of ABS no action letters and feedback to ABS issuers on their registration applications, the SEC finally recognized that a new set of rules was needed. The existing one simply didn't work given ABS's unique features. SEC said ABS, quote, differ from corporate securities and operating companies. There is generally no business

or management to describe. Instead, information about the transaction structure and the quality of the asset pool and servicing is often what is most important to investors. SEC also recognized that, many of the commission's existing disclosure and reporting requirements, which are designed primarily for corporate issuers, do not elicit the information that is relevant for most asset-backed securities transactions. So in 2004, SEC passed a registration, disclosure, and reporting regime that made sense for ABS, amended it in 2015, and just this January proposed another amendment, all through a fair and public rulemaking process. What didn't it do? Bring 120-plus enforcement actions with little more. The $1 trillion crypto asset class differs from traditional securities even more. It's based on

groundbreaking new technology and has novel governance system structures and uses, think Dow's, wrap tokens and staking, that demand even more tailored regulations and disclosures than ABS. So much so that Congress should pass new legislation entirely. But barring that, SEC should do what it's done before. Use the exemptive powers granted to it by Congress to craft a workable regime that protects investors while preserving capital formation in this emerging industry. which is, by the way, precisely what much of the rest of the world is doing. So obviously what I think this adds to the discourse is the fact that this wouldn't be the first time that the SEC has had to deal with a novel or exotic type of instrument. And what it's done before is to create a new regulatory regime that reflected the nature of the asset.

This notion of the assets being new is also much at the heart of our third and final piece for today. This is a dissenting statement regarding the SEC's disapproval of a proposed rule change to list and trade shares of the Vanek-Bick. Trust. It's from SEC Commissioner Hester Purse and SEC Commissioner Mark Ueda. Commissioner Purson Uwaita write, Nearly six years have passed since the commission issued its first order disapproving an application by an exchange to list and trade an ETP designed to track the price of spot Bitcoin. Notwithstanding significant evolution of the Bitcoin market, the commission has continued to disapprove every such filing that has come before it. In our view,

the commission is using a different set of goalposts from those it used and still uses for other types of commodity-based ETPs to keep these spot Bitcoin ETPs off the exchanges we regulate. Today, the commission has issued the latest in this disappointing string of disapproval orders. This order's analysis essentially repeats the analysis that the commission is given in each of these recent orders. However, it is worth reflecting on the commission's approach to these products, how that approach differs from the approach the commission has taken and indeed continues to take towards other commodity-based ETPs, and what this bodes for the future of innovation and by extension for investor protection and capital formation in our markets. Consistent with its prior

Bitcoin ETP disapproval orders, the commission bases its disapproval. of the Vanek Bitcoin Trust filing on the inability of the exchange to establish, quote, that it has a comprehensive surveillance sharing agreement with a regulated market of significant size related to spot Bitcoin. The Commission asserts that this analysis is consistent with its approach to considering earlier rule filings related to non-Bitcoin commodity-based ETPs. In which, quote, there has been in every case at least one significant regulated market for trading futures on the underlying commodity, and the ETP listing exchange has had a surveillance sharing arrangement with that market. Because it finds that the exchange has not

established that it, quote, it is reasonably likely that a would-be manipulator of the proposed ETP would have to trade on the CME Bitcoin futures market to successfully manipulate the proposed ETP? The commission concludes that the exchange has not established that the futures market is a, quote, market of significant size in relation to the Bitcoin spot market. It is true that when approving other types of commodity-based ETPs, the exchange listing such products has had a surveillance-sharing agreement with a market on which futures of the commodity underlying the ETP trade, and those orders typically describe the relevant futures market is significant. But it is also clear that the commission is using a uniquely burdensome definition

of significant in its analysis of spot Bitcoin ETP filings. For example, the commission is quoted language from its approval orders for other commodity-based ETPs that, it argued, shows that the exchanges seeking these approvals universally had in place a surveillance sharing agreement with a significant futures market. Indeed, in many of the orders, the commission draws no connection between the futures market and the spot market. Instead, the commission's use of significant in the prior approval orders for other commodity-based ETPs appears to refer to the significance, presumably measured by liquidity and volume, of a particular venue for trading futures as compared to the overall market for futures in the relevant commodity.

The spot Bitcoin-ETP disapproval orders represent a sharp departure from this approach. Rather than look at the size and quality of the relevant futures markets to determine whether it is significant, the commission, beginning in 2018, has insisted that a Bitcoin futures market is significant for the purposes of determining whether listing and trading a related product only if it meets two conditions. A, there is a reasonable likelihood that a person attempting to manipulate the ETP would also have to trade on that market to successfully manipulate the ETP, and B, it is unlikely that trading in the ETP would be of the predominant influence on prices in that market. The attentive reader will find no hint that this standard applied

in any of the many prior approval orders that the Commission has cited is showing that the significance of a regulated market is important in its approval of commodity-based ETPs. Indeed, to establish the authority for applying the standard, the Commission cites only to other previous Bitcoin disapproval orders, which indicates that the standard applies only in the context of disapproving spot Bitcoin ETP applications. Moreover, although the Commission appears to have included some more direct language regarding surveillance sharing agreements with significant, regulated markets in its more recent approval orders for other types of products, it has not required exchanges proposing to list and trade these products to show that the

ostensibly significant market relevant to each filing meets the two-part test it applies to spot Bitcoin ETPs. The Commission has never adequately explained why it has not applied and still does not apply this two-part test when determining whether a futures market related to any other commodity-based ETP is significant. In our view, the commission should not be applying this two-part test to any commodity-based ETPs, as it is inconsistent with the standard of review imposed by the Exchange Act and is not clearly fit for the purpose for which the commission is using it. But, given that the commission continues to use this test in connection with spot Bitcoin ETPs, we are puzzled as to why the commission gives no indication that it is even considered

applying the test when it approved more recent commodity-based ETPs. In addition, the commission has never provided any evidence that any of the non-Bitcoin commodity-based ETPs could themselves satisfy the two-part test. Without such evidence, it is impossible to know whether it is reasonable to make this demand of any market or whether, in retrospect, the test would have allowed the commission to approve commodity-based ETPs that have apparently traded without significant investor harm over the past nearly two decades. Absent evidence that the commission has established the utility of the test and its connection to the commission's stated regulatory objectives, its decision to use this specific test also appears arbitrary and capricious.

We believe that the commission's decision to subject spot Bitcoin ETPs to a bespoke standard that may be impossible for any product to meet has harmed investors by making it harder for the Bitcoin market to mature through institutionalization and easier and potentially safer retail investor access. But our concern is not just with Bitcoin. If we use the test in other markets, we will prevent other products from coming to market. Had we applied the test to other commodities-based ETPs, they might not be trading today. arbitrarily depriving investors of access to products does not protect them. Consistent application of the

standards Congress gave us, does. Importantly, the commission is required by law to provide an explanation for any change to its policy regarding the approval of commodity-based ETPs. According to the Supreme Court, it would be, quote, arbitrary and capricious for an agency to enact a new policy that rests upon factual findings that contradict those which underlay its prior policy without providing a reasoned explanation. Additionally, this, quote, requirement that an agency provide reasoned explanation for its action would ordinarily demand that it display awareness that it is changing position. Here, the commission has crafted a new standard for determining whether a futures market is, quote-unquote, significant. Not only has the commission failed to provide an explanation for the change, but it has failed

even to acknowledge that there has been a change. Because we believe that spot Bitcoin ETP should be subject to the same standards the commission is used for every other type of commodity-based DTP? And because we believe the poorly designed test being used here is not fit for purpose and will inhibit innovation and thereby harm investors in our markets, we dissent. Now, that was pretty dense, obviously, but the long and the short of it is that they're saying that the SEC is applying additional considerations to the determination of whether a Bitcoin Spot ETF should be approved than they are to other types of assets. And that importantly, it's not in their jurisdiction to do so, that they have been given specific guidelines about what it means to change process. Now, look,

Commissioner Peirce is a stalwart of the crypto space and just fairness regarding the crypto space. So it's not necessarily surprising seeing her make these arguments. However, there is increasing legal frustration with the SEC and its arbitrariness and capriciousness. We saw it this week when a judge overruled their objection to Binance proceeding with an acquisition of Voyager's assets because the SEC thought that Voyager might have sub-securities that Binance would have to sell. These conversations are not a foregone conclusion. And bringing it all the way back to Sheila's point, These are exactly the type of conversations we need to be having now,

less we let this industry go elsewhere. Anyways, guys, hope you're having a great weekend. Until tomorrow, be safe and take care of each other. Peace.