[House Hearing, 118 Congress]
[From the U.S. Government Publishing Office]
DAZED AND CONFUSED:
BREAKING DOWN THE SEC'S POLITICIZED
APPROACH TO DIGITAL ASSETS
=======================================================================
HEARING
BEFORE THE
SUBCOMMITTEE ON DIGITAL ASSETS,
FINANCIAL TECHNOLOGY,
AND INCLUSION
OF THE
COMMITTEE ON FINANCIAL SERVICES
U.S. HOUSE OF REPRESENTATIVES
ONE HUNDRED EIGHTEENTH CONGRESS
SECOND SESSION
__________
SEPTEMBER 18, 2024
__________
Serial No. 118-109
Printed for the use of the Committee on Financial Services
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
www.govinfo.gov
__________
U.S. GOVERNMENT PUBLISHING OFFICE
57-172 PDF WASHINGTON : 2026
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HOUSE COMMITTEE ON FINANCIAL SERVICES
PATRICK McHENRY, North Carolina, Chairman
FRENCH HILL, Arkansas, Vice MAXINE WATERS, California, Ranking
Chairman Member
FRANK D. LUCAS, Oklahoma SYLVIA R. GARCIA, Texas, Vice
PETE SESSIONS, Texas Ranking Member
BILL POSEY, Florida NYDIA M. VELAZQUEZ, New York
BLAINE LUETKEMEYER, Missouri BRAD SHERMAN, California
BILL HUIZENGA, Michigan GREGORY W. MEEKS, New York
ANN WAGNER, Missouri DAVID SCOTT, Georgia
ANDY BARR, Kentucky STEPHEN F. LYNCH, Massachusetts
ROGER WILLIAMS, Texas AL GREEN, Texas
TOM EMMER, Minnesota EMANUEL CLEAVER, Missouri
BARRY LOUDERMILK, Georgia JAMES A. HIMES, Connecticut
ALEXANDER X. MOONEY, West Virginia BILL FOSTER, Illinois
WARREN DAVIDSON, Ohio JOYCE BEATTY, Ohio
JOHN W. ROSE, Tennessee JUAN VARGAS, California
BRYAN STEIL, Wisconsin JOSH GOTTHEIMER, New Jersey
WILLIAM R. TIMMONS, IV, South VICENTE GONZALEZ, Texas
Carolina SEAN CASTEN, Illinois
RALPH NORMAN, South Carolina AYANNA PRESSLEY, Massachusetts
DANIEL MEUSER, Pennsylvania RASHIDA TLAIB, Michigan
SCOTT FITZGERALD, Wisconsin RITCHIE TORRES, New York
ANDREW R. GARBARINO, New York NIKEMA WILLIAMS, Georgia
YOUNG KIM, California WILEY NICKEL, North Carolina
BYRON DONALDS, Florida BRITTANY PETTERSEN, Colorado
MIKE FLOOD, Nebraska
MICHAEL LAWLER, New York
ZACHARY NUNN, Iowa
MONICA DE LA CRUZ, Texas
ERIN HOUCHIN, Indiana
ANDREW OGLES, Tennessee
Kim Betz, Staff Director
------
SUBCOMMITTEE ON DIGITAL ASSETS, FINANCIAL TECHNOLOGY AND INCLUSION
FRENCH HILL, Arkansas, Chairman
WARREN DAVIDSON, Ohio, Vice STEPHEN F. LYNCH, Massachusetts,
Chairman Ranking Member
FRANK D. LUCAS, Oklahoma JOSH GOTTHEIMER, New Jersey, Vice
TOM EMMER, Minnesota Ranking Member
JOHN W. ROSE, Tennessee BILL FOSTER, Illinois
BRYAN STEIL, Wisconsin RITCHIE TORRES, New York
WILLIAM R. TIMMONS, IV, South BRAD SHERMAN, California
Carolina AL GREEN, Texas
BYRON DONALDS, Florida SEAN CASTEN, Illinois
MIKE FLOOD, Nebraska WILEY NICKEL, North Carolina
ERIN HOUCHIN, Indiana
C O N T E N T S
----------
Wednesday, September 18, 2024
OPENING STATEMENTS
Page
Hon. French Hill, Chairman of the Subcommittee on Digital Assets,
Financial Technology and Inclusion, a U.S. Representative from
Arkansas....................................................... 1
Hon. Stephen F. Lynch, Ranking Member of the Subcommittee on
Digital Assets, Financial Technology and Inclusion, a U.S.
Representative from Massachusetts.............................. 3
STATEMENTS
Hon. Maxine Waters, Ranking Member of the Financial Services
Committee, a U.S. Representative from California............... 91
WITNESSES
Mr. Michael Liftik, Partner, Quinn Emanuel Urquhart & Sullivan,
LLP............................................................ 4
Prepared Statement........................................... 7
Hon. Orable Dan Gallagher, Chief Legal, Compliance, and Corporate
Affairs Officer, Robinhood Markets, Inc........................ 18
Prepared Statement........................................... 20
Mr. Teddy Fusaro, President, Bitwise Asset Management............ 28
Prepared Statement........................................... 30
Ms. Jennifer Schulp, Director of Financial Regulation Studies,
Center for Monetary and Financial Alternatives, Cato Institute. 37
Prepared Statement........................................... 39
Mr. Lee Reiners, Lecturing Fellow, Duke University............... 54
Prepared Statement........................................... 56
APPENDIX
ADDITIONAL MATERIAL SUBMITTED FOR THE RECORD
Hon. French Hill:
All the President's Legal Defeats............................ 116
Paradigm..................................................... 121
Hon. Maxine Waters:
Public Citizen............................................... 152
RESPONSES TO QUESTIONS FOR THE RECORD
Written responses to questions for the record from Representative
Maxine Waters
Hon. Orable Dan Gallagher.................................... 157
Mr. Teddy Fusaro............................................. 159
Ms. Jennifer Schulp.......................................... 160
LEGISLATION
H.R. 5741, the "Uniform Treatment of Custodial Assets Act"....... 161
H.R.------, the "New Frontiers in Technology (NFT) Act".......... 165
H.R.------, the "Securing Innovation in Financial Regulation Act" 172
H.R.------, the "Bridging Regulation and Innovation for Digital
Global and Electronic (BRIDGE) Digital Assets Act"............. 183
H.R.------, To codify the special purpose broker dealer, and for
other purposes................................................. 191
DAZED AND CONFUSED:
BREAKING DOWN THE SEC'S POLITICIZED
APPROACH TO DIGITAL ASSETS
----------
Wednesday, September 18, 2024
U.S. House of Representatives,
Subcommittee on Digital Assets, Financial
Technology and Inclusion,
Committee on Financial Services,
Washington, DC.
The committee met, pursuant to notice, at 10:02 a.m., in
room 2128, Rayburn House Office Building, Hon. French Hill
[chairman of the subcommittee] presiding.
Present: Representatives Hill, Lucas, Davidson, Rose,
Steil, Timmons, Lynch, Waters, Foster, Gottheimer, Torres,
Sherman, Green, Casten, and Nickel.
Chairman Hill. To the chattering classes, this is your 10-
second warning.
The Subcommittee on Digital Assets, Financial Technology
and Inclusion will come to order.
Without objection, the chair is authorized to declare a
recess of the committee at any time.
This hearing is entitled: ``Dazed and Confused: Breaking
Down the SEC's Politicized Approach to Digital Assets.''
Without objection, all members will have 5 legislative days
within which to submit extraneous materials to the chair for
inclusion in the record.
I now recognize myself for 5 minutes to give an opening
statement.
OPENING STATEMENT OF HON. FRENCH HILL, CHAIRMAN OF THE
SUBCOMMITTEE ON DIGITAL ASSETS, FINANCIAL TECHNOLOGY AND
INCLUSION, A U.S. REPRESENTATIVE FROM ARKANSAS
Welcome to this important end to our digital assets work
for this Congress and the 118th session of the Congress. I have
been privileged to lead our Digital Assets Subcommittee, which
was established only last year but has already made history
legislatively with the clarity for payment, stablecoins,
legislation, and our fit-for-purpose regulatory framework bill,
the Financial Innovation and Technology for the 21st Century
Act (FIT21). Despite this legislative progress on a bipartisan
basis, we have been troubled by the fact that the Securities
and Exchange Commission (SEC), as chaired by Chairman Gensler,
has instead chosen to front-end the work of Congress and insert
politics instead of being an independent regulator. He even
took the unusual step of releasing his own statement, opposing
FIT21 on the morning of the House vote, despite refusing to
provide technical assistance as requested by the committee,
and, I might add, also in contrast to the Biden White House,
which did not issue a veto statement on that bill. With over 70
Democrats voting ``yes'' on the bill just hours later, it is
clear that Chairman Gensler is stuck on an island of his own
making.
The Commission has a statutory mandate to protect
investors, maintain fair, orderly and efficient markets, and
facilitate capital formation instead of providing legal clarity
so that those who want to follow the law can do so. The Gensler
SEC's approach has injected even more confusion and uncertainty
into the markets and for market participants and consumers
alike. How is this protecting the public? Whether it is through
politicized enforcement actions or by refusing to share its
analysis around the legal classification of digital assets, the
SEC has created a lose-lose-lose situation for consumers,
founders, investors, and everyone in between.
On one hand, the Agency has pursued enforcement cases
against companies for activities that were not clearly defined
as securities violations, leaving investors and businesses in a
heightened state of uncertainty. On the other, the SEC's
proposed rulemakings and guidance have often been overly broad
and difficult and frequently impossible to implement for
digital market participants. At best, these rules fail to
provide any clarity on how to comply with the law, while
imposing significant compliance burdens on digital asset firms
that do not make a lot of sense, in other words, not fit for
purpose. At worst, they represent a de facto ban on the use of
digital assets and blockchain technology in the United States.
Nowhere has the SEC's prejudice against digital assets been
more apparent than in the Staff Accounting Bulletin 121, which
upends decades of legal precedent in the custody business and
creates an impermeable hurdle for those financial institutions
seeking to provide digital asset custody services for their
clients, particularly banks and bank trust departments that
have the authority, the talent, the compliance procedures to do
just that. This kind of politicized, unworkable, and
inconsistent approach by Chairman Gensler has made it
challenging for business to operate in the United States, and
has driven many in the blockchain community not to write more
letters of complaint to the SEC, but to buy plane tickets, make
hotel reservations, and make lease decisions for Singapore, the
United Kingdom, and the EU. One report estimates that the U.S.
has lost around 14 percent of blockchain developers since 2018.
Even the SEC's approval of the exchange-traded product for
Bitcoin and Ether earlier this year only happened because
Chairman Gensler tried to overplay his hand but could no longer
explain to the courts while the SEC approved a Bitcoins Future
Exchange-Traded Fund (ETF) but not proposed spot Bitcoin
products. While this was a positive development, it took
countless hours of manpower, millions of dollars in legal fees,
and a full SEC faceplant in the D.C. Court of Appeals to
achieve. Important questions still remain about the precedent
that sets for future Commissions to follow.
I would like to close by reiterating that the pro-FIT21 and
pro-regulatory framework are views of the majority, and the
bipartisanship does not mean we are against the SEC going
against bad actors or modernizing existing rules to incorporate
digital asset securities and other unique instruments. We are
against SEC enforcement abuse and making it hard for legitimate
actors who are trying to follow the rules to do a fine job and
bring innovation and technology to our markets. I want to thank
our witnesses for being with us today and look forward to your
testimony.
I now recognize the ranking member of the Subcommittee on
Digital Assets, Financial Technology Inclusion, the gentleman
from Massachusetts, Mr. Lynch, for 4 minutes for an opening
statement. Mr. Lynch.
OPENING STATEMENT OF HON. STEPHEN F. LYNCH, RANKING MEMBER OF
THE SUBCOMMITTEE ON DIGITAL ASSETS, FINANCIAL TECHNOLOGY AND
INCLUSION, A U.S. REPRESENTATIVE FROM MASSACHUSETTS
Mr. Lynch. Thank you, Mr. Chairman. I want to thank you for
holding this hearing in the first place, and thank you to our
witnesses for your willingness to help this committee with its
work.
The title of this hearing appears to preface another
attempt by my colleagues to attack the SEC for its actions
taken against digital asset companies. Industry advocates
continue to push a false narrative that the SEC is politicizing
the regulatory framework by picking winners and losers, and
unfairly targeting crypto firms. I find this deeply ironic,
given that $119 million was used by the crypto corporations to
contribute and influence Federal elections just this year
alone. If anyone is playing politics, it is the crypto
industry, and it appears they are playing it well. As I have
said many times since this subcommittee was established, this
country has a longstanding history of robust securities laws
designed to protect investors and keep our markets stable.
Unfortunately for the crypto world, the crypto companies, these
laws are not conducive to their business models, which is why
they continue this crusade to remain unregulated.
We have clear rules that investment companies, including
exchanges, brokers-dealers, and clearing agencies, must follow
to avoid conflicts of interest and to protect investors and
consumers. The digital assets industry continues to push for
exemptions to all those legal obligations and bring lawsuit
after lawsuit against the SEC. A string of legal victories
through the courts validates the SEC's conclusions and proves
that these litigious efforts are fruitless. The SEC has
consistently won enforcement cases against companies like
Telegram, Kik, BlockFi, and Liberty, with judges ruling that
certain digital assets were indeed securities.
While most of the digital assets space has collapsed, it is
well known what remains is used to facilitate illicit finance
or illegal activity. The lack of appropriate oversight due to
noncompliance has made this space a safe haven for bad actors.
Companies do not get to pick and choose which rules they
follow, and certainly should not be allowed to design laws that
provide them with favorable outcomes. By enacting legislation
like the FIT21 Act, which I oppose strenuously, which would
open the floodgates to mass consumer investor harm, this
committee would be the one picking winners and losers. We
should not be undermining the good work of the SEC by moving
forward with legislation that makes it easier for crypto
criminals to do harm. Even Donald Trump is now championing an
ill-conceived crypto venture.
Just weeks before the election, he has already pledged to
make the U.S. the crypto capital of the planet via light-touch
regulation and removing the SEC chair. The crypto industry has
been responsible for insolvency crises, mishandled user funds,
rampant market manipulation, rug pulls, hacks, and turmoil in
the market and these are dangers that investors will continue
to be exposed to if we allow this industry to continue to go
unchecked. Despite the clear dangers, the army of crypto
lobbyists remains strong in their mission to achieve favorable
rules for the market.
I am also disappointed to see legislation attached to this
hearing that would prohibit regulators from requiring financial
institutions to record crypto assets held in custody as
liabilities on their balance sheets. This bill attempts to
codify opposition to nonbinding staff guidance and goes far too
far. According to a report by the Federal Reserve, in 2023,
only 7 percent of American adults bought or held crypto as an
investment. We have spent almost 2 years arguing over a small
sliver of our financial sector, when we could have been
exploring ways technology can improve access to financial
services. I urge my colleagues to refrain from being a
mouthpiece for the crypto industry and attacking regulators
that are simply enforcing the law.
Thank you, Mr. Chairman, and I yield. One minute to----
Chairman Hill. She is not here.
Mr. Lynch. Okay. So I yield back.
Chairman Hill. Thank you. The gentleman yields back.
We welcome the testimony today of Michael Liftik: Mr.
Liftik is a partner with Quinn Emanuel Urquhart & Sullivan,
where he co-chairs the SEC enforcement practice, and co-
managing partner of the Washington, DC. Office; the Honorable
Dan Gallagher: Mr. Gallagher is chief legal, compliance and
corporate affairs officer at Robinhood Markets, and a former
SEC commissioner; Teddy Fusaro: Mr. Fusaro was the president of
the Bitwise Asset Management; Jennifer Schulp: Ms. Schulp is
the director of financial regulatory studies at Cato and Lee
Reiners: Mr. Reiners is a lecturer at Duke Financial Economics
Center and a lecturing fellow at Duke Law School.
We are so pleased to have all of you here, and we will
start out with you, Mr. Liftik. You are recognized for 5
minutes.
STATEMENT OF MICHAEL LIFTIK, PARTNER, QUINN EMANUEL URQUHART &
SULLIVAN, LLP
Mr. Liftik. Chairman Hill, Ranking Member Lynch, and
members of the subcommittee, thank you for inviting me to speak
today. My name is Michael Liftik. I am a partner at Quinn
Emanuel Urquhart & Sullivan, where I co-chair our SEC
enforcement practice and our blockchain practice. Before
joining Quinn Emanuel in 2017, I spent nearly a decade at the
SEC in various roles, starting as a line enforcement attorney,
then as counsel to the enforcement director, and then as Chair
Mary Jo White's senior adviser on enforcement. I concluded my
tenure at the Agency as the deputy chief of staff, working on
all aspects of the SEC's mandate. I have worked at all levels
of the Agency and have seen the issues from many angles. I have
been on the front lines of digital asset regulation since 2013,
when I spearheaded the Agency's first interagency group focused
on understanding crypto and blockchain technology. In private
practice, I have represented many clients in the blockchain
industry, from layer one companies, to exchanges, to investors
in crypto projects. I have experienced firsthand the challenges
of advising clients in this uncertain regulatory environment.
I am here today on my own behalf and not on behalf of my
law firm or any client of the firm. I come before you as
someone who worked at the SEC, respects the Agency, and
believes in its mission, but the SEC has missed an opportunity
to become the leading global regulator of digital assets and
blockchain technology. Instead, the SEC has refused to issue
new rules or meaningful guidance relating to digital assets and
at the same time has engaged in whack-a-mole enforcement that
the SEC holds up as a replacement for rulemaking. Rather than
be an epicenter of financial innovation as it should be and as
it is in other contexts, the U.S. has turned itself into a
crypto no-fly zone. This approach has stifled innovation,
caused companies to move offshore, and ultimately harms U.S.
consumers' ability to engage reliably with the industry.
My observations today are focused on four points. First, we
must ask whether framing the debate over crypto through the
lens of the Howey Test even makes sense. Put bluntly, Howey
does not work well for digital assets. It is an outdated
decision about a catch-all term investment contract that
imposes a facts and circumstances inquiry on every single
transaction at issue. Thus, Howey provides no predictability or
certainty. Whether a digital asset is a security is perhaps a
statutory question best left for Congress. Second, the SEC's
enforcement approach has allowed the law to develop in a
haphazard way. Different judges from different Federal
districts reach different conclusions on critical questions,
such as whether secondary market transactions satisfy the Howey
Test, so the industry and U.S. consumers lurch from decision to
decision.
Third, the SEC's refusal to engage in rulemaking in the
crypto space means that areas that cry out for appropriate
regulation to clarify a workable path for digital assets go
unaddressed. Fourth, the SEC's approach results in it picking
winners and losers for all U.S. consumers. For example, the SEC
previously put its thumb on the scale by its long delay in
approving the registration of a spot-exchange-traded product
for Bitcoin. The effect of this delay was to drive demand
outside the U.S. where spot Bitcoin ETFs were available.
How then do we move forward? I believe the answer lies in
regulatory innovation. The SEC can apply the time-tested regime
that has existed for decades, modified to fit this new
industry. For example, the SEC can try out different approaches
to potential rulemaking frameworks through a sandbox led by its
FinHub office. The SEC has broad exemptive authority under
Exchange Act, Section 36. It can use that authority to
selectively and carefully craft pathways to registration for
securities, exchanges, and others. With regards to enforcement,
I believe that our markets are stronger with vigorous and
vigilant law enforcement. The SEC's Division of Enforcement
must continue to root out fraud and pursue other violations of
the Federal securities laws that threaten the U.S. investing
public, but at the same time, the Division must ask itself, how
does the current program and priorities help investors?
Perpetual investigations and lengthy litigation into
potential registration violations consume vast amounts of SEC
resources and can harm, rather than help, the very people the
SEC is charged with protecting. There must be a better way to
address digital assets, encourage innovators and market
participants to operate within a defined regulatory regime,
while preserving safe access for U.S. consumers.
Thank you, and I look forward to answering your questions.
[Prepared statement of Mr. Liftik follows:]
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Chairman Hill. Thank you very much. Mr. Gallagher, you are
recognized for 5 minutes.
STATEMENT OF HON. DAN GALLAGHER, CHIEF LEGAL, COMPLIANCE, AND
CORPORATE AFFAIRS OFFICER, ROBINHOOD MARKETS, INC.
Mr. Gallagher: Thank you, Chairman Hill. Chairman Hill,
Ranking Member Lynch, and members of the subcommittee, thank
you for inviting me to testify today on the SEC's current
methods of overseeing the U.S. digital asset markets. My name
is Dan Gallagher, and I am chief legal compliance and corporate
affairs officer at Robinhood Markets, Inc. I have practiced law
in the financial services industry for more than 25 years, and
I served as a SEC commissioner and deputy and co-acting
director of the SEC's Division of Trading and Markets.
Cryptocurrency is a multitrillion dollar global market in
which tens of millions of Americans participate. The technology
underlying this market has the potential to fundamentally
transform finance. For too long, the U.S. digital asset markets
and millions of Americans who wish to participate in them have
had to contend with innovation-killing Federal regulatory
uncertainty, especially concerning which digital assets the SEC
deems to be investment contracts requiring SEC registration in
how tokens and platforms can become registered with the
Commission.
For years, industry participants have asked that the SEC
implement a clear and workable regulatory regime for digital
assets, and support policy solutions that encourage Americans
to engage in digital asset markets through responsible,
appropriately regulated U.S. firms. Regrettably, the SEC has
not done so. Instead, the SEC has engaged in regulation by
enforcement, which is bad for American consumers who want
greater access to digital assets. It is bad for the innovation
in the blockchain and digital asset industries, and it is bad
for the already eroding competitive position of the U.S. with
regard to digital asset markets. This is not the way Americans
expect our government to work. As Judge Amy Berman Jackson
recently stated, ``The SEC's decision to oversee this billion-
dollar industry through litigation, case by case, coin by coin,
court after court, is probably not an efficient way to proceed,
and it risks inconsistent results that may leave the relevant
parties and their potential customers without clear guidance.''
I could not agree more.
While Congress continues to pursue needed legislation in
the digital asset space, the Commission has, and has had since
1996, the authority now to establish at least a basic
provisional regulatory regime for digital assets. This
rulemaking could include registration requirements, books and
records requirements, anti-fraud protection for consumers,
custody requirements and transaction reporting, all important
protections that would have been handy prior to FTX's collapse
in 2022. Unfortunately, the current Commission instead
wistfully calls on the cryptocurrency platforms and token
issuers to come in and register. Robinhood did, spending
significant time, money, and effort to pursue registration. For
all our efforts in return, Robinhood received a Wells notice
stating that the Commission staff has made a preliminary
determination to recommend that the Commission file an
enforcement action against us.
Ultimately, it will be up to Congress to rectify the
Commission's failure to act, to register both tokens and
platforms, and to provide clarity for those which do not
require registration. Only Congress will be able to truly
provide the necessary long-term regulatory clarity for digital
assets but nothing is stopping the Commission from moving now
to provide tailored relief that allows firms to register, even
if provisionally, and continue to innovate in the meantime. It
has simply chosen, and consistently done, not to do so.
I want to thank the subcommittee for holding this important
hearing, and I look forward to your questions.
[Prepared statement of Mr. Gallagher follows:]
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Chairman Hill. Thank you, sir. He yields back. Mr. Fusaro,
you are recognized for 5 minutes.
STATEMENT OF TEDDY FUSARO, PRESIDENT, BITWISE ASSET MANAGEMENT
Mr. Fusaro. Good morning, Chairman Hill, Ranking Member
Lynch, Chair McHenry, and members of the subcommittee. Thank
you for the opportunity to testify this morning. My name is
Teddy Fusaro, and I am the president of Bitwise Asset
Management. We are a digital asset and cryptocurrency asset
management firm with over $4.5 billion in assets under
management globally. We are the issuer of one of the largest
Bitcoin exchange-traded products in America, products that were
first approved by the Securities and Exchange Commission
earlier this year, and a project that we at Bitwise worked on
in conjunction with the SEC staff for about 5 years. We first
came in and attempted to register this exchange-traded product
in 2019.
We believe that investors benefit from the freedom to
choose to invest in cryptocurrencies and digital assets through
the familiar and widely accessible format of the exchange-
traded fund. Many types of security and non-security investable
assets, from stocks and bonds to currencies, commodities,
precious metals, and now in the United States in 2024, digital
assets and cryptocurrencies, are packaged into ETFs and
exchange-traded products (ETPs). Through this type of vehicle,
investors benefit from the transparency disclosure regime and
reporting requirements of a regulated offering, while also
experiencing the ability to invest through the same channels
that they use to manage the rest of their financial lives,
either through a financial advisor or through a traditional
brokerage account.
Exchange-traded funds, at large, have been one of the most
successful financial innovations of the past 30 years, and they
present a unique and mutually beneficial framework through
which digital assets, such as Bitcoin and Ethereum and many
other digital assets, can be brought inside the regulatory
perimeter. We believe that investors will benefit if many more
digital assets are approved for trading and listing in such a
manner. We also believe that the approval of Bitcoin ETFs came
too late. We believe that investors would have benefited from
these approvals many years ago, prior to seeing many Americans
spend their hard-earned money to unregulated and offshore-based
cryptocurrency trading platforms, some of which ended up
causing Americans meaningful financial harm.
While we are grateful that the SEC approved both Bitcoin
and Ethereum exchange-traded products this year, we urge the
SEC staff, SEC leadership, and the members of this subcommittee
to consider the ways in which we can continue to make these
regulated investment vehicles available to Americans with more
underlying digital assets packaged in this product. They bring
meaningful consumer protection benefits and provide much needed
disclosure regarding the risks associated with investing in a
new and volatile type of investment. We believe that all
parties, and particularly mainstream Americans, will benefit
from the approval of more digital asset ETFs.
Bitwise has been on a nearly 6-year journey in applying for
and advocating for the approval of spot Bitcoin and digital
asset exchange-traded products. We applied several times to
bring such products to the U.S. market, filing our first
registration statement for a Digital Asset ETP in 2018,
followed by our first application for a Bitcoin ETP in 2019. We
have submitted hundreds of pages of research and studies to
support this effort, and we have met with the SEC numerous
times during that period of years, a period that extended over
two White House Administrations and two different SEC
leadership regimes. Our company also recently expanded abroad
with the acquisition of a London-based asset management company
that issues ETPs in Europe. We did this in part because of the
challenge of bringing new products to market at home, while the
regulatory regime in Europe offers businesses clarity and the
ability to list and launch multiple types of digital asset
ETPs. We want that clarity at home.
We are optimistic that the commercial and consumer
protection success of Bitcoin ETFs that were launched in 2024,
followed by the launch of Ethereum ETFs this summer, represent
the beginning of a positive trend and a new chapter for the
regulation of digital assets in this country, and I look
forward to answering more of your questions today.
[Prepared statement of Mr. Fusaro follows:]
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Chairman Hill. Thank you, sir. Mr. Schulp, you are
recognized for 5 minutes for your oral presentation.
STATEMENT OF JENNIFER SCHULP, DIRECTOR OF FINANCIAL REGULATION
STUDIES, CENTER FOR MONETARY AND FINANCIAL ALTERNATIVES, CATO
INSTITUTE
Ms. Schulp. Chairman Hill, Ranking Member Lynch, and
distinguished members of the Subcommittee on Digital Assets,
Financial, Technology, and Inclusion, my name is Jennifer
Schulp, and I am the director of financial regulation studies
at the Cato Institute's Center for Monetary and Financial
Alternatives. Thank you for the opportunity to take part in
today's hearing.
The Securities and Exchange Commission's approach to
digital assets under Chairman Gensler's leadership can be
characterized as an enforce-first, make-rules-never strategy.
Because the application of existing rules to digital assets is
uncertain or inappropriate, the Commission's current strategy
effectively amounts to a ban on crypto activity in the United
States. The SEC's approach has subjected those who choose to
engage in digital-asset-related activities to extreme
regulatory and compliance risk, and there is reason to believe
that developers and projects that may have otherwise chosen to
locate in the United States or serve U.S. customers are
choosing to operate elsewhere.
The basic problem with the SEC's approach to digital assets
is simple. Existing rules do not provide clear guidance to
market participants as to whether the SEC's rules are even
applicable, and if they are, how they can be complied with.
Rather than providing clear guidance to market participants,
and confronting difficult legal questions raised by the novel
characteristics of digital assets, the SEC has claimed
essentially limitless jurisdiction over digital assets and
insists upon compliance with inapt rules. For example, the
SEC's registration rules require disclosures about an issuer's
balance sheet and cash-flow, but such disclosures often do not
make sense or are not possible for software projects that are
fundamentally distributed recordkeeping systems lacking
traditional assets or business lines and when the development
or operation of those software projects is decentralized or
decentralizing, there may be no one to make such disclosures.
These problems also plague secondary trading because the
securities treatment required if a digital asset is registered
as a security may preclude other uses of the token, such as
facilitating the purchase and sale of goods or facilitating
blockchain functionality.
Existing regulation is no better for digital asset
marketplaces. Crypto platforms allow users to transact directly
without the intermediation of a broker and vertically integrate
functions that Securities Exchange rules require to be
separated. Even if the functions were disaggregated, the SEC's
rules create compliance challenges, for example, the SEC's
rules mandate clearing Agency rules and procedures that are
inept for instantaneous blockchain settlement. Again, these
problems are more acute for decentralized platforms.
Decentralized platforms do not custody assets, and they settle
transactions on open and audible public blockchains.
Traditional custody and market transparency rules are a poor
fit for these circumstances.
Unfortunately, the SEC has shown little interest in working
through any of these issues. Not only has the Commission failed
to undertake any process toward rulemaking, but it has refused
to engage with market participants seeking guidance. Instead,
the Agency has led with enforcement. Rulemaking by enforcement
is suboptimal for many reasons, including that it creates worse
rules. Enforcement actions may provide examples, often a bit
light on the relevant details, about what a market participant
should not do, but rarely provide a means to understanding what
to do. This enforcement-first strategy creates a particularly
hostile regulatory environment when actions are brought for
failing to comply with rules for which the SEC provides no path
to compliance, and that hostility is heightened by the SEC's
own enforcement misconduct, including material
misrepresentations to a Federal district court that raises the
questions of whether the Agency is acting in good faith.
While the SEC's enforced-first, make-rules-never approach
to digital assets is the wrong one, the SEC has the tools at
its disposal, including executive authority, to undertake a
better strategy toward digital assets. It is long past time to
put those tools to use. Thank you, and I welcome any questions
that you may have.
[Prepared statement of Ms. Schulp follows:]
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Chairman Hill. Thank you for your testimony. Mr. Reiners,
you are recognized for 5 minutes for your oral presentation.
STATEMENT OF LEE REINERS, LECTURING FELLOW, DUKE UNIVERSITY
Mr. Reiners. Chairman Hill, Ranking Member Lynch, and
members of the committee, thank you for inviting me to testify
at today's hearing. My name is Lee Reiners, and I am a
lecturing fellow at Duke University, where I teach courses
related to financial regulation. Previously, I spent 5 years at
the Federal Reserve Bank of New York examining systemically
important financial institutions. The views expressed in my
testimony today are mine and mine alone, and do not represent
the views of Duke University or any affiliate thereof.
Narrative politics refers to the use of stories and
narratives in the political sphere to shape perceptions,
influence public opinion, and drive political action through
the use of stories. Special interests and political actors seek
to influence how the public perceives issues and events, which,
in turn, affects policy preferences and can lead to specific
policies being legitimized or delegitimized. Importantly, it
does not matter if the narrative is true. What matters is if
enough people believe it is true. Over the past year, the
cryptocurrency industry has engaged in a classic case of
narrative politics. The story they tell is simple, powerful,
and false. It goes something like this.
There are millions of one-issue, pro-crypto voters who
stand ready to support the candidates that embrace crypto and
ensure the U.S. is host to the next great wave of technological
innovation. To make sure policymakers get the message, the
crypto industry has amassed an unprecedented campaign finance
war chest. As Congressman Lynch noted, crypto corporations have
poured over $119 million directly into influencing Federal
elections, which accounts for nearly half of all corporate
spending in the 2024 election cycle thus far. Now, this kind of
money buys powerful friends. After previously calling Bitcoin a
scam whose value is highly volatile and based on thin air,
Donald Trump recently told the crowd at Bitcoin 2024 that he
would make the U.S. the crypto capital of the planet and fire
SEC chair, Gary Gensler, on day one of his presidency.
More important than supportive statements from Presidential
candidates is industry-friendly legislation that would hand
crypto market oversight to the Commodity Futures Trading
Commission (CFTC) and gut our Federal securities laws in the
process. When the House passed the Financial Innovation and
Technology for the 21st Century Act in May, the industry took
one large step toward accomplishing their goal. The crypto
industry has funded astroturf campaigns and commissioned
dubious polls to provide policymakers with the cover they need
to enact industry-friendly laws and regulations but the reality
is that very few Americans own or use crypto, and among those
that do, there is no evidence to suggest that their vote is
principally influenced by candidates' stance on cryptocurrency.
The crypto industry has resorted to narratives and
aggressive lobbying because it has yet to produce a product or
service that provides genuine economic utility to most
Americans. In the parlance of startups, crypto has still not
found product market fit. To better understand this point, it
is helpful to compare crypto's plight to that of another
product that came shortly before: ridesharing. When Uber first
launched, its business was illegal in almost every new city it
entered. The company overcame this hurdle with one enormously
powerful weapon: a product that consumers enjoyed. By solving
the problem of unreliable taxi service, Uber quickly developed
a large and vocal constituency of riders and drivers. This
ultimately forced policymakers to accommodate a business model
that forever changed the way we get around. In sum, a great
product compelled regulatory change. The crypto industry seems
to think the opposite, that regulatory change will compel a
great product. This notion has led the industry to become mired
in endless policy debates and fitful legislative efforts that
only benefit their lawyers and lobbyists.
Fortunately, the Securities and Exchange Commission has
resisted industry lobbying and upheld the securities laws
established by Congress 90 years ago. In my written testimony,
I offer context for ongoing debates about the SEC's role in
cryptocurrency markets by examining the agency's long standing,
consistent, and legally sound methods of cryptocurrency
enforcement and regulation.
Many within the crypto sector assert that current
securities laws, formulated long before blockchain technology
emerged, are ill-suited to the nuances of digital assets, but
using advanced technology as a justification for ignoring
regulations is a convenient distraction from the truth. The
business models of cryptocurrency platforms are fundamentally
at odds with Federal securities laws.
My testimony reveals that the SEC is simply doing the job
Congress tasked it with: enforcing the Federal securities laws.
While crypto market participants may not like these laws, they
have no basis to be mad at the SEC for enforcing them. To
paraphrase Matthew McConaughey's character in ``Dazed and
Confused, that is what I love about these Federal securities
laws, man. I get older. They stay the same age.''
Thank you, and I look forward to taking your questions.
[Prepared statement of Mr. Reiners follows:]
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Chairman Hill. The gentleman yields back. We will recognize
the ranking member of the full committee, Ms. Waters, for a 1-
minute opening statement.
STATEMENT OF HON. MAXINE WATERS, RANKING MEMBER OF THE
FINANCIAL SERVICES COMMITTEE, A U.S. REPRESENTATIVE FROM
CALIFORNIA
Ms. Waters. Thank you very much. I am very pleased to see
the SEC holding bad actors accountable, whether they are using
crypto or some other means to scam investors. Unfortunately, in
less than 2 weeks' time, the government may shut down because,
once again, extreme Make America Great Again (MAGA) Republicans
are playing games with the salaries of Federal employees,
including Federal law enforcement agencies like the staff of
the SEC. So I do not care if you deal in paper stock
certificates or if you are dealing crypto coins, the law is the
law, and the SEC is right to protect investors when you break
it. Thank you, and I yield back.
Chairman Hill. The gentlewoman yields back. I now turn to
member questions. We thank the panel for their discussion. I
want to also thank Mr. Lynch, my ranking member during this
Congress, our members on both sides of the aisle for their
diligent work on digital assets legislation during this
Congress, and particularly thank our committee staff and our
personal staffs for their engagement on this new complex area
in which we have had a lot of debate and some successful
legislation crossed the House floor.
Chairman Gensler has often said that the existing
securities rules apply to digital asset companies in a
straightforward manner, that they simply just need to come in
and register with the SEC. He has made that argument here many
times, and he leaves the impression, I think, with viewers at
home and Members of Congress, that just is so easy. It is just
like a form out on the SEC's website. Meanwhile, the SEC staff
under his leadership continues its very aggressive approach of
regulation by enforcement, suing companies that are actually
working in good faith to try to ``come in and register.'' We
have now heard that consistently, certainly in this Congress
and the Congress previous.
Mr. Gallagher, you are the chief legal and compliance
officer for one of those companies, Robinhood, which received a
Wells notice from the SEC, and I want to quote from that:
``After years of good faith, attempts to work with the SEC for
regulatory clarity, including our well-known attempt to come in
and register, we are disappointed that the Agency has decided
to issue a Wells notice related to our U.S. crypto business.''
That is in Robinhood's filing. So you attempted to come in and
register, I think, as a special purpose broker dealer, and the
Commission has approved one of those before. What was it like
working with the Commission, and what does it say when you want
to come in and register? Is it as straightforward as the
chairman makes you think?
Mr. Gallagher. Well, thanks for the question, Chairman
Hill. Look, we heard Chair Gensler's call to come in and
register loud and clear. Admittedly, I scratched my head a bit
because there was no established regime, at least published
regime, but being seasoned securities lawyers, we thought we
will just roll up our sleeves. It is a competitive advantage we
have as being a regulated entity at Robinhood, and we committed
to coming in and register. We spent about a year and a half, a
dozen or so meetings with the SEC staff. We crafted what we
believe to be a workable model for registration, utilizing the
special purpose broker regime that Chairman Clayton had
established in his time but with modifications that actually
made it workable.
One thing that became very obvious to us is that the
special purpose broker regime does not work for digital assets,
so we recommended modifications that would make it work. We
were submitting to full regulation by the Commission, and it
was a fruitful process. It was very cordial with the SEC staff
until about early 2023, when we got a very perfunctory note
from the chairman's office telling us that there is no reason
to talk anymore.
Chairman Hill. It is pretty frustrating to the private
sector, and really, I mentioned it in my opening comments about
the millions of dollars of legal fees and delays but in this
special purpose broker-dealer, is that a good example? In your
testimony, you talk about Section 36 authorities dating back to
1996 on using exemptive relief using the existing authorities
of the Commission. Could the Commission have modified just the
approach to that, the special purpose broker-dealer licensing
requirements?
Mr. Gallagher. Yes, Chair, the SEC could have come out with
a more workable proposal than the special purpose broker. If
you remember, the special purpose broker was actually a no-
action letter. It was not technically exemptive relief. As I
state in my written testimony, if the Commission were to
propose a registration and regulation regime utilizing Section
36, and it is appropriate to be talking about it here, Congress
in its wisdom in 1996 in Isthmian gave the Commission the
authority to exempt certain activities, certain participants,
from requirements of the securities laws when they deem fit,
when it is in the best interest of investors in the country. In
this instance, I would argue that it would be in those best
interests to, at least for a provisional regime, use Section 36
to craft a registration regime and oversight regime, books and
records, the very basics----
Chairman Hill. Thank you.
Mr. Gallagher [continuing]. While Congress debates more----
Chairman Hill. I appreciate your views on that, and that is
why we took the approach of fit for purpose in our FIT21 bill
was to lay out a framework that the Commission itself could
have used, and we provide statutory authority both for the CFTC
and the SEC. Mr. Reiners talked about that the Commission just
needs to defend the laws and asserts that maybe we are the ones
misunderstanding it here on Capitol Hill. In my opening
statement, I referenced the legal faceplants the Commission has
repeatedly had before Federal courts.
I want to insert in the record a op-ed editorial in the
Wall Street Journal, September 12, ``All the President's Legal
Defeats,'' including an outline of the digital assets legal
defeats by the SEC before the Federal courts.
Without objection, that will be included in the record.
[The information referred to can be found in the appendix.]
Chairman Hill. I yield back the balance of my time. I turn
to my friend, the ranking member, Mr. Lynch, for 5 minutes of
questions.
Mr. Lynch. Thank you, Mr. Chairman. Mr. Reiners, the SEC
efforts to enforce investor protection laws are to ensure
market participants are playing by the rules. The SEC investor
protection regime is both preventive--making sure our financial
markets are not exposed to undue risk, fraudulent offerings, or
reckless speculation--and on the other hand, it is also
prosecutorial--finding and catching bad actors in the act to
prevent more consumers or investors from being harmed.
Now, the SEC's enforcement record spans a wide range of
actions against a wide range of bad actors. As you know,
earlier this year, the SEC charged two individuals with
fraudulent crypto scheme known as HyperFund. HyperFund raised
about $1.7 billion from investors worldwide, mostly from
developing countries. The defendants drew investors in with the
promise of high returns from a crypto mining scheme, but in
reality, the project was a simple pyramid scheme. Then again,
last month, the SEC filed charges against Novatech, alleging
that its founders fraudulently raised $650 million from more
than 200,000 investors worldwide, again including many Haitian
Americans. The firm's co-founders used social media posts to
appeal to their victims' religious faith and promised investors
their funds would be safe. Instead, regulators allege the
company was a pyramid scheme, which also ultimately collapsed
in 2023.
So, Professor Reiners, what can you tell us about how the
industry's culture of disregard for securities law has helped
create an environment for scams like these two to occur and
what do you think would happen if the SEC surrendered to the
industry pressure and established a permissive regulatory
framework for the crypto industry to allow that activity to
happen more widely here in the U.S.?
Mr. Reiners. Certainly. Thank you, Congressman. I think for
every sort of high-profile enforcement action the SEC takes
against these larger crypto platforms, there are countless
enforcement actions that they are taking against these type of
frauds that you just mentioned. You can go to the SEC's
website, and it is literally almost every single day. So it is
important to note that the SEC is, in my opinion, doing their
job as a cop on the beat but with crypto, it is very hard
because there are 20,000 different tokens out there. It does
not take a lot of work or effort to create a new token and
promote it on social media, so it is just a challenging
position to be in. I think the risk is that if you pass a
light-touch regulatory regime, it is going to give the veneer
of legitimacy to this industry and draw in more consumers who
are not as sophisticated and who will ultimately be taking
advantage of these scams of the variety that you just
mentioned.
Mr. Lynch. In your testimony, you talked about the lack of
a crypto product market fit. It appears to me that crypto
operates as a collectible out there, so there is no killer app
for it yet. They are still working on that. It sort of operates
on the greater fool theory: as long as there is someone else
out there willing to pay more for a Bitcoin, it will succeed
but if people you know are lacking confidence in it, like after
the FTX collapse, it plummeted. What is the safest way to
regulate something like that is purely speculative and operates
more like a collectible than as an actual currency with value?
Mr. Reiners. Well, I think, I mean, as you mentioned, that
the primary sort of motivation for most people when they
purchase crypto is speculation, is to profit, and they are
speculating on assets that have no intrinsic value, right?
There are no cash-flows that are discounting, right, so there
is no sort of valuation model. In fact, most studies have shown
J.P. Morgan, for instance, looked at their customers who bought
crypto via their J.P. Morgan checking account and found that
most of them had lost money. So I think the solution is to
bring it within the securities regulatory perimeter so we can
have some just sort of basic investor protections that have
existed for over 90 years in this country and that folks are
generally comfortable with.
Chairman Hill. Are you good?
Mr. Lynch. I do also want to point out that Bitcoin has
been around since 2009, so it has been 15 years, and you look
at most other technological innovations, usually they have a
huge adoption, and that has not happened in crypto.
Mr. Chairman, I yield back.
Chairman Hill. The gentleman yields back. The gentleman
from Oklahoma, Mr. Lucas, recognized for 5 minutes of
questions.
Mr. Lucas. Thank you, Mr. Chairman. Mr. Gallagher, it has
been reported that there is a high rate of staff turnover at
the SEC, particularly in the Enforcement Division. Could you
discuss the effect that has on the Commission and how it
impacts the market participants?
Mr. Gallagher. Well, thanks for the question, Congressman.
Yes, the Enforcement Division of the SEC is one of the pillars
of the Agency. It is critically important. It is how it is
measured by the public, in many ways. The idea that there is
high attrition and that, more importantly, the good people are
leaving is very problematic. It really goes to the reputation
of the Agency. I do not have statistics myself, but I have
heard anecdotes. I have heard gossip coming out of the building
that morale is pretty low, and so it is definitely a concern.
Mr. Lucas. Ms. Schulp, could you also share your
perspective on the issue of staff turnover in the Enforcement
Division, how that impacts things?
Ms. Schulp. The Enforcement Division, as Mr. Gallagher
said, is one of the cornerstones of the SEC's functions, and
high turnover is very difficult. First, the SEC itself, as in
an inspector general report in 2023, more than two-thirds of
enforcement staff that had been surveyed said that they did not
believe that they had the resources to complete their job.
Turnover only exacerbates that problem and leaves other parts
of the SEC's function in enforcing other rules as well left to
difficulty.
Mr. Lucas. Mr. Fusaro, during the last several years, there
has been much attention to the Bitcoin exchange-traded
products, and the SEC approved 11 Bitcoin ETPs in January of
this year, but we have had other regulated futures products for
the same amount of time. Could you explain the difference
between each product and why investors would want Bitcoin ETPs
or futures-based products?
Mr. Fusaro. Thank you for your question, Mr. Lucas. I
certainly can. Just to clarify the record, the SEC allowed a
Bitcoin futures-based ETF into the marketplace in 2021 and then
did not allow the Bitcoin spot-based products into the market
until this year, as you said. Generally, futures-based products
are more expensive for end users. They have disadvantageous tax
consequences. Generally, they are more complex to run, more
difficult to manage, and ultimately lead to higher costs and a
higher level of difference between the performance of the fund
and the underlying asset than you would see in a spot product.
Just to give an example, the largest Bitcoin futures-based
exchange-traded product has a management fee that is about 5
times as high as the average of the spot Bitcoin ETFs. Since
the launch of the spot or physical Bitcoin exchange-traded
product at the beginning of this year, the largest futures-
based ETP has lagged behind from a performance perspective by
about 6-and-a-half percent.
Mr. Lucas. Could you expand on that about what the consumer
demand has been for these products since their approval,
because that reflects how the implementation is done.
Mr. Fusaro. Yes, absolutely. Consumer demand for spot
Bitcoin ETPs has been nothing short of remarkable. When you
measure the asset growth over the period of time that the group
of Bitcoin exchange-traded products has had, the 11 that you
mentioned were approved, Mr. Lucas, in 2024, they have taken in
net inflows of over $16 billion this year. That is the most
successful exchange-traded product launch of all time. As I
mentioned, the ETF industry is one of the most successful
financial innovations of the last thirty years. If you look to
compare that to what the most successful ETF launch had been
prior to this, the popular Nasdaq Invesco QQ product raised
about $5 billion in its first year, and we have not even had
these products in the market for three quarters of a year and
four of those Bitcoin ETFs, have been the top 25 fastest-
growing ETPs of all time.
Mr. Lucas. My time is about to expire. I yield back, Mr.
Chairman.
Chairman Hill. Thank you, gentleman. The chair now
recognizes the ranking member of the full committee, the
gentlewoman from California, Ms. Waters, for 5 minutes.
Ms. Waters. Thank you very much. Since Chair Gensler was
sworn in as chair on April 17, 2021, the SEC has filed more
than 100 crypto-related enforcement actions, more than a third
of which were fully settled at the time of filing. Through
these enforcement actions, the SEC has obtained orders for more
than $5.5 billion in monetary relief, including more than $800
million in civil penalties and more than $4.8 billion in
disgorgement. In most cases, disgorged figures are returned to
investors. Additionally, at least 103 enforcement actions were
taken during the time that Clayton, who was a Trump appointee,
was chair, and then, of course, when Chair White, who was an
Obama appointment, was in charge.
So having seen that these actions were taken by chairs who
are the appointees of both Clayton and Obama, which of any of
these actions can any of you point to that you have discovered
were absolutely wrong, that the facts were not correct? Which
one would you point out that the SEC was involved with settling
was wrong?
Mr. Gallagher. I guess I will go first, Congresswoman, and
I am assuming my fellow panelists would disagree with me on
this. Of course, sort of the one notable partial loss in the
SEC's track record, of course, is the Ripple case, which I
think is important to note that complaint was filed while Jay
Clayton was chair of the SEC, right? So Chair Gensler has just
continued on with the approach and the policy of his
predecessor. Even in that partial loss, that logic, that ruling
has since been in essence, repudiated by several other Federal
judges in that same Federal district court. So I think their
track record here is very strong.
Ms. Waters. Thank you. Well, let me just go to Michael, I
think, Liftik. Are you a crypto attorney?
Mr. Liftik. Thank you, Ranking Member Waters. I am a
securities lawyer. I have been a securities lawyer for about 20
years, and a decent part of my practice involves clients
involved in the blockchain industry.
Ms. Waters. Mr. Gallagher, how are you related to crypto?
Are you advocating for Robinhood? Is that what you are doing?
Mr. Gallagher. Yes, Ranking Member Waters. I am here on
behalf of Robinhood.
Ms. Waters. So I understand that Robinhood is attempting to
get,--what, licensed for crypto?
Mr. Gallagher. We were, Ranking Member, for a good part of
2022 and into 2023 trying to heed Chair Gensler's call to come
in and register. Ultimately, his office told us that there was
no path forward.
Ms. Waters. So, has Robinhood been turned down, turned
back?
Mr. Gallagher. Correct.
Ms. Waters. Why?
Mr. Gallagher. I do not have the rationale. We did not get
an explanation. We just got a stop sign.
Ms. Waters. That is odd you do not know why your client was
not licensed. Teddy Fusaro, how are you involved with crypto?
Mr. Fusaro. Thank you, Ranking Member Waters. I am the
president of a digital asset and cryptocurrency asset
management firm. What we attempt to do is take digital assets
and cryptocurrencies and package them inside regulated
vehicles, like ETFs, to offer those to the public.
Ms. Waters. Do you believe there needs to be serious
guardrails with crypto to protect the investors?
Mr. Fusaro. We do, and we think that the exchange-traded
product or exchange-traded fund provides a lot of those
benefits, and ETF gives transparency, a disclosure regime.
Ms. Waters. So do you agree with any of the actions that
have been taken? Are you disagreeing specifically with any of
the actions?
Mr. Fusaro. I do not agree or disagree with any of the
specific actions you mentioned, and I am not a lawyer or a
specialist on enforcement actions.
Ms. Waters. Thank you very much. I yield back the balance
of my time.
Chairman Hill. I thank the ranking member. I now recognize
myself for 5 minutes for questions.
Mr. Reiners, I hope no one is listening to you about this
market, especially as a student trying to understand the space.
It is over a trillion dollars just for Bitcoin. The market is
over $2 trillion. Clearly, lots of consumers find value in this
space, and, frankly, the idea that you could point out that
there is only one time that the SEC was even partially wrong
has to be willful ignorance.
I mean, I do not know how it could be anything other than
deceit. It is hard for me to understand because on August 29,
2023, the circuit court upheld the position that the SEC
violated the Administrative Procedures Act when it denied
Grayscale's application to convert Grayscale Bitcoin Trust into
a Bitcoin ETP. Following that decision, the SEC waited until
January 2024 to actually approve the conversion, and,
basically, this was a pure rebuke of the actions. If you look
at DEBT Box, another pure rebuke. Lawyers would normally get
disbarred for the conduct of SEC in the DEBT Box case.
So there are lots of cases where they have been caught and
told that they were wrong by the courts, and the market
continues to reinforce that there really is value just looking
at Bitcoin alone. People right now believe that it is a secure
way to store value with a level of confidence of around
$60,000. I mean, that is a new security product on the market
that you could digitally secure a unit of value, and people
believe in it enough to put almost $60,000 into one unit of
measure in a Bitcoin, and they do not just want to store it
there. They want to be able to transfer it in a permissionless,
peer-to-peer way. So if you read the Bitcoin white paper
available at Bitcoin.org, you could see the concept, even if
you just read the abstract. It is not just meant to be parked
there or speculated on. It is meant to be able to be moved in a
permissionless way.
Now, we do not know how much of that trillion dollars of
market cap in Bitcoin is self-custody versus third-party
custody, but the SEC, under Gary Gensler's leadership, has
willfully undermined the ability for anyone to custody digital
assets, not just Bitcoin, but the rest of the space as well. So
they have decided that if they cannot completely end the entire
space, they want to push custody of it to some third party that
they can control or manipulate. They certainly do not want
individual American citizens to custody their own wealth and be
able to move it, amongst others.
So, Mr. Fusaro, when you look at this space and the special
purpose broker-dealer path that we saw, people saying we would
love to try to custody digital assets for others, what kind of
problems did you find with the current framework offered by Mr.
Gensler?
Mr. Fusaro. A few of the challenges that relate
specifically to Bitcoin and crypto exchange-traded products
that I can mention: One is that as an issuer, someone who wants
to offer these products, the larger and well-established
custody banks that typically participate in custody of assets
in collective investment vehicles are effectively barred from
participating in the space. They do not have a way to bring
custody services to the market. That is one challenge. A second
one that I would like to mention is that in the ETF structure
itself or the ETP structure itself, typically, the funds have a
creation and redemption mechanism that works through what is
known as an in-kind process, where the fund exchanges shares in
exchange for the underlying asset itself. Because broker
dealers are not able to handle Bitcoin and crypto, we cannot
have that type of mechanism in the exchange traded product----
Mr. Davidson. Is that a consistent way that it is applied
for the ETF products? Are they treating this differently?
Mr. Fusaro. In overseas jurisdictions, we have the in-kind
transactions that occur in ETFs and ETPs, but it is
consistently applied here in that we are not able to bring that
type of structure to market, which is the thing that we think
slightly increases costs for end users.
Chairman Hill. Yes, as the court found a very different set
of rules for this space than the rest of the market. Ms.
Schulp, in December 2020, the SEC issued this framework. Have
any broker-dealers successfully utilized this framework to
custody the space?
Ms. Schulp. I do not believe any have successfully done so.
There have been two approved, one just last week. The one that
had been approved a while ago, actually earlier last year,
Prometheum, has not operated with most of its services and has
only begun offering partial services.
Chairman Hill. Yes. Thank you. I wish I had more time. My
time has, in fact, expired, and I now recognize the gentleman
from New York, Mr. Torres, for 5 minutes.
Mr. Torres. Thank you. The SEC has a pattern of using the
term, ``digital asset security.'' Mr. Gallagher, does the term,
``digital asset security,'' appear anywhere in any statute
enacted by Congress?
Mr. Gallagher. Thanks for the question, Congressman. Not
that I know of.
Mr. Torres. Okay.
Mr. Gallagher. Not until you enact legislation.
Mr. Torres. Does the term, ``digital asset security,''
appear anywhere in any rule promulgated by the SEC?
Mr. Gallagher. No, sir.
Mr. Torres. Does the term, ``digital asset security,''
appear in any precedent by the Supreme Court?
Mr. Gallagher. Not that I know of.
Mr. Torres. Okay. Does the term, ``digital asset
security,'' appear anywhere in the 2 million pages of the
Federal Register?
Mr. Gallagher. Not that I know of----
Mr. Torres. Okay.
Mr. Gallagher [continuing]. unless the special purpose
broker dealer no-action letter was in the Federal Register, but
I do not think it was.
Mr. Torres. So if it appears nowhere, neither in rule nor
statute, did the SEC invent the term out of thin air?
Mr. Torres. They certainly created it. I do not know if
came out of thin air.
Mr. Torres. In fact, in a recent court filing, the SEC
apologized for using the term----
Mr. Gallagher. Correct.
Mr. Torres [continuing]. ``digital asset security,''
because it is misleading. It gives the impression that a
digital asset in and of itself is a security. Is that correct?
Mr. Gallagher. I saw that. Yes, it is correct.
Mr. Torres. Mr. Gensler has asserted that all digital
assets, except Bitcoin, are securities, and so I want to
examine in detail Mr. Gensler's notion of Ether as a security.
The textbook example of a security is a stock. If I invest in
Apple stock, it means I am expecting a profit from the
managerial efforts of Apple, the company. If I buy Ether, from
whose managerial efforts am I expecting a profit? In other
words, what is the Ethereum equivalent of Apple, the company?
Mr. Gallagher. There is not one that I know of,
Congressman.
Mr. Torres. In the Howey case, the Supreme Court emphasizes
that the SEC must zero in on the ``economic reality of a
transaction.'' Since there is no entity that centrally controls
Ether in the same manner that Apple controls an Apple stock,
would it be fair to say that the economic reality of purchasing
a decentralized digital asset, like Ether, is qualitatively
different from the economic reality of purchasing a security
like an Apple stock?
Mr. Gallagher. That would be fair, Congressman.
Mr. Torres. Okay. So I have a question about SEC Accounting
Bulletin 121. It requires a custodian bank, like the Bank of
New York, to put custodial digital assets on its balance sheet,
which has the practical effect of effectively banning
blockchain and banning the tokenization of real world assets,
and this question could be for Ms. Schulp, if she wants to
weigh in. Is it considered good accounting practice for a
custodian to put custodial assets on its own balance sheet? Is
that customary?
Ms. Schulp. That is not customary. That is typically not
how that is handled under generally accepted accounting
principles.
Mr. Torres. It is a violation of generally accepted. Okay.
So the SEC is asking banks to violate generally accepted
accounting practices and to treat digital assets differently
from any other financial asset. Correct me if I am wrong. Did
FTX put custodial assets on its own balance sheet?
Ms. Schulp. I believe so.
Mr. Torres. Yes.
Ms. Schulp. At least there were a lot of problems----
Mr. Torres. Is not that ironic that Staff Accounting
Bulletin No. 121 (SAB 121) contains a cruel irony that it is
asking banks to do what FTX did, which is put custodial assets
on its own balance sheet? I just find that ironic. When Mr.
Gensler was testifying before the Financial Services Committee,
I asked him whether the sale of a Pokemon card constitutes a
security transaction, and he said no. I then asked him whether
the sale of a Pokemon card via the blockchain, whether that
constitutes a security transaction, and he equivocated. He
seems to hold that the mere use of a blockchain, the mere
process of tokenization, magically transfers a commodity into a
security. It magically transforms a collectible like a Pokemon
card into a security.
Again, the Supreme Court has said what matters is not the
form of the transaction. What matters is the substance, the
economic reality of the transaction. If you apply the logic of
the Supreme Court to the Pokemon hypothetical, what matters is
not whether a Pokemon card takes a tokenized form. What matters
is the underlying economic reality of the Pokemon sale,
regardless of its tokenized form. So would it be fair to say
that the economic reality of purchasing a collectible, like a
Pokemon card, is qualitatively different from the economic
reality of purchasing a security, like an Apple stock? Mr.
Gallagher, do you wish to weigh in?
Mr. Gallagher. Congressman, I think that would be fair to
say. I think there is a minor distinction. If you are buying a
piece of a Pokemon card versus the whole card, I think that
might be a little bit of a different analysis, but I think your
statement is fair.
Mr. Torres. But the value of a Pokemon card does not depend
on a Pokemon corporation, right?
Mr. Gallagher. That is correct.
Mr. Torres. It is a collectible.
Mr. Gallagher. That is right.
Mr. Torres. I am done. Thank you.
Chairman Hill. The gentleman yields back. The gentleman
from Tennessee, Mr. Rose, is recognized for 5 minutes.
Mr. Rose. Thank you, Chairman. I appreciate you and Ranking
Member Lynch for holding the hearing, and thank you to our
witnesses for being with us today.
Mr. Gallagher, it is a pleasure to see you again. I hope
the opportunity to hear you testify in front of the House
Agriculture Committee in June regarding the FIT21 discussion
draft. As you may recall, during that hearing, we discussed how
securities that are not registered are impossible to be listed
by a U.S.-registered broker-dealer intending to market them to
the public.
Recently, Prometheum, a U.S.-registered broker-dealer with
significant ownership from investors with ties to the Chinese
Communist Party and the first special purpose broker-dealer
license in the U.S., has stated that it will treat Ether,
Uniswap, and Arbitrum as crypto asset securities on its
platform, despite the fact that the SEC has effectively
acknowledged that Ether is not a security and the remaining
assets have not been deemed securities by a court. Mr.
Gallagher, can Robinhood list securities and digital asset
nonsecurities on the same platform if there is uncertainty
about whether a given token is a security?
Mr. Gallagher. Thank you for the question, Congressman. The
answer is no, and that actually was one of the nuances that we
requested relief from the Commission for with respect to our
application to come in and register a special purpose broker.
The special purpose broker letter right now is limited to so-
called digital asset securities and will not allow that broker
to handle nonsecurities. I do not know the details of the
Prometheum model. It vexes me a bit, given the limitation
within the four corners of the letter itself.
Mr. Rose. Mr. Gallagher, I want to make it clear. I do not
believe that these assets are securities. However, suppose we
were to accept Prometheum's argument, how can Prometheum
legitimately argue that it can make tokens that they assert are
securities available to the general public if they have not
been registered?
Mr. Gallagher. Congressman, to the best of my knowledge,
you cannot make a non-security a security just by fiat, so I do
not know how they can make that statement.
Mr. Rose. As I see this situation playing out, and I think
about one of our witnesses today, and Chair Gensler's actions,
and the SEC, I am reminded of the ``Andy Griffith Show'' back
in the day. Many in this room probably remember seeing that
show, and there was the character Barney Fife, the deputy
sheriff. While earnest, he was always enforcing the law and
wanting to put people in jail, anxious to get his bullet out
and use it, but he did not have the knack that, say, Sheriff
Andy Taylor had for understanding what was good for the people
of Mayberry. It seems to me that we need a Sheriff Taylor who
can look at the situation, size it up, and, using tools like
Section 36 of the Securities and Exchange Act, make the
decision that is best for the people of Mayberry.
Mr. Gallagher, at this stage in the SEC's regulation-by-
enforcement approach, is it possible for Robinhood or any U.S.
broker-dealer to list unregistered securities for the general
public without exemptive relief from the SEC?
Mr. Gallagher. It is impossible right now for a regulated
broker to deal in both, quite frankly, what the SEC deems to be
digital asset securities as well as just non-security digital
assets, the custody rules, the net capital rules, the customer
protection rules. None of them accommodate the blockchain
infrastructure, so a rulemaking is simply required. The idea of
coming in and register, it is just a falsehood.
Mr. Rose. I think you have technically answered the next
question, but what relief exactly would be needed to make
listing these assets possible?
Mr. Gallagher. Well, Congressman, in lieu of legislation,
which I do hope comes, I think, as a provisional measure, as I
lay out in my written testimony, the Commission could use
Section 36 to tailor a registration regime that would just give
you the fundamentals of oversight, registration, books and
records, things like that. Currently, those provisions, those
requirements in the Exchange Act, at least, do not accommodate
digital assets.
Mr. Rose. I think the time is not sufficient to get into my
next question, so, Mr. Chairman, I yield back.
Chairman Hill. The gentleman yields back. The gentleman
from Illinois, Mr. Casten, is recognized for 5 minutes.
Mr. Casten. Thank you, Mr. Chairman. Thanks to our
witnesses. I want to remind everybody that since 2013, the SEC
has pursued 173 crypto-related enforcement cases. One hundred
of those were for fraud, and the crypto industry's response to
that has too often not been to shut down the causes of fraud,
but to claim that because they are decentralized, they are not
liable to SEC rules and disclosure, and, therefore, you are not
required to show the fraud.
I am specifically concerned about World Liberty Project.
This is a new decentralized finance (DeFi) project that has
been promoted by the former President. The details of this were
announced earlier this week, and I want to highlight a couple
points. That DeFi platform, based on the announcements, says it
is going to create a governance token, and 20 percent of the
tokens will be reserved for team compensation, which will
include members of the Trump family. That 20 percent sounds
suspiciously similar to the language in the FIT21 bill that
says that if you have less than 20-percent ownership, you are
decentralized and, therefore, not subject to regulation.
Mr. Reiners, I think you mentioned a little bit of this in
your opening testimony, but can you just talk about how a
venture capital firm or other who owns 20 percent or less of a
protocol's governance tokens could still exert considerable
influence over that security?
Mr. Reiners. Sure. Thank you, Congressman. So, you know
most of these DeFi protocols, they operate according to a
decentralized autonomous organization structure, which, in
essence, requires there to be a governance token so that folks
can participate in the execution of that protocol. Those
governance tokens are normally distributed to, as you alluded
to, project developers as well as backers of the project in
many cases, which is a legal entity or some type of foundation,
and those backers are venture capital firms. So even if they
have below the 20-percent threshold, they are still able to
exert influence on the project, the protocol, and the people
building on it. You know, maybe they have a traditional equity
investment in the corporation or whatever that is developing
it, so we have seen several examples of this play out in
various sort of DeFi actions where large venture capitals (VCs)
have attempted to sort of shape the outcome one way or the
other.
Mr. Casten. That protocol could be designed in a way that
made it more susceptible to fraud, right? I want to stay on
that point because this World Liberty Group has also
intentionally said that they will only sell those tokens to
accredited investors under the Reg D exemption, which lets them
raise money without registering with the SEC. So I guess, Mr.
Liftik, I will start with you. Under the Reg D exemption, would
the founders be required to disclose to investors that their
most recent investment has lost 70 percent of its value since
March?
Mr. Liftik. Well, Reg D applies to private offering of
securities and the premise----
Mr. Casten. Yes, but so they would not have to disclose
that information, right?
Mr. Liftik. They need to disclose all material information
relating to the investment.
Mr. Casten. Is that a ``yes'' or ``no?'' They have lost 70
percent. They are currently sitting there trying to figure out
if they can liquidate that holding in Trump Media. Would they
be required to disclose their pretty poor performance?
Mr. Liftik. I am not familiar with the details of that
particular project.
Mr. Casten. Okay. Well, would they be required to disclose
to investors that they have ties to a failed DeFi protocol that
suffered a $2-million hack?
Mr. Liftik. I think the point, Congressman, is that if a
digital asset project chooses to proceed through a private
offering of securities, the Reg D pathways are well understood
in terms of the disclosure obligations.
Mr. Casten. Okay. Let us be more specific then. Chase
Herro, this guy who is associated with them--I have to clean
this up for this promo--but this is one of the guys who is
involved in this. He has said about crypto, ``You can literally
sell''--I am going to fix the words--``feces in a can wrapped
in urine, covered in human skin for $1 billion if the story is
right, and people will buy it.'' I am not going to question the
right and wrong of all that. Would you have to disclose under
Reg D that is the person who is running this venture that you
are trying to now sell crypto tokens with, or would they have
to dig that up on the internet, as I just did?
Mr. Liftik. Well, typically, a private offering memorandum
does disclose all the relevant people that are involved in a
project, but I think the point for----
Mr. Casten. Let me move on because I want to get to one
more point. They have also said that these tokens will be
nontransferable and will not earn yield in order to avoid
securities law and disclosures. I would note that when Fred
Trump bought $3 million of casino tokens because his son was
missing a debt payment, he did not expect that to be
transferred, nor did he expect to earn interest. It was still
fraudulent. I understand why people who have a history of
fraud, who have a history of laundering money would find this
very attractive. I find it troubling that it is partisan for us
to try to shut down ventures that make fraud easier, that make
it easier to launder money, and that make it harder to protect
investors. I yield back.
Chairman Hill. The gentleman yields back. The gentleman
from South Carolina, Mr. Timmons, is recognized for 5 minutes.
Mr. Timmons. Thank you, Mr. Chairman, and I want to thank
the witnesses for being here today.
Federal securities laws governing the registration of
securities and the broker-dealers that offer them were designed
in the 1930s to regulate centralized entities issuing
securities primarily to raise capital. This framework is built
so that when a company registers to offer security, they are
required to submit a number of disclosures that are relevant
for investors. However, these disclosures fail to capture many
of the unique qualities of digital assets, showing a clear
disconnect between traditional regulatory structures and this
emerging technology.
Let us take nonfungible tokens, for instance. Non-fungible
tokens (NFTs) create trusted, immutable records of digital
ownership. The potential applications of NFTs are endless, be
it artwork, loyalty points, concert tickets, property titles or
video game items. These unique digital records have
transformational potential in almost every industry in the
United States. From my perspective, it is clear that
blockchains and NFTs they empower are data transfer protocols
that support both financial and nonfinancial use cases. That is
why I have been concerned by the SEC treating all NFTs as
speculative financial instruments.
On August 28, OpenSea, one of the leading NFT marketplaces,
received a Wells notice from the SEC threatening to sue the
firm for hosting unregistered securities on their platform and
on Monday, Flyfish Club settled with the SEC for over $750,000
for an NFT offering that simply allowed for exclusive
restaurant access. These actions not only represent severe
overreach from the SEC, but also suggest that the SEC is
engaging in predatory regulation by enforcement. Mr. Liftik, in
these cases, did the SEC articulate a standard that they employ
to determine whether the sale of an NFT is considered a
securities transaction?
Mr. Liftik. Well, thank you for the question, Congressman.
I think that gets to the heart of the matter, which is that the
Howey Test does not work well for digital assets, and, in
particular, in the context of NFTs, as I think Commissioners
Peirce and Uyeda said in their dissent that they issued on the
Flyfish Club, just because the intent of a buyer cannot
transform something from a non-security to a security.
Particularly in the NFT space as we have grappled with it on
the defense side, the challenge is that we consistently
analogize to Pokemon cards, collectibles, whether it is art or
watches or baseball cards, and we have not heard a compelling
response to that out of the SEC. These are collectible items.
Each one is unique. They are bought for whatever purpose they
are bought for, and trying to apply the Howey Test to it simply
shows the breakdown in the approach the SEC has taken.
Mr. Timmons. Thank you for that. What has been the impact
of the SEC pursuing enforcement actions without first providing
clear and consistent rulemaking or guidance for NFT companies
to follow?
Mr. Liftik. Well, the challenge then becomes that it
becomes a roulette wheel as you are trying to advise projects
whether they can be in compliance or not in compliance,
applying the Howey Test. It is a facts-and-circumstances test
that applies to each transaction. So going into a project on
the front end, a consumer or a company has no way to know
whether they will draw scrutiny from the SEC.
Mr. Timmons. Thank you. Ms. Schulp, do you believe that the
vast majority of NFTs are consumer products outside the purview
of the SEC?
Ms. Schulp. I believe that there are a lot of NFTs that
would not fall within the SEC's purview.
Mr. Timmons. Thank you for that. In your view, should the
regulation of NFTs focus on the nature and function of these
assets or treat them all as financial instruments?
Ms. Schulp. They certainly should not be treated all as
financial instruments. The nature and function is important
here, and it also goes to the heart of what the securities laws
are themselves trying to impact. Those are focused on financial
instruments and also focused on the asymmetrical information
that the manager or issuer of that asset has over an investor.
That is simply not relevant in the case of most NFTs.
Mr. Timmons. Thank you. Chair Gensler continues to mislead
and stifle a diverse and innovative tech industry, driven by
what appears to be a misguided power grab. Unfortunately, the
American public stands to lose out as a result. My proposed
legislation, the New Frontiers in Technology Act, seeks to
address Chair Gensler's unjustified assault on nonfinancial
NFTs by exempting them from securities regulations.
Under this bill, NFTs would be classified according to
their nature and function, providing clarity as to whether they
qualify as financial instruments. By offering a precise legal
definition of ``NFTs'', Congress would not only give industry
stakeholders the certainty they need to innovate, but also
provide regulators with the necessary guidance to apply
appropriate oversight. This legislation represents a crucial
step toward ensuring that NFTs are properly categorized,
enabling their regulation as both financial and nonfinancial
products where applicable. Failure to pass this legislation
will perpetuate a flawed system where American innovators face
two stark choices, risk unpredictable SEC enforcement, or take
their ambitions overseas. I know which option I would choose.
We need to act on this. With that, Mr. Chairman, I yield back.
Thank you.
Chairman Hill. The gentleman yields back. The gentleman
from North Carolina, Mr. Nickel is recognized for 5 minutes.
Mr. Nickel. Thanks so much, Chair Hill and Ranking Member
Lynch, for holding today's important hearing on the SEC's
politicized approach to digital assets. Not only is Gary
Gensler's approach to digital assets politicized, it is just
downright wrong. He is hurting consumers, innovation, American
competitiveness, and the Democratic Administration. In May, 71
Democrats sent a strong message by supporting FIT21. Our bill
regulates digital asset intermediaries, safeguards consumers,
and cements the U.S. as a global leader in finance and
technology. Also in May, Democrats in both chambers supported
my congressional Review Act resolution with Congressman Flood
to rescind the SEC's SAB 121, which puts consumers and the
financial system at risk. While these are major milestones, the
job is not done. Unfortunately, the SEC did not get the
message. The will of Congress, and, most importantly, the will
of millions and millions of our constituents is falling on deaf
ears at the SEC.
Under Chairman Gensler's leadership, the Commission has
taken the most hostile, aggressive, and irrational approach to
technology, although they state that they are technology
neutral. This approach is not only against our ideals as
Democrats, but it is a real detriment to investors and
innovators. The Commission has refused to provide regulatory
clarity and has instead over and over relied on regulation by
enforcement, taking our country in the wrong direction. I am
very hopeful that we will continue to protect digital
innovation in the U.S., protect consumers. Those are the things
that we can do in this Congress.
Mr. Gallagher, first question to you. Robinhood has been in
the crypto space for 6 years, yet it is only now receiving a
Wells notice. What would you say is an effective way to
regulate a fast-evolving industry like crypto, and how would a
more proactive approach from the SEC, such as issuing clear
guidelines up front, have changed your company's trajectory?
Mr. Gallagher. Thank you, Congressman Nickel. As I state in
my written testimony, I think transparency and clarity,
regulatory certainty is the only way to proceed, and we do not
have that right now. Regulation by enforcement does not give
that to us. For companies like Robinhood, which embraces
regulation, which embraces compliance with the securities
laws--that is our main business, by the way--as being a fully
regulated broker and overseen by the SEC and Financial Industry
Regulatory Authority (FINRA). We want that clarity. We want to
be regulated. Some corners of the crypto markets do not want
to. We do. We think it is a competitive advantage. Even with
that, and even with running what we believe to be a fully
compliant platform, we have to look over our shoulder left and
right because of this regulatory uncertainty.
As I lay out in my testimony, I believe the Commission
should provisionally use their exemptive authority that
Congress very wisely gave the Commission in 1996 to craft a
regime that will bridge us until the day that Congress can act
and give us more prescriptive and comprehensive legislation.
Mr. Nickel. You mentioned your efforts to engage with the
SEC, yet you still received a Wells notice. Can you talk about
the level of communication and engagement you have had with the
SEC, and do you feel that they have been responsive and
transparent in their communications, or has the process been
opaque and frustrating?
Mr. Gallagher. Well, in the end, it is been opaque and
frustrating. Throughout the process, though, I give the staff
of the SEC across all the divisions much credit. It was a very
intellectual and lively exchange of ideas. I think they
appreciated that we came in as real securities lawyers, and we
offered them a solution that would actually give life to the
chair's call to come in and register. Otherwise, it is a false
promise. We gave it to them, and ultimately the Chair's Office
shot it down. So very frustrating in the end, spending hundreds
of thousands of dollars, over 12 meetings with the staff, draft
no-action letters, taking this very seriously, and then being
told there is no process left for us, and then we get a Wells
notice on our very compliant Robinhood crypto offering.
Mr. Nickel. Very frustrating. Next question, Ms. Schulp.
Rescinding SAB 121 is well within the SEC's authority, and
there is ample precedent for revisiting a staff accounting
bulletin. However, instead of recognizing its misstep and
rescinding the guidance, the SEC's Office of Chief Accountant
has worked with certain institutions to bypass the balance
sheet reporting requirements under certain circumstances. Can
you provide us with some insight as to why the SEC would
approach SAB 121 in this manner, and what is the impact of this
confusing approach?
Ms. Schulp. Unfortunately, I cannot provide much insight as
to why the SEC is proceeding this way because it is confusing,
and it is not a good way to regulate. Instead of either
revising the guidance or providing clear, different guidance,
rescinding it entirely, what we are left with is ``nonbinding
staff guidance'' in the form of SAB 121, that has been updated
by a nonbinding staff speech that suggests that there may be
exceptions to SAB 121, as well as one-off conversations with
the SEC staff. This is not clear at all and provides no level
of certainty for market participants.
Chairman Hill. The gentleman's time has expired.
Mr. Nickel. My time is up. I yield back.
Chairman Hill. I recognize the gentleman from Wisconsin,
Mr. Steil, for 5 minutes.
Mr. Steil. Thank you very much, Mr. Chairman. If I could
start with you, Mr. Gallagher, the SEC recently amended its
complaint against Binance, introducing some procedural updates
and legal modifications. In the amendment, the SEC declared
that when it used the term, ``crypto asset securities,'' the
Commission was not referring to the crypto asset itself as a
security. Put more plainly, the crypto asset is the subject of
the investment contract. According to the filing, the SEC was
using ``crypto asset securities,'' that term, as a shorthand
term, but no longer using it because it is confusing. Can you
speak to the amended filing and what the implications are for
market participants who may be currently in the SEC's sights?
Mr. Gallagher. Thanks for the question, Congressman. I took
note of that. I saw the brief itself and found it a very odd
admission by the Commission that they have been using this term
basically out of thin air. I think the net result of it, to
your question, is that a real high emphasis is now going to be
placed on the secondary market transactions in these assets. If
you recall, the judicial decision in the Ripple case said that
secondary market transactions do not give rise to investment
contracts----
Mr. Steil. Is this simply an argument for us to pass FIT21?
Mr. Gallagher. Well, I think you need to pass FIT21. I
think, yes, it would bolster that case.
Mr. Steil. Thank you. Let me jump to you, if I can, Ms.
Jennifer Schulp. Chairman Gensler keeps saying that digital
asset project sponsors should just come in and register. If
only it were that simple, right? We have discussed many times
at this committee our current disclosure requirements for stock
and other common investment vehicles really are not a good fit
for digital asset projects, and I think it is important we get
this right, both for investors and for issuers. Can you just
provide a quick example for the record of how these disclosure
requirements are not a good fit for digital assets?
Ms. Schulp. Sure, and I will note that the SEC, when
confronted with other poor fits for registration requirements
for assets, has engaged in other rulemaking to make the fits
better. Asset-backed securities are a good example of that.
When we are looking at digital assets, the disclosure regime is
focused on the issuer itself, where the issuer is, what exactly
their business lines are. That is not necessarily relevant when
we are talking about our digital tokens, and the disclosure
regime does not cover information that might be important to
the purchasers of those tokens, such as tokenomics, such as the
token supply, where the tokens are being held back for project
insiders.
So investors are getting the short end of the stick here on
both sides. They are not getting information that they need,
and if they were to follow the SEC's registration requirement
here, it is likely that they would not be able to get the
information that the disclosure requirements ask for because
that information may not exist.
Mr. Steil. So not only are they not getting the information
that you think you would deem relevant for an individual to be
able to have, but also the disclosures that they are able to
obtain are not terribly relevant. Is that----
Ms. Schulp. Correct.
Mr. Steil. Mr. Michael Liftik, do you agree with that
assessment?
Mr. Liftik. I do, and I think I would take it even one step
further, which is that there is a risk that in applying the
traditional disclosure regime, it actually could be misleading
to investors because it assumes a connection between the so-
called issuer and the security, the equity, if you are talking
about ownership shares in a company. If you are talking about a
digital asset and a project that originally minted it, given
all that information about that token minter may have no
connection or little connection to the digital asset.
Mr. Steil. I agree with you. I want to come back to you,
Ms. Jennifer Schulp, if I can. The SEC has taken enforcement
actions against practically all U.S.-based digital assets
trading platforms, including many that have tried to engage
with the SEC preemptively to work toward registration. What
message does that send to startups, to developers who want to
bring their products into the United States?
Ms. Schulp. I think the message is clear. The message is go
away, find somewhere else to do this, the United States is not
welcoming.
Mr. Steil. You are nodding your head, Mr. Gallagher. You
agree?
Mr. Gallagher. I absolutely agree, and, in fact, it is real
life for me. We launched our crypto product in Europe last year
because there is regulatory certainty, and we could not
continue to grow and innovate here because there is no
regulatory certainty.
Mr. Steil. Thank you. I think what is so important is that
we are working to allow innovation and development inside the
United States, not pushing this overseas. I think there is a
competitive nature to this, and what we are going to see is
other countries working and developing in this space rather
than in the United States. I think it is imperative that we
move forward with the regulatory framework. Mr. Chairman, I
yield back.
Chairman Hill. The gentleman yields back. The gentleman
from Illinois, Mr. Foster, is recognized for 5 minutes.
Mr. Foster. Thank you, Mr. Chairman, and to our witnesses.
Mr. Gallagher, thank you for your time today. You mentioned in
your testimony that Robinhood has made difficult choices not to
list certain tokens and crypto products. Can you describe the
review process that Robinhood follows for determining whether
or not to list certain digital assets?
Mr. Gallagher. Thanks for the question, Congressman.
Robinhood crypto has a listing process and a listing committee
that evaluates tokens for listing on the platform. Right now we
have 15 coins listed, including Bitcoin, Ether (ETH), and other
coins.
Mr. Foster. I believe we have delisted some, too, or
stopped supporting. I guess, the Cardano, Polygon, and Solana,
you have recently stopped supporting. Could you just explain
why the criteria that you applied to say that said these are
okay and others are not?
Mr. Gallagher. Yes. Thanks for the question, Congressman.
Those three coins that were delisted a year ago, actually, I
think close to the same day we had a hearing, the Ag Committee
with Congressman Rose, were listed in the complaint that the
SEC filed against both Binance and Coinbase, as, in the SEC's
estimation, being securities. One of the factors that our
listing committee looks at is whether the SEC has weighed in
publicly on the security status of a token. The committee took
that into consideration, even though, quite frankly, we
disagree with the SEC. We do not believe they are securities,
and I have memos from a national law firm saying that they are
not.
Mr. Foster. Do you also consider, for example, their use in
illicit finance? Is that a factor?
Mr. Gallagher. Well, we have a very vibrant anti-money
laundering (AML) and know your customer (KYC) function at
Robinhood, and so, clearly, we take these things into account.
Mr. Foster. Yes. Yes, obviously. Our committee spent a lot
of time worried about cryptocurrency's role in illicit finance,
ransomware, the whole spectrum, you know, much of which is
enabled by the anonymous, permissionless, self-hosted nature of
these assets as well as methods to jump chains, to privacy-
enhanced coins, and back-end mixers, the whole ball of wax. I
presume that Robinhood, one of your goals is to not become a
convenient on-and-off ramp for illicit finance, and so does
Robinhood currently allow users to transfer their crypto from
permissionless, self-hosted wallets onto the Robinhood
platform?
Mr. Gallagher. Congressman, I actually do not know the
answer to that question. I do know that we----
Mr. Foster. It is fundamental. If you are trying to not be
an onramp and an offramp to illicit finance, and apparently,
unless there are technological changes I am not aware of, it is
not possible to prevent anonymous, self-hosted crypto from
being used for those purposes. How do you ensure that when you
onboard money, if you could get return for the record, say,
exactly how it is that you attempt to stop the crypto assets
that have been used or could have been used for illicit
finance, how you attempt to stop those from being onboarded on
your platform and some estimate of how effective that is?
Mr. Gallagher. Sure. We are happy to submit that to you.
Mr. Gallagher. I will tell you that we have, as I have said
before, what we call the Fin Crimes Group, which conducts very
intense AML and KYC reviews generally across the platform.
Mr. Foster. Okay. Well, many of the frauds that the SEC is
charged with preventing--wash trades, front running, investment
government frauds--interestingly, I have been told that these
are actually documented in the Babylonian Cuneiform Tablets. So
these are not new inventions, things like front running and
wash trades. I guess this is probably a question for the whole
panel. One of the fundamental things if you are going to have a
healthy market, is to have a market participant understand what
the market price is. There have been estimates that over half
of all transactions in Bitcoin, for example, are wash trades.
Is that still the current number? Does anyone know? Has that
been superseded? So it is of that magnitude. So how do you
understand what a market price is in an object where a majority
of the transactions are sort of demonstrably illegitimate
things like wash trades? Is there any technological solution to
that, or is that just a fundamental feature of what we are
talking about? Yes, sure.
Mr. Fusaro. If I may, Congressman. The ETP industry has
what I think is a very effective solution for determining what
the price of a Bitcoin is. What we use is something called a
volume-weighted median price that uses inputs from multiple
different cryptocurrency or Bitcoin trading platforms. You take
those inputs in from multiple different platforms, throw out
the outliers, and then you average them in time partitions.
What we have seen----
Mr. Foster. Now, are these platforms all SEC regulated or
are these platforms offshore with no clear governance?
Mr. Fusaro. They come from multiple different
jurisdictions----
Mr. Foster. Some of which we have no control over, and that
is one of the fundamental problems in understanding what the
quote, unquote, market price is. If there are unregulated
platforms on which a lot of the trading or offshore platforms,
is there a solution to that problem?
Mr. Fusaro. So there is a market-based solution, which is
that we use this price that is calculated by a third party and
includes inputs from many different platforms. Then what we see
on the U.S.-regulated market with the Bitcoin exchange-traded
product is that it trades very tightly to that price that we
see, that we use as an input for valuation.
Mr. Foster. All right. My time is up. I yield back.
Chairman Hill. Mr. Sherman is recognized for 5 minutes.
Mr. Sherman. I want to thank the gentleman from Illinois
for illustrating what I think we all know: crypto does not work
without self-hosted wallets. That is the whole point. That is
why they call it hidden money, and with these self-hosted
wallets, you have a giant hole in our anti-money laundering
system. There is another whole currency. That is why we only
printed up to $100 bill, the same maximum bill that we had half
a century ago.
The Republican Party has invested Mr. Trump with
substantial governmental power. Even today, he is the nominee
of one of our two major parties. He has announced that he is
now the chief crypto advocate. So on the one hand, he has all
that power given to him by the Republican Party. On the other
hand, he is trying to make billions of dollars for advocating
crypto. That is a conflict of interest that makes Clarence
Thomas look like Mother Teresa. We also see that Mr. Trump has
advocated that U.S. Government money be ``invested,'' wagered
on crypto. That means he takes our taxpayer money, gives it to
the Crypto Bros. They get cash. We get whatever the crypto is
worth. Maybe it is Hamster Coin. Who knows what it is? Who
knows whether it will be worth anything in the years to come?
We have another Republican hearing aiming at the SEC in order
to enrich the Crypto Bros.
Thank God for the SEC doing all it can to protect
investors. Sam Bankman-Fried was not one snake in a crypto
Garden of Eden. He is emblematic of this industry that has a
scandal every couple of weeks. Now we are told that the SEC is
``going rogue.'' No, they are doing what we appropriated the
money to them to do. They have the support of the
administration. They have the support, I think, of a majority,
or at least a large number of Members of Congress.
Every one of the SEC's enforcement actions is brought in a
U.S. Federal court established under Article III of our
Constitution. Mr. Reiners, are the Article III Federal courts a
proper venue, and do they afford due process? Does the American
court system work?
Mr. Reiners. Yes.
Mr. Sherman. That is an easy answer. Now, we are told by
the crypto industry that they just want clarity. They do not
like the fact that they do not know whether they are a security
or not a security. Then we are told that somehow if they are
security, the form does not meet their specifications. We have,
over the last century, developed a system for every other
security, every other not intangible investment. It works for
soups. It works for nuts. It works for bonds. It works for
stocks. Yet, the crypto industry does not want to apply it to
crypto and is spending many hundreds of millions of dollars to
prevent that.
So I will ask, we have some crypto advocates here, would
any of you support legislation that would just eliminate this
whole controversy and just declare that crypto is a security,
subject to the same very well-developed standards that we apply
to all these other investments? If you are in favor of such
legislation, please raise your hand.
[Hand raised.]
Mr. Sherman. I will point out that one witness raised his
hand, but none of the advocates for the crypto industry did so.
Okay. Let us see. So then we have the DeFi platforms. Very
analogous to the test we faced for what is a security under the
Howey Test. Mr. Reiners, under the Howey Test, if you have the
promoter handle your oranges and you get the profits from the
oranges, that is a security. Would that also apply to having
the promoter loan out your crypto or engage in the lending
business and then give you the profits? Does the Howey Test
make it clear that DeFi lending platforms are secured?
Mr. Reiners. Well, the Howey Test is a facts-and-
circumstances-based test, Congressman, so I cannot sort of
speak to a general hypothetical like that. In many of these
lending protocols the SEC and courts have found that they are,
in fact, securities.
Mr. Sherman. Thank you.
Chairman Hill. I invite the gentleman to expand on his
answer in writing.
Chairman Hill. Now I will turn to my friend from Houston.
Mr. Green has 5 minutes for questions.
Mr. Green. Thank you, Mr. Chairman. Mr. Reiners, in your
information that you have shared with us, you indicate that the
crypto industry is eagerly pointing to favorable regulatory
regimes abroad as an example for U.S. lawmakers to follow and
warning that if U.S. does not act quickly, new and existing
crypto firms will set up shop overseas. Do you still stand by
that?
Mr. Reiners. Yes.
Mr. Green. Okay. Let me continue. You go on to say getting
it right is more important than being first. You indicate that
passing financial regulatory legislation is hard, and once in
place, it tends not to change absent some future crisis. You
stand by that?
Mr. Reiners. Yes.
Mr. Green. You indicate that we might be looking at some
sort of 2008 financial crisis down the road if we do not get it
right?
Mr. Reiners. That is correct.
Mr. Green. Okay. What is your prognostication? What are you
saying? This is pretty strong language. That is why I am
asking. What are you thinking will happen if we do not get it
right? What will happen?
Mr. Reiners. Well, it is impossible to predict, and I think
this industry and this asset class has sort of defied
predictions from the very beginning, but, again, it comes back
to what is the inherent value in these tokens. Again, they are
entirely speculative, and now we have these exchange-traded
products that are, you know, I call it a superhighway
connecting the traditional financial system with the crypto
economy, so that a problem in one could easily spill into the
other. So you could have a situation like FTX in the future,
and I believe there will be another and probably bigger version
of FTX at some point in the future that could cause real damage
in the financial system, right, and you could have
interconnections, just like we saw in the 2008 crisis.
I will just note, and you know, I cannot help but, of
course, be a bit intimidated by the portrait behind you of
Barney Frank, of course, one of the coauthors of the Dodd-Frank
legislation, I think you know, which was obviously passed in
response to 2008 crisis, right? So, we enact financial
legislation after major crises, right? We do not sort of make
adjustments sort of along the way. My fear is that if we pass a
sort of light-touch regulatory bill for crypto, it is just
going to, again, provide a veneer of legitimacy to this asset
class, bring in more people and then ultimately, there will be
some event where folks get hurt--perhaps it is a systemic risk
event--and then we are back to the drawing board.
Mr. Green. Well, you mentioned a crisis, and that crisis
that you mentioned had, at its root, criminality. Is that
something that you see as something that we should be extremely
concerned about, given the current regime that is proposed?
Mr. Reiners. Well, there is certainly a lot of criminality
going on in the crypto industry but I think the 2008 crisis was
more of a kind of classic speculative mania in housing-related
assets, and we have certainly seen speculative mania----
Mr. Green. No, but you mentioned Fried. You mentioned Sam
Fried.
Mr. Reiners. Sam Bankman-Fried?
Mr. Green. Yes. You mentioned him. That is criminality. You
brought him into it.
Mr. Reiners. Yes. I mean, certainly he engaged in a crime.
He was convicted of a crime.
Mr. Green. Right.
Mr. Reiners. But it was a crime that was enabled by crypto.
He was able to execute the crime by allowing an affiliated
hedge fund to borrow FTX customer assets that were secured by
tokens that he minted out of thin air, right?
Mr. Green. Uh-huh.
Mr. Reiners. So it was a crypto-fueled crime.
Mr. Green. Yes. So it is your opinion that we could have
more of this, much more of this?
Mr. Reiners. If what, Congressman?
Mr. Green. If we do not take the time to regulate
appropriately?
Mr. Reiners. Yes.
Mr. Green. Okay. My colleague asked a question earlier, and
there was only one person to raise a hand. I am just curious,
do you think that taking our time is something that would cause
us greater harm than we might suffer if we do not immediately
regulate, Mr. Gallagher?
Mr. Gallagher. Thanks for the question, Congressman. I
think the SEC certainly has been taking its time. There is no
regulation in place, so regulation by enforcement, as I say in
my written testimony, is just not a way to properly regulate
these markets. So I encourage, as I do in my testimony, actual
regulation, and I encourage legislation also from Congress.
Mr. Green. Well, my time has expired. I am concerned about
criminality, and I think that Mr. Reiners makes a good point. I
yield back.
Chairman Hill. The gentleman yields back. I want to thank
our excellent panel today. Thank our members for their
engagement and their questions.
Without objection, all members will have 5 legislative days
within which to submit additional written questions for the
witnesses to the chair, which will be forwarded to the
witnesses for their response. I ask our witnesses to please
respond as promptly as you are able.
This hearing is adjourned.
[Whereupon, at 11:53 a.m., the subcommittee was adjourned.]
A P P E N D I X
September 18, 2024
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