The Breakdown - What You Need to Know About Biden's Stablecoin Report

Starting point is 00:00:00 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 sponsored by Nidig and produced and distributed by CoinDesk. What's going on, guys? It is Tuesday, November 2nd, and today we are discussing the long-awaited stablecoin report from the Biden administration and what you need to know about it. So this report has been teased all month. I mean longer, really, but especially this month. We've known it was coming. People have been speculating around what it was going to include. Some, like Senator Pat Toomey, have criticized the process by which it was created, but everyone

Starting point is 00:00:51 has been waiting to see the actual report. Now, this comes from the President's Working Group on Financial Markets, the Federal Deposit Insurance Corporation, or FDIC, and the Office of the Comptroller of the Currency or OCC. The Working Groups. The Working Groups, group is comprised technically of Treasury Secretary Janet Yellen, Federal Reserve Chair Jerome Powell, SEC Chair Gary Gensler, and acting CFTC chair Rustin Benham. However, each of these folks was able to designate a representative should they so choose. We're going to spend a lot of today on interpretation, so let's actually start with words from the document itself, and I'm going to read the key excerpt, I think, of the report's executive summary. Quote, to address the prudential

Starting point is 00:01:34 risks of payment stablecoins, we recommend that Congress act promptly to enact legislation to ensure that payment stable coins and payment stable coin arrangements are subject to a federal prudential framework on a consistent and comprehensive basis. Because payment stablecoins are an emerging and rapidly developing type of financial instrument, legislation should provide regulators flexibility to respond to future developments and adequately address risks across a variety of organizational structures. Such legislation would complement existing authorities with respect to market integrity, investor protection, and illicit finance, and would address key prudential concerns. To address risks to stablecoin users and guard against stablecoin runs,

Starting point is 00:02:16 legislation should require stablecoin issuers to be insured depository institutions, which are subject to appropriate supervision and regulation at the depository institution and the holding company level. To address concerns about payment system risk, in addition to the requirements for stablecoin issuers, legislation should require custodial wallet providers to be subject to appropriate federal oversight. Congress should also provide the federal supervisor of a stable coin issuer with the authority to require any entity that performs activities that are critical to the functioning of the stablecoin arrangement to meet appropriate risk management standards. To address additional concerns about systemic risk and concentration of economic power, legislation should require

Starting point is 00:02:54 stablecoin issuers to comply with activities restrictions that limit affiliation with commercial entities. Supervisors should have authority to implement standards to promote interoperability among stablecoins. In addition, Congress may wish to consider other standards for custodial wallet providers, such as limits on affiliation with commercial entities or on use of users' transaction data. In the immediate term, the agencies are committed to taking action to address risks falling within each agency's jurisdiction, including efforts to ensure that stable coins and related activity comply with existing legal obligations as well as continued coordination and collaboration on issues of common interest. In addition, in the absence of congressional action,

Starting point is 00:03:32 which is urgently needed to address the prudential risks inherent in payment stablecoins, the agencies recommend that the Financial Stability Oversight Council consider steps available to it to address the risks outlined in this report. Such steps may include designation of certain activities conducted within a stable coin arrangement as or as likely to become systemically important payment clearing and settlement activities. The rapid growth of Stablecoins increases the urgency of this work. Failure to act risks growth of payment stablecoins without adequate protection for users, the financial system, and the broader economy. In contrast, a regulatory framework that supports confidence in payment stablecoins in normal times and in periods of stress could increase

Starting point is 00:04:10 the likelihood of stable coins supporting beneficial payments options. Who boy, so that was a mouthful, but let's break it down a little bit. So let's first quickly recap their three concerns. The first is stablecoin runs, and this seems to be a primary concern. Now, many on Twitter and many of the hosts of this podcast have pointed out that there is really no evidence of this in the past of stable coins so far. But the concern has to do with the actual redeemability and what happens if a wider array than current crypto traders and market participants actually get involved with stablecoins. As we will see, there are some big concerns with this language of insured depository institutions

Starting point is 00:04:51 and what that means. The second concern they articulate is payment system risk, and this to me sort of reads like a continuation of the ongoing conversation we've had around how to apply the KYC AML regime to these new types of systems. Their third concern is the concentration of economic power, and this boy howdy is the Facebook paragraph. As I pointed out yesterday, all of the focus in the U.S. and really around the world on stable coins and what they might mean started when Facebook announced that they were going to

Starting point is 00:05:22 get into the game with Libra, which has obviously changed its name subsequently to DM. But let me reread that paragraph, and I'm just going to substitute the word Facebook in place of commercial entities. To address additional concerns about systemic risk and concentration of economic power, legislation should require stablecoin issuers to comply with activities restrictions that limit affiliation with Facebook. Supervisors should have authority to implement standards to promote interoperability among stablecoins. In addition, Congress may wish to consider other standards for custodial wallet providers, such as limits on affiliation with Facebook or on use of users' transaction data.

Starting point is 00:05:56 You get where I'm going with that. Now, let's talk about their recommendation. Basically, the big banner takeaway of this report is that Congress should act, and while it's doing so, the SEC and the CFTC can do their thing around enforcement at the same time. This is one of the most positive areas of this report. I've lost count of how many times we've discussed on this show that given that stable coins and crypto in general are a new type of technology with major economic implications. Our approach to it should be determined by elected officials who can be held accountable rather than just the halls

Starting point is 00:06:30 of appointed officials in the SEC, the CFTC, etc. This report seems to endorse that view in a sort of carrot and stick way, where the carrot is, you Congress should go do this and the stick is, and if you don't, the financial stability oversight council will get involved and they're allowed to sort of do what they want. CoinDest got more color on this whole thing with some commentary from Treasury Undersecretary for Domestic Finance, Nellie Liang, who told them, Without the safeguards, I think the industry and regulators alike think we might miss out on some potential benefits of financial innovation. So I think there's a common appreciation of needing a framework that isn't too onerous, provides protections, and can keep innovation moving

Starting point is 00:07:06 forward. Going on to discuss why they're focused on legislation rather than just these agencies doing it, Liang said, we believe legislation is important. This is a new technology. and new innovation. It shouldn't be surprising that the current regulatory framework isn't set up to address some of the new kinds of risks that this could pose. So now let's talk reactions, and I think very clearly the big banner headline is that people more or less feel okay about this. If I had the super TLDR it, it's one, people agree that it should be legislators and not unelected regulators who determine this sort of policy. Two, people think that these regulated bodies take a long time to do their thing with a lot of process and chance for industry involvement.

Starting point is 00:07:48 Three, people think that in that process that is to come, we already have a number of allies, as the infrastructure battle showed. And four, more than anything, this just doesn't resemble any sort of the worst type of tones that people were afraid of and that critics said was coming. This is actually quite a measured document. We can disagree with the way they view risk. We can talk about why bank type rules might favor incumbents, but still, that's a pretty fine basis to have a conversation start from. Dan McArdle, aka Robustis on Twitter, sums it up this way. Critics. Government will just ban it. Reality. Members of Congress hold Bitcoin and extol its virtues on chamber floor. SEC approves a Bitcoin ETF. Long-feared Fadiff guidance pretty tame, all things considered.

Starting point is 00:08:32 President Stablecorn report comes out okay. Not exactly a ban. Now is it? A few other commenters said something similar. Jerry Brito from Coin Center said, It recommends Congress enact legislation to limit stablecoin issuance to insured depository institutions and says in the meantime SEC should enforce where appropriate. Also raises possibility of Financial Stability Board designation of certain activities as systemically important payment clearing and settlement activities, but doesn't recommend it. Jake Chivinsky tweets, we'll have plenty of time to pick apart the new Stablecoin report. For now, the highlight in my mind is the recommendation that Congress act promptly to enact legislation. Prompt action from this Congress

Starting point is 00:09:10 on anything is unlikely, let alone on something like stablecoins. In the meantime, the report seems to acknowledge that federal agencies lack the authority necessary to implement its many and varied recommendations. The report tells FSOC to, quote, consider steps available to it in the absence of congressional action which is urgently needed. Long story short, it sounds like nothing big will or can happen anytime soon. That's a good thing in my view, since the report clearly gets a lot of stuff wrong. It will and should take time to sort through what makes sense and what doesn't. We'll get there. For now, carry on. NIDIG sponsors this podcast and they're integrating Bitcoin into everyday life, not only for Wall Street, but also for Main Street, because NIDIG is built for Bitcoin and Bitcoin is

Starting point is 00:09:57 built for everyone. Learn more at NIDIG.com slash NLW. That's NYDIIG.com forward slash NLW. Seems like everything is all good, right? Well, not exactly. Stephen Paley, a partner at Anderson Kill, writes, Not sure if this is a huge surprise, but what jumps off the page for me in the president's working group report is the recommendation that Fiat-backed stable should only be issued by chartered banks with FDIC coverage.

Starting point is 00:10:27 There's some hedge language here, but I can't imagine that the intent is for IDIs to be issuing algorithmic stablecoins backed by tokens. There's no way FDIC would or could take on that risk. Limiting stablecoin issuance to chartered banks would really throw a wrench into innovation and personal financial freedom in the U.S. I'm all for consumer protection, but I don't know, isn't there a way to provide that without restricting these instruments to banks? Investor Adam Cochran responded to Paley asking,

Starting point is 00:10:52 doesn't need to be a full-blown bank, right? Like Paxos is a depository institution, but not a fully chartered bank. Paley responds with the specific saying insured depository institution. The term insured depository institution means any bank or savings association, the deposits of which are insured by the FDIC pursuant to this asset. Act. I don't think Paxos is an IDI. It holds funds in banks that are IDIs. It's a trust and has conditional approval from OCC to operate as a trust bank. Adam, who had initially been quite bullish on the report, updated his position with a thread based on Paley's take. He writes, bit more concerning than first glance, as it turns out the language has specific meaning. In this

Starting point is 00:11:32 case, basically suggesting stable coin issuers should be required to get full banking charters to issue stables, and that they would need to be FDIC insured themselves rather than through a partner who holds accounts and trust. That's pretty insane and burdensome. That kind of burden is something that even money market funds couldn't meet, and is a hurdle much greater than even the most cautious and well-regulated current stable coin issuers. Currently, the OCC has granted some de novo charters to, I believe, Patigo, Paxos and Anchorage, and Cracken has a state charter. But at this time, none of them are FDIC insured, and so even then wouldn't meet this burden. Of these three, only Paxos as a stable coin issuer. So this hurdle is huge for the deposit taking stable coins and

Starting point is 00:12:09 is a burden that only the absolute largest ones could handle. Ironically, though, with the amount of reserves an FDIC insured an entity is required to keep, this would actually lower the amount of held cash from the current approaches of entities like Paxos. Needless to say, that's going to squash innovation and competition if implemented, and it would still need different approaches for on-chain tokens like Dye. This, to me, back to NLW now, seems to be one of the primary battlegrounds for any sort of legislation moving forward, so I would keep a firm eye on this issue of who is allowed to issue stable coins and what sort of protections they need to have around insurance. But like I said, the overall take on crypto Twitter is, hey, this is okay. However, that just represents passive

Starting point is 00:12:50 observers. What about people who are more directly involved? What about, for example, the stablecoin issuers themselves? Jeremy Allaire from Circle, who's one of the primary actors behind the USDC coin, wrote a 22 tweet thread, so I'm just going to give a couple of excerpts. First, he discusses the positiveness of the open tone from this report. Quote, a first principle for USDAC has been the power of adopting digital currencies built on open internet networks, aka public blockchains. Open networks and decentralization are foundational to economic and financial system progress. The report shows a real openness to the operation of dollar stable coins at global, even systemic levels of scale, yet built on public internet infrastructure. That's a breakthrough in at least the

Starting point is 00:13:29 conceptual acceptance of public chains as global economic infrastructure. Second, on the details, it shows that there's still a gap in understanding. Jeremy writes, quote, the report asks Congress to give federal supervisors of stablecoin issuers the power to require that the various entities involved in supporting the operation and use of the stable coin also be able to be supervised and held to, quote, appropriate risk management standards. Conceptually, this makes sense, but in practice is going to be really complicated. It's not really possible to oversee a decentralized network of minors or validators who are operating. infrastructure that is general purpose web platform infrastructure. Here, there is a lot of work to do, helping regulators distinguish between the public internet, TCIP, HTTP, Web3 public chains,

Starting point is 00:14:09 and the applications built on top of them. Overall, this is probably the biggest policy and regulatory disconnect as we go forward, ensuring that financial apps such as stablecoins, defy protocols, exchanges, custodial wallets, etc. can have activity-based risk-adjusted regulation built on public chains. Still, as you can tell, Jeremy's tone is not one of dire nether. it's not one of concern, it's one of clear-headed focus on what still needs to be done, but enthusiasm on the progress that we've made so far. Now, what about reactions from lawmakers? Remember, this report is literally saying, Congress, go do something,

Starting point is 00:14:45 and in the meantime, SEC, CFDC, you do your thing as well. Two of those existing regulatory bodies made comment, Gary Gensler wrote a whole letter, which honestly doesn't say all that much at all. He writes, while Congress and the public evaluate this report, we at the SEC and our sibling agency, the Commodity Futures Trading Commission, will deploy the full protections of the Federal Securities Laws and the Commodity Exchange Act to these products and arrangements where applicable. In other words, he's going to keep going after lending products based on stable coins

Starting point is 00:15:11 and looking at stable coins themselves. Michael Sue, the acting comptroller of the Office of the Comptroller of the Currency, made the old Wildcat Banking era comparison. Quote, the interagency paper identifies the risk of stable coin runs as the top concern. For the OCC, this hits close to home. The agency was created 158 years ago in response to the instability of the financial system, which was prone to frequent bank runs. There are some similarities between the banknotes of that time and the stablecoins of today.

Starting point is 00:15:37 Just as the creation of the OCC helped address the risk of bank runs then, we stand ready to work with our interagency partners to ensure the safe and sound integration of stable coins into the financial system and mitigate the risk of stablecoin runs today and into the future. Somewhere, someplace, I'm sure Nick Carter is shivering in frustration at the Wildcat banking era comparison. about lawmakers themselves, while Sherrod Brown, who heads up the Senate Banking Committee and is not an ally in any meaningful way of the crypto industry rights, we must work to ensure that any new

Starting point is 00:16:05 financial technologies are subject to all of the laws and regulations that protect investors, consumers, and markets, and that they compete on a level playing field with traditional financial institutions. The key thing here, obviously, is that all this new stuff needs to fit in the existing, aka old frameworks. Traditional financial institutions need to be protected in their rights to compete. Pat Toomey, who's all on the other side of this coin, but also on the Senate Banking Committee, writes, as the Biden administration acknowledges in its report, it is the responsibility of Congress to clarify whether and to what extent federal agencies have jurisdiction over stable coins.

Starting point is 00:16:38 While Congress works on thoughtful legislation, I hope the administration will resist the urge to stretch existing laws in an effort to expand its regulatory authority. Cynthia Lummis, Senator from Wyoming, and obviously an ally to our cause, writes, I appreciate the effort that the president's working group put into their report. I agree with many of their recommendations, including the need for congressional legislation and prudential risk management. However, proposing that only insured depository institutions may issue a stable coin is misguided and wrong. As of now, it's not even clear that FDIC insurance is available for stablecoins. There are other safer ways of achieving the same objectives.

Starting point is 00:17:14 For example, we could require 100% of stable coin reserves to be maintained off balance sheet, or require stable coin reserves to be maintained at a federal reserve bank, which is, by definition, risk-free. We already have a case study in this. Wyoming's special purpose depository institutions are already doing this. I am concerned that this recommendation will only serve to benefit big banks and will restrict innovation. We should all be able to agree that startups should have the same chances Wall Street institutions to succeed. As the report clearly states, though, Congress will and should have the final say. Tom Emmer in Congress in his response is clear that they will not give up that authority lightly. Quote, my office is still reviewing the president's working group on financial market stablecoin report, but here are some initial thoughts.

Starting point is 00:17:56 With its stablecoin report, the PWG seems to try to force Congress to choose between handing over regulatory power to bureaucrats or risking the unchecked FSOC stamp out crypto innovation. On top of that, the PWG wants stable coin issuers to register as banks. Meanwhile, Michael Sue at the OCC has halted all of the progress Brian Brooks made with the OCC special purpose bank charter, which would qualify fintechs to operate as national banks. It's more than clear that any regulatory changes to crypto must be subject to congressional oversight. So those are clearly the battle lines. You're seeing where they're drawn, and it's going to be a lot about this whole bank designation, about the insured depository institutions. But I want to close with just one more take, and that's really about a reporting angle from CNBC. Their headline was, stable coins are a compelling option for digital payments, but they need to be regulated, argues a new report from the Biden administration. Think about how many different things that summary might have said, something about the Biden administration

Starting point is 00:18:54 tamping down on unchecked stable coins or stable coins risking financial stability. But it wasn't. It was about the idea that this report says that they could be a compelling option for digital payments, but they need more regulation. That, I think, is why so many in the crypto industry are convinced that this is a pretty okay thing, maybe even better than we would have expected. So again, the takeaways from today is that, one, this report is, way better than it might have been and that many thought it would be. Two, that there should be

Starting point is 00:19:21 concerned from crypto circles about, first, remaining confusion on how open finance infrastructure works, and second, we should be concerned about bank-like rules that would heavily disadvantage upstarts in favor of incumbents. But finally, the battle is more or less going to play out in Congress, so that's the place to put our emphasis. I'm certainly more optimistic about things today than I was at this time yesterday, and I think that's a good thing. For now, guys, I appreciate you listening. This is a lot, a meaty topic to dig into. We'll be discussing it more. Check out the Discord if you're not in there yet. And until tomorrow, be safe and take care of each other. Peace.

The Breakdown - What You Need to Know About Biden's Stablecoin Report

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