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The Daily Hodl
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Harvard Fellow: Congress Needs to Fix Crypto ‘Gap’, Bitcoin Creates ‘New Financial Intermediaries Less Accountable Than Big Banks’

by Daily Hodl Staff
March 20, 2019
in Regulators

Timothy Massad, a senior fellow at the John F. Kennedy School of Government at Harvard and former chairman of the Commodity Futures Trading Commission, says US regulators have a big hole on their hands, lying somewhere between the US Securities Exchange Commission and the Commodity Futures Trading Commission. And Bitcoin has slid right down the middle.

In a new report published by the Brookings Institute, entitled “It’s Time to Strengthen the Regulation of Crypto-Assets,” Massad argues that neither the SEC nor the CFTC, which do not coordinate, has sufficient jurisdiction to tackle Bitcoin’s regulatory challenges.

The fundamental structure of the agencies are a prescription for a litany of loops, holes and troubles involving crypto assets. Massad characterizes the cryptosphere as rife with the following pitfalls.

  • Fraud
  • Illicit payments
  • Weak investor protections
  • Cyber attacks
  • Collateral damage to the financial system

In addition to a cracked foundation, the lack of clear guidelines is breeding the rise of a new kind of crypto intermediary: the unregulated one.

“The hype surrounding Bitcoin and other crypto-assets has contributed to regulatory distraction. Bitcoin’s creators promised it would solve the ‘trust problem’ and reduce our reliance on centralized financial intermediaries.

However, it has not reduced our reliance on financial intermediaries or eroded the power of our largest institutions. Indeed, crypto-assets have created new financial intermediaries that are less accountable than the big banks.”

Massad cites conflicts of interest as the de facto way to run a crypto business where investors have little-to-no protections and fraud allegations pour in. Crypto exchanges, he adds, “may operate without sufficient assets to cover customer claims.”

The recent QuadrigaCX debacle in Canada has revealed this exact scenario as it devolves into a full-fledged John Grisham-style mystery with a trail of empty crypto wallet addresses, missing assets, lost private keys, the deceased founder, an unsettling timeline of events, forensics experts, court orders and disgruntled investors hoping to recover their funds.

Says Massad,

It is like fractional reserve banking without the regulatory framework – or insurance – that protects depositors. There are no rules regarding how trades are executed.

“Crypto exchanges are not required to have systems to prevent fraud and manipulation, nor are there rules to prevent or minimize conflicts of interest.

Crypto exchanges can engage in proprietary trading against their customers, something the New York Stock Exchange cannot do. Regulations to minimize operational risk and ensure system safeguards are needed, just as with securities and derivatives intermediaries.”

As for the the CFTC, which is tasked with regulating derivatives such as futures and swaps, it can’t regulate the actual buying and selling of Bitcoin itself. Meanwhile, the SEC can only regulate securities – i.e., not Bitcoin.

Says Massad it’s time to give the agencies more power.

“Congress needs to fix this by creating regulatory oversight of the cash market for crypto-assets, and the trading platforms and other intermediaries that operate in that market. Either the SEC or the CFTC is competent to regulate this area if given the power; it would be inefficient to create a new agency. I recommend making the SEC the lead agency.”

The report details recommendations for building a comprehensive regulatory framework that will impact all areas of crypto-related activities.

Summary of Key Recommendations

  • Congress should pass legislation providing the SEC (or alternatively the CFTC) with the authority to regulate the offering, distribution and trading of crypto assets, including the regulation of trading platforms, custodians (or wallets), brokers and advisors.
  • Congress should increase the resources of both the SEC and the CFTC to handle their new tasks.
  • Legislation should address core principles pertaining to protection of customer assets, governance standards, conflicts of interest, recording keeping, reporting and disclosures, execution and settlement of transactions, transparency requirements, prevention of fraud and abusive practices, risk management, disaster recovery, financial resources and AML/KYC requirements.
  • Congress should give regulators the authority to determine whether offshore crypto platforms should be required to comply with US standards.
  • Legislation should distinguish between centralized and decentralized platforms.

You can download the full report here.

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Disclaimer: Opinions expressed at The Daily Hodl are not investment advice. Investors should do their due diligence before making any high-risk investments in Bitcoin, cryptocurrency or digital assets. Please be advised that your transfers and trades are at your own risk, and any loses you may incur are your responsibility. The Daily Hodl does not recommend the buying or selling of any cryptocurrencies or digital assets, nor is The Daily Hodl an investment advisor. Please note that The Daily Hodl participates in affiliate marketing.
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