The Breakdown - What Happened in the First Ever Congressional DeFi Hearing

Episode Date: September 12, 2024

The House Financial Services Committee held a hearing on DeFi -- the first ever full Congressional hearing dedicated to the topic. Unsurprisingly and unfortunately, it was a highly partisan affair. Enjoying this content? SUBSCRIBE to the Podcast: https://pod.link/1438693620 Watch on YouTube: https://www.youtube.com/nathanielwhittemorecrypto Subscribe to the newsletter: https://breakdown.beehiiv.com/ Join the discussion: https://discord.gg/VrKRrfKCz8 Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW

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. What's going on, guys? It is Wednesday, September 11th, and today we are talking about a house defy hearing. 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 go to bit.ly slash breakdown pod. Hello, friends. Well, quickly before we get into the main topic of this hearing, one of the things that people were wondering heading into the debate yesterday was whether the topic would be important enough to finally make it into a presidential debate. For example, would former President

Trump try to hang anti-innovation policies on Kamala Harris's head, maybe making a passive reference to the crypto industry or something like it? Alas, when all was said and done, crypto wasn't mentioned at all, even in the context of innovation policy. Ultimately, the only thing interesting for crypto folks was to see that there continues to be correlation between former President Trump's chances in the price of Bitcoin. Polymarkets' odds of a Trump victory went down three points during the debate, and Bitcoin went down right alongside it. So for now, no crypto in the debates. Earlier in the day, however, we did get a substantial discussion of crypto policy back in Washington, as the House Financial Services Committee held their first ever hearing specifically

on defy. The framing was fairly neutral, and the invite list was stacked with some of the best thinkers in the crypto-legal community. Present to give testimony we had, Ryan Avello, the chief legal officer of UDHC and former General Counsel for the Maker-Douw Growth Foundation, Amanda Tuminelli, the chief legal officer of the Defi Education Fund, and Peter Van Valkenberg, the director of research at Coin Center. The anti-crypto witness was Mark Hayes, senior policy analyst at Think Tank Americans for Financial Reform. The hearing was held by the Digital Assets Subcommittee with Chairman French Hill setting the tone from the start. He said that DeFi is, quote, based on the fundamental idea that individuals should have the freedom to transact without the fear of

a legal financial surveillance or abuse by governments. Hill added, Today's hearing is designed to take a deep dive into some core concepts behind Defi. I'd like members on both sides of the aisle to approach it with an open mind. For context, we've seen these kinds of hearings before. In late 2021 and early 2022, there were multiple hearings which served to introduce the basics of blockchain technology in Congress. The most striking thing about those hearings was a bipartisan desire to simply learn about

the technology and think through the operational. opportunities and risks it presents. There were comparatively few attempts to create soundbites from either side of the aisle, with most taking the opportunity to ask productive questions of industry experts. Of course, by late 2022, that tone had shifted significantly, with Democrats taking a combative stance and using the hearings to grill the industry for its failings. And indeed, in this case, while the Republican-led committee framed the hearing as an education session, Democrats entered with preconceived notions. During his opening comments, ranking member Stephen Lynch said, quote, defy providers claim to offer permissionless and interoperable payments allowing for

efficiency and anonymity. However, it has become increasingly evident that these features have made Defi most attractive to elicit actors who seek to conduct activity, aka, welcome back to the Crypto is for criminals era, with Lynch making the case that financial privacy can, quote, be achieved in legal and safe ways through policy change. Instead of accepting that Defi shows promise, Lynch championed the e-cash Act, which directs the Treasury to create a privacy preserving CBDC. As we've seen this year, CBDCs have become an absolute third rail in American politics, so I don't think that there's any chance of that. Linge closed his statements by admonishing the committee for not looking into Defi sooner. In line with his opinions on basic crypto regulation,

he said that any regulation that enables defy would, quote, invite the same consumer and investor protection risks by legitimizing this industry. And this really has been one of the big strands of anti-crypto sentiment for the last almost two years now, that if you regulate the industry at all, it will legitimize it, and so what you should do is nothing, and hope it goes away. Overall, Lynch's framing was very much about pitting the defy ecosystem against making improvements to domestic payments and banking infrastructure. He seemed convinced that the government could not pursue both at the same time, or perhaps believe that defy was destined to win in a competitive landscape.

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Now, testimony from witnesses focused on the Y of Defi. Rebecca Reddick explained that the open source financial protocols that make up the DFI ecosystem, quote, increases predictability for users and increases competition to build better user experiences. Her core suggestion is that DFI should be thought of and regulated as infrastructure rather than financial services. As DFI has no intermediary, she explained that the traditional method of regulating finance would not work. Amanda Tuminelli had two big points, that DFI is an improvement on traditional finance because it does not rely on intermediaries, and that the existing approach of forcing DFI to function in the same way as traditional finance,

quote, has not, does not, and will not work. She made the same points about financial inclusion, efficiency, and self-custody that we have heard for years, but they took on much more weight when presented to Congress. Timinelli said, Tradfi relies on intermediaries that can serve as financial gatekeepers. Big banks can and do deny access to finance for discriminatory reasons or no reasons. But Defi is open access. Anyone with an internet connection has access to Defi and that is the epitome of financial inclusion.

Her central thesis was that the benefits of Defi make it worth the effort to create regulatory clarity in the U.S. Peter Van Valkenberg took the principled stance that financial privacy is a valuable human right that ought to be reestablished and defended in the U.S. He drew the comparison between the warrantless financial surveillance that occurs currently to warrantless wiretaps that were legal in the 1950s. He explained, There's a pattern here. Initially, we have privacy in our day-to-day affairs, but we have to do things in person,

a cash transaction or a face-to-face conversation. Then technologies emerge that scale human action across vast distances but lose our privacy in the process, a telephone call or a bank wire. Finally, technologies improve restoring privacy without sacrificing scale, and the law catches up to protect citizens' expectations of privacy, for example, encrypted messages or Bitcoin transactions. He warned, however, that this process is inevitable, continuing, if we don't allow Americans to use and develop peer-to-peer financial systems, those tools will be used and developed overseas, insisting on re-intermediating and surveilling peer-to-peer financial transactions,

would make the U.S. as non-competitive as a country still relying on human switchboard operators for telephone calls. Van Valkenberg ran through the multiple instances. of government agencies doing just that over the recent years. The IRS drafting rules that would force blockchain infrastructure firms to surveil their customers, the DOJ prosecuting software publishers as unlicensed money transmitters, the Treasury Department banning U.S. citizens from using tornado cash even for legal purposes, and the SEC using enforcement actions to jam crypto networks into existing laws that require intermediaries.

He argued that these agencies pursue these regressive activities without clear congressional direction. While acknowledging that CoinCenter is engaging in two lawsuits against the government on these issues, Van Falkenberg pressed, we are here to educate members of Congress about these technologies, advocate for reasonable regulation, and preserve constitutional rights. Frankly, this was the most tight, resonant, and to-the-point collection of testimonies on crypto policy since the industry began going to Congress in 2021.

Van Falkenberg in particular gave a crash course on why constitutional rights to drive regulatory design in the digital age. His testimony went viral across crypto-legal circles, but the more telling commentary came from outside the industry. Rohan Gray, a deeply progressive law professor and one of the architects of the e-cash Act said, This is the correct position, and it's really embarrassing and an unforeseen error how many liberals and center-left people have embraced propaganda to the point of dismissing payments anonymity as something bad or pro-crypto coded, rather than the obvious defense of civil liberties it is.

He went on to push private government issued e-cash as a necessary technology for the hundreds of millions of Americans who will never use a defy protocol. Gray implored the crypto industry to reposition financial privacy as its core goal, adding, I've had a pretty front row seat to where the industry's lobbying money and focus has been directed, and it's been quite clearly not focused on privacy as a public good. It's been the other thing pumping their bags. As foreshadowed by the introduction from Stephen Lynch, Democrats turn the listening session into a collection of soundbites and bad faith arguments. Brad Sherman said, what we have here is an effort to liberate billionaires from income taxation. Every time a billionaire successfully cheats on his taxes, a member of the Freedom Caucus earns his wings.

A measure Van Valkenberg responded, tax evasion is a crime. it should be aggressively policed. I do not, however, think that tax evasion in its existence warrants a 100% surveilled and controlled financial system. He further pointed out that the IRS refusing to issue clear tax guidance has caused problems for investors. Maxine Waters spent much of her time railing against the recent hack of the Trump family accounts to promote crypto scams, an issue that clearly has little to do with defy policy. She also questioned the ability of regulators to deal with defy platforms given, quote, mass noncompliance by entities that claim they are decentralized to avoid regulatory compliance. One of the more blunt exchanges came from Democrat Sean Kasten. He suggested

that DFI developers should face criminal liability for what users do on their platforms, comparing defy protocols to sketchy pizza shops that serve as a front for money laundering. This is obviously a high-stakes issue given the recent prosecution of Telegram's founder for the conduct on his platform. Amanda Tuminelli made the case that the bad actors are the ones that should be prosecuted, arguing, if I make a neutral tool that somebody uses to commit a crime, I should not be held responsible for that person's conduct. Kasten responded, that's bizarre, that's aiding and abetting the commission of a felony. Later in the hearing, Republican Warren Davidson picked up on this theme, commenting, most of the panel we've seen from Democrats today has been

insane. If they were replying to the same logic, think about how many crimes Google becomes an accomplice for because people do searches or use the map function to navigate to the place they're going to commit crimes. Riffing on the notions of Coda's speech and the right to financial privacy, he noted, you would think that when the Democrats talk about the government granting permission that the government is the grantor of our rights. But thankfully, in America, our founders recognize that rights come from our creator. The First Amendment is a limit on the government's ability to infringe on your right to speech, and the Fourth Amendment is a limit to the government's ability to infringe on your rights to privacy.

I think, how in the world can you have decentralized finance without the decentralized part? They want a central hub, a filter of privacy, a grantor of permission. You can expect that in a police state, but why in the world would you see our colleagues here in Congress advocating for that? Vin Valkenberg continued on that thought, quoting from dissenting Supreme Court Justice Thurgood Marshall, in a 1970s case about the constitutional validity of the Bank Secrecy Act. Quote, the fact that some may use negotiable instruments for illegal purposes

cannot justify the government running roughshod over our First Amendment rights of the hundreds of lawful yet controversial organizations like the ACLU. Congress may well be correct that law enforcement would be facilitated by the Dragnet requirements of the Bank Secrecy Act, but those who wrote our Constitution recognized more important values. Ultimately, while the hearing was a little tense and Democrats gave little ground, industry figures still presented a powerful logic for why Defi is

a necessary technology for the digital age. It's important to note this is just a hearing on Defi with no legislation currently in motion. Still, yesterday's session served to outline the case for Defy in public for the first time in a formal setting. Jake Chirvinsky, the chief legal officer at Variant Fund, tweeted, honestly feeling emotional after the first ever TFI hearing in Congress today. I remember years ago when Defy was like 10 projects that no one thought would amount to anything. Now it's on full display in the halls of power in D.C. And so, friends, we will wrap it there. Interesting stuff from Washington. even if no progress currently. But of course, I don't think anyone expects a lot of progress before

November. Anyways, friends, appreciate you listening as always. And until next time, be safe and take care of each other. Peace.