The Pomp Podcast - #408: CFTC Chairman Heath Tarbert on Crypto Regulation

Episode Date: October 15, 2020

Heath Tarbert is Chairman and Chief Executive of the Commodity Futures Trading Commission (CFTC). The mission of the CFTC is to promote the integrity, resilience, and vibrancy of the U.S. derivatives markets through sound regulation. This conversation was recorded during the LA Blockchain Summit. In it, we discuss the CFTC's role in financial markets, the importance of US leadership on crypto, the Digital Commodity Exchange Act of 2020, decentralized exchanges, and central bank digital currencies.  ============================== Diginex is the first company with a cryptocurrency exchange to be listed in the US. That exchange, EQUOS, has been built to institutional standards, but is available to everyone. You can trade Bitcoin and Ethereum spot, as well as Bitcoin perpetuals, and get a 5% discount on all fees, by signing up using equos.com/pomp ============================== Harvested Financial makes options incredibly simple. They’re the first options robo advisor, where you can build and customize a personalized trading plan that gets automatically executed. Options help you speculate in capital efficient ways, diversify your holdings with market neutral strategies, and generate passive income by selling premium. https://www.harvestedfinancial.com/ ============================== Pomp writes a daily letter to over 50,000 investors about business, technology, and finance. He breaks down complex topics into easy to understand language, while sharing opinions on various aspects of each industry. You can subscribe at https://www.pompletter.com

What's up, everyone? This is Anthony Pompliano. Most of you know me as Pomp. You're listening to the Pomp Podcast, simply the best podcast out there. Let's kick this thing off. Heath Tarper is Chairman and Chief Executive of the Commodities Futures Trading Commission, better known as the CFTC. The mission of the CFTC is to promote the integrity, resilience, and vibrancy of the U.S. derivatives markets through sound regulation. This conversation was recorded during the LA Blockchain Summit. In it, we discussed the CFT's role in financial markets, the importance of US leadership on crypto, the Digital Commodity Exchange Act of 2020, decentralized exchanges, and central

bank digital currencies. I really, really enjoyed my conversation with Chairman Tarbert, and I hope you do as well. Before we get into this episode, though, I want to quickly talk about our sponsors. First up is Diginex. They're the first company with a cryptocurrency exchange that's listed in the United States. That exchange, Equos, E-Q-U-O-S, Equos, has been built to institutional standards, but it's available to everyone. You can trade Bitcoin and Ethereum spot, as well as Bitcoin perpetuals,

and get a 5% discount on all fees by signing up using Equos.com slash POP. Again, Equos.com slash POP, or you can go in the description and click on the link. Diginex and Equos is the first exchange for crypto that is listed in the United States. Go check them out. Next up is a new sponsor, Harvested Financial. They make option trading incredibly simple. They're the first options robo-advisor where you can build and customize a personalized trading plan that gets automatically executed. Options can help you speculate in a super capital efficient manner. Don't worry though about what strikes to pick are how to handle expiration. You simply sign up and choose from an easy to understand menu

to get started. You can select from model portfolios or design completely custom strategies. That's right. When you use options, you can help speculate in capital efficient ways, diversify your holdings with market neutral strategies, and generate passive income by selling premium. Best of all, the team at Harvested Financial is financial advisors who have over 20 years of options experience. They're traders that now have turned into fiduciaries. Go check out Harvested Financial because derivatives are for everyone. You can go to harvestedfinancial.com. Again, harvestedfinancial.com. Lastly, don't forget that I write a daily letter to over 80,000 investors about business technology and finance. I break down complex topics into easy

to understand language while sharing my personal opinion on various aspects of each industry. you can subscribe at Pompletter.com. Again, Pompletter.com. So go check out Equos from Diginex, Equos.com slash Pomp. You can go check out the options trading that Harvested Financial provides with their robo advisor for options trading at HarvestedFinancial.com. Or you can sign up for the letter that I write every day, Pompletter.com. All right, let's get into this episode with Chairman Tarbert. I hope you guys enjoy this one. Anthony Pompliano is a partner at Morgan Creek Digital. All opinions expressed by Pomp or his guests on this podcast are solely their opinions and do not reflect the opinions of Morgan Creek Digital or Morgan Creek Capital

Management. You should not treat any opinion expressed by Pomp as a specific inducement to make a particular investment or follow a particular strategy, but only as an expression of his opinion. This podcast is for informational purposes only. Hello, everyone. Welcome to LA Blockchain Summit. it. I am incredibly excited to have Chairman Tarbert here with me. Thank you so much for joining and doing this. My pleasure. It's great to be here at LA Blockchain. Absolutely. You've got a very kind of interesting and storied career across finance and business. Maybe just let's start with your background and kind of how you get to the chairmanship of the CFTC. And then if you can also mention a little bit about just the role the CFTC plays in the

financial markets, for those that don't know that. Yeah, well, thank you. And of course, it's great to be here with you, Pop. I mean, you are a leader in this field. Many of us at the CFTC listen to your podcast. So it's an incredible pleasure for me to be here. So how did I end up here? It's a great question. It was somewhat of a circuitous route. So like most people in Washington, my background is a mixture of law and public service, and also a deep finance background. And so I've served in a variety of different functions. I've actually served in all three branches of the U.S. government, was a clerk at the federal judiciary, both at the U.S. Court of Appeals and the U.S. Supreme Court.

I had worked in the White House and a couple of administrations ago, had worked on the Senate Banking Committee during the Dodd-Frank Act discussions, and then ultimately found myself a couple of years ago as Assistant Secretary of the Treasury with the international portfolio, but focusing on regulation, but also technology. And then I was invited and nominated, ultimately confirmed by the Senate to be CFTC chairman. So it is a great pleasure because what I tell many people is that the CFTC is the most important regulator most Americans have never heard of. But we regulate the derivatives markets, but the derivatives markets are so important because they touch so many other underlying markets.

And in fact, 10 years ago, it would be very odd to have the derivatives regulator talking to folks in LA and Silicon Valley and elsewhere, but it's because the definition of commodity includes so many things. And now Bitcoin, Ether, some of the cryptocurrencies are under the purview of the CFTC, but so is gold, so is wheat, so is corn,

so are financial contracts, interest rates. So there's so many things that the derivatives markets track. They basically enable the U.S. economy, but quite frankly, the foreign economy as a whole, to work because they're a place where people can lay off risk and also get price discovery. So many of the things, even cattle, for example, sometimes the price of cattle is actually set in the derivatives markets. And people say, well, the futures contract on cattle says it should be X amount per head. And therefore, this is what the price should be in the real market. And so that's the critical role that the derivatives markets play. Yeah, it really is incredible, just kind of the purview that you guys have. And also, I think the CFTC for the last number of years has been very forward thinking in terms of how they've thought about the role of cryptocurrency and digital assets, not only today, but also kind of where we're going, which I think has served a very big

beneficiary being to the community. Let's talk a little bit about central bank digital currencies. I think everyone realizes that the United States wants to be a technology leader, wants to be a leader in the global financial system. And one of these topics, obviously, is this central bank digital currency that we're seeing China and other places start to either play around with the idea and kind of research it or actually move towards implementation. Maybe from your seat, you can give us a sense of just, is a central bank digital currency

going to be the standard for nation states around the world? Is the U.S. going to play a part in that and kind of how you see that developing here in the United States and then also globally? Yeah, it's a great question, Paul. And really where I stand is I want to see the United States lead in blockchain technology. For me, it's not necessarily something that the government needs to be and be involved with directly, but there could be benefits to that as well. But I really want to see the United States continue to support innovation in this space, because I do see other countries coming in and starting to potentially take the lead. And I think it's really important that a democracy such as ours continues to be on the forefront of this for the future of the global

financial system. For central bank currencies in particular, I think ultimately I'm going to obviously defer to my fellow colleagues at the Federal Reserve. But what I will say is that I think it is critical that the U.S. dollar remain the world's reserve currency. Certainly, it should remain the world's reserve currency based on the fundamental impact of the dollar. And I would hate to see a situation where people are no longer using the U.S. dollar, not because there's been major macroeconomic changes, but rather that the U.S. has fallen behind in technology. So I know the Federal Reserve and other central banks around the world are having discussions about central bank digital currencies. And to some extent, there's kind of a metaphysical question

as to, well, should it actually be a digital currency on a blockchain, or can we simply speed up our payment systems? But the bottom line is that I think everyone agrees that our payment mechanisms in the United States and in many countries around the world have not kept pace with technology. And so I think we definitely want to put a lot of thought and emphasis into the debate, the discussion. And regardless if we go to an actual central bank digital currency, or we just go to a more sophisticated payment system, I agree that something has to be done. Yeah, that's a really interesting perspective of balancing, is it actually going to be a digital currency backed by a central bank or just faster payments? Obviously, I think from

the crypto community perspective, they think government is really, really slow and bureaucratic and kind of very intentional with the way that they move. If you then ask somebody in the government or a large corporation, they'd be like, oh my God, crypto moves at light speed. And so there's almost this inherent tension between kind of not messing things up when you're working with the government or kind of making decisions that affect entire economies and populations. And in the crypto world, I think there's kind of this iterative technology driven,

how do we just kind of experiment and innovate as fast as we can? And how do you and your organization kind of, one, stay up to date just on kind of the fast-moving crypto world and really understand, like, here's what's happening? And then also any systems or processes you guys have built in terms of being able to just kind of synthesize all the information so you make sure that you've got everything you need to actually make the decisions that you guys look to make on kind of a quarterly or annual basis? Yeah.

So first of all, I would be the first to agree with you that if innovation is unlikely to come from the government. Can government be innovators? Yes. But in an area like blockchain, an area that is really focused on algorithms, on mathematics, on continuing to develop technology and ideas, just as it's always been in our country, I think the private sector is the ultimate generator of great types of innovation. So I want to continue to do that. So I see my role as a regulator as not so much innovating ourselves, but we want to be innovative for a regulator but not necessarily innovate for the community but we've got to keep up. The good news is that the CFTC when I came into the organization it was clear we were at a crossroad. All of this new

technology was coming to the forefront. We were putting the financial crisis and the Dodd-Frank reforms behind us and it was a good opportunity for us to revisit our mission. So we came up with a new mission statement and the entire agency voted on it. Everyone in our regional offices and it's to promote the integrity, resilience, and vibrancy of U.S. derivatives markets through sound regulation. Now, all of those characteristics are important, integrity, resilience, and vibrancy. We'll talk about those probably a little later. But of those, vibrancy is the one that gets at the innovation, gets at the innovation point, that we don't want our markets to be stale. We want them to be continuing to develop and be innovative. We also chose our four core values,

And among them is forward thinking, that we always want to stay ahead of the curve. So then becomes the question, well, how do you do that? Particularly, how do you do that in a federal government agency that is required by law to come up with a five-year plan, almost like the Soviet Union, right? And so we do have a very different culture than Silicon Valley. I think a couple of keys to that. Number one is education, education, education. And so we've created LabCFTC a few years ago. When I came in, we actually elevated LabCFTC, our innovation arm, to report directly to the chairman. And it is essentially a liaison between the regulator and those that are being regulated, as well as those that are developing new technologies in Silicon Valley, elsewhere in California, and all over the world.

And so we want to learn as much as we can, and we want to listen to the blockchain community. And at the same time, we hope the blockchain community would listen to us to learn a little bit about our regulatory framework. So there truly is a meeting of the minds. But in terms of education, just during the pandemic, our lab CFTC has held something like 60 different courses. And I myself have taken tutorials. So for a series of six to eight weeks, every Wednesday and Thursday night, I would sit

down and I have a course on various types of technologies. I'd learn the Shaw 256, how the algorithm works, really get into the details because I feel like, look, at the end of the day, this is under my purview and I owe it to a blockchain community to at least understand it to a level that I can make informed policy decisions. And then the final thing I would say is in Washington, there's a mantra, personnel is policy. It all comes down to the people in many cases. So we've looked and I've tried to hire people that come from the tech community. So our new head of LabCFTC, she came from a Silicon

Valley-based company. Two, one person in my office, as well as one of our division directors, came from a cryptocurrency exchange. And then finally, we just hired one of the few PhD Ivy league economists in the world with a background in crypto. So it's really important that we have those people in the agency. And so we're never going to have the kind of innovative culture that a Silicon Valley-based firm has, for example. We can at least have people that are familiar with the technology that want to learn and that are willing to take risks. Yeah. And in the lab, CFTC, I think, is a great example where as a regulatory body and a government organization, you know, understanding where can we play and kind of help to encourage innovation

and experimentation, but also at the same time, really empower the teams, I think, to understand here's what you should be thinking about, here's what you should not be and kind of here's the boundaries to play with. And I think is obviously just in the success of that initiative, pretty obvious there. Previously, you've talked about kind of the demand for Bitcoin futures or other types of derivatives. And I think the way that you've talked about it is Bitcoin futures demand has been lower than other commodity type futures mechanisms. Maybe talk a little bit about why do you think that is? Is that something that is just a nature of it's small and it takes time to kind of build up demand? And then how the CFTC sees their role? Is your job to help encourage and

grow the demand? Is it to just simply make sure that people are doing the right things? How do you think about the demand and kind of the day-to-day responsibilities that you guys have? Yeah. So I'll take the last part of the question first, which is what is our role? And so we don't pick winners and losers. Our job is to create a structure whereby derivatives can be traded in a market that allows for price discovery and for hedging purposes. And it goes back really to those three things that I mentioned, integrity, resilience, vibrancy. And I would put a premium on the first one. That's why we put it first, integrity.

So if users around the country and throughout the world come to one of our markets, they know that the bid and offers are good. They know that they represent actual supply and demand in the market, and there's no fraud going on. There's no pumping and dumping. That's all the kinds of stuff that we look out for. And so our job is to sort of be the umpire, to create the ballpark, but allow the various products to go and to succeed based on their own merits.

So getting back to the question, well, volumes are down. So one of the things you mentioned is exactly right. Derivatives actually started trading in the United States, I think back in 1848 or something, right? And so many of the contracts that we even have today, things like oil futures and other contracts, the contracts themselves have been virtually the same in some cases for 30 years. There's a tremendous amount of just length of time that they've been trading, and demand obviously didn't start. The trading volumes didn't start at what they are today. They obviously started and evolved since then. The other aspect, though, that so time will tell, I think, and so I do expect the volumes to grow in the years ahead. But the other aspect of it has to do with the industry itself.

As I mentioned before, really, our derivatives markets serve two purposes. First, they allow hedging, and then they also create price discovery, where people can rely, in some cases, on derivatives prices to inform their decisions in the actual underlying markets. Right now, there's a real question as to who will actually purchase Ether or Bitcoin contracts for purposes of hedging. Right now, the only people that we're seeing in these markets are speculators, meaning they actually don't have an underlying risk that they're trying to lay off. They're just investing in Bitcoin effectively or Ether, just as they would be if they were buying it on the cash exchange. Now, there are people like miners, for example, who are naturally short Bitcoin, for example. In other words, they know they're going to get Bitcoin at a certain amount, so they may

hedge their position now so they can guarantee ultimately what that price would be in US dollars or some other currency. But we're not seeing at this point a underlying market for long people that would be long in Bitcoin in the futures markets. Now, that could all change to the extent that we start to see Bitcoin, Ether, and other digital currencies being used for commerce. So I think that's going to be the key. It's going to be the length of time, but also the extent to which digital assets and cryptocurrencies begin being used by the real economy. And there's people that say, I need to go to the futures market to hedge it. The other thing we're seeing, of course, is right now the

price discovery is really in the cash exchanges. People are not looking to the futures markets for actual prices, but that could change in time as well. But that's the lay of the land at present. Got it. And so one of the things that there is a lot of demand for right now is kind of this DeFi or decentralized mechanisms, platforms, products, etc. Talk a little bit about these decentralized exchanges. I think that the kind of Bitcoin and crypto community sees them as a natural kind of end state, right? And that's where they want to kind of evolve to. Obviously, from a regulation standpoint, it becomes much harder to regulate something that doesn't have somebody behind it or ownership. And so how do you guys see kind of the current state of

decentralized exchanges? And then how does the regulatory environment either evolve or kind of work with something that ends up looking very different than the centralized exchanges that we have today in the traditional markets? Right. Well, first of all, I will say that I find it all very fascinating. And so the idea of DeFi and the ability to sort of essentially create not only address the trust issue, which I think some of the first generation cryptocurrencies have dealt with, but then taking it a step farther and actually having an autonomous system that runs the entire thing is very fascinating. And of course, it arguably takes away human error. So there are a number of potential benefits to that. The questions that

we would have to ask is that over a long period of time, the Commodity Exchange Act itself that created our derivatives exchanges was first passed in 1936. And it's been changed, you know, continued to evolve ever since then. And so when we look at an exchange, we have to make sure that it meets a number of our core principles, core principles that are there to ensure the integrity, resilience, and also allow for the vibrancy. And so integrity is an important one. For example, We want to make sure that there's no glitches, no bugs, that there's no way to do a 51% attack or something like that, or other sorts of things that may even come into play in the DeFi space.

There's the question of anti-money laundering, people being able to get on the system. So all of those things we'd have to think about. Resilience, the second attribute I mentioned. We normally do system safeguard exams on our clearinghouses, on our exchanges. And so we would want to know that's the case there as well. And then we'd also have to think about the financial side, because for every exchange, there's also a clearinghouse. There's a way that payments are facilitated.

So we would have to think long and hard about that as well. So I think it's something that we would continue to study. And as it evolves, my hope would be that our agency, our statute, and our regulations would evolve with it. Got it. And so as you kind of look at a lot of this evolution, I think there's a lot of regulatory bodies, individuals, and then also from the crypto community, just various ideas that continue to kind of surface. And some of those ideas are around for very short periods of time. Somebody kind of critiques them and says, maybe that's not the greatest idea, whether it's a product to build or regulation to put forward.

But some of them do have legs to them. And one of the most recent pieces of legislation is called the Digital Commodity Exchange Act of 2020. And the idea here is to basically create a new type of regulatory governing body. Talk a little bit about this piece of legislation. And although maybe it isn't yet here, this is what we're going to do. It does have some pretty interesting ideas, along with just being recent in terms of being put forward. Well, Pomp, when I talk to the blockchain community and the crypto community, there are two things that I think I always hear.

Number one, there's a lack of clarity. There's a lack of clarity as to how these things should be regulated. And the first threshold is, is it a security or is it a commodity? Very different. There are two diversion paths in the road. One leads to the SEC and a very different type of regulation. The other, if it's a commodity, leads into airspace, which is a more principles-based approach, and I think in some cases is favored by many people in the crypto community.

So that's one thing. And so we need clarity at some point. We need a lot more clarity so people, as they're designing products, as they're experimenting with products, can really kind of understand how they will be regulated in the end, because it could very well affect the value as well as how it performs and how it's set up. The second big issue I hear is that because there's the uncertainty, overlaying that is the fact that there's complete fragmentation where there are 50 states. So if you're a cryptocurrency exchange now, you have to deal with every single jurisdiction, not only in the United States, but abroad, but certainly in the US, where you must have to register, there are requirements. And so the founding fathers, going way back, talking about innovation, well, I think 1787 was a great year for innovation because it was the year of our Constitution. But one of the things the founding fathers, I think, got right is federalism and the idea that if something is in interstate commerce, it should be regulated federally so we could have a national economy.

And then other things were left to the states. Well, I can't think of anything more emblematic of interstate commerce than blockchain. And so if we're able to have a single federal regulatory regime, that will create what's called preemption also in the Constitution, which basically allows federal law to be supreme, but you have one law to comply with. And therefore, you don't have to worry about the patchwork of 50 different states. And so it may very well be that for some areas, certain consumer protections, it makes sense to have the states involved and the states play an important role. But for other aspects, it may make far more sense to have a single federal regime that will allow innovation, provide clarity, and then also allow this to grow in a way that it can in other countries because they don't have the fragmentation. Yeah, that's really, really fascinating way to look at it. I know that for myself, the team at LA Blockchain Summit, and just people around the Bitcoin and crypto community, they don't really feel or they don't get the opportunity to talk to you very often, right? And it's because you've got a lot of other things going on. If you had the chance to kind of sit down with each person individually with kind of one resounding message, what would that like call to action or that message be? You know, you lead one of the most important organizations and probably the most forward thinking in terms of this stuff.

Just is there one kind of single message that people can take away and kind of hear directly from you that you think would be important? I would say our door is open. Our door is open. come see us, come visit with us. I think you'll find for a federal agency, we are eager to learn and we want to make a difference. And we want to provide sound regulation, as I mentioned, but we also understand that innovation also necessitates some flexibility. And so our door is open. We're always listening and we're always experimenting. And our goal is to ensure that our

derivatives markets, again, have the integrity, have the resilience, but are also vibrant. That's awesome and amazing to hear because I think you will get plenty of people knocking on that door now that they've heard that message. Chairman Tarver, thank you so much for taking the time to do this. I know that people are really excited to hear from you and I hope people learn something today. So thanks so much for your time. My pleasure. And thanks again. LA Blockchain Summit is amazing and I'm honored to be here.