Today a subcommittee of the House Financial Services Committee will conduct a hearing entitled, “A Golden Age of Digital Assets: Charting a Path Forward.” One of witnesses will be Timothy Massad, a Harvard research fellow, and former Chair of the Commodities and Futures Commission (CFTC) during the Obama administration. In his testimony he provides a detailed critique of the STABLE Act, the House’s stablecoin bill. The Senate also has the GENIUS Act Bill which is somewhat similar.
As context, it’s helpful to know Mr Massad’s positions on crypto. Bitcoin was classified as a commodity while he was CFTC Chair. He prefers rulemaking and clarity over regulation by enforcement. However, he has compared DeFi to driving a car without brakes, and is not keen on self hosted wallets when it comes to stablecoins.
On the other hand, he objects to assertions that crypto is mainly used for illicit activity and believes crypto is here to stay. Ultimately, Mr Massad’s motivation is to ensure the technology has true social utility. Whether or not one shares all his views, he raises several important issues.
State versus federal stablecoin oversight
Regarding stablecoins, one of the biggest bones of contention between the Democrats and Republicans has been the powers given to state regulators. The Democrats favor greater involvement of federal regulators, as does Mr Massad. He wrote,
“It is my understanding that there was bipartisan agreement last fall on a better
approach that provided for, among other things, registration by state-chartered issuers with the Federal Reserve Board in a process that would be open to public comment. The agreement also provided for ongoing supervision by the Board.”
Both current Bills give State regulators more powers than Mr Massad’s description. The House’s STABLE Act gives state regulators more latitude than the GENIUS Act. Whether one agrees with the State versus Federal debate, Mr Massad makes two important points.
Consumers are unlikely to perform sufficient due diligence on stablecoins. By allowing State regulation differences, not all stablecoins will be equal, potentially exposing consumers to greater risks.
However, there’s a counterargument that the Bills are prescriptive on important features such as stablecoin reserve requirements and reporting, making stablecoins more homogenous. The main differences will relate to capital requirements and risk management.
That leads to another of Mr Massad’s points. Being overly prescriptive restricts the regulator’s ability to react to innovations or changes in stablecoin issuer behavior. He argues that this is still a new sector, so regulators need to have more scope to create rules in other areas. Currently the draft legislation allows rule creation only for capital requirements, liquidity and risk management.
He also has financial stability concerns. The Bills allow federal regulators to engage under exigent circumstances, but only after giving five days notice. “The inadequacy of such a provision in the digital world is all too obvious,” Mr Massad wrote.
Stablecoin regulation litigation?
Another of Mr Massad’s criticisms is that the legislation will encourage litigation. It restricts how the regulator can apply certain rules. For example, federal regulators are required to tailor risk management rules by stablecoin category or individually.
The goal of these clauses is clearly to limit the wiggle room for regulators, to prevent overreach. Mr Massad bemoans this restriction on authority, but also notes the result will be a lot of litigation between fintechs and the regulators. “This is hardly a recipe for clarity and certainty of regulation,” he wrote.
Ability for stablecoins to pay interest
Many have observed that there is no restriction on the payment of interest in the legislation. Other jurisdictions such as Europe don’t allow interest. In the United States, the payment of interest would result in the stablecoin being treated as a security, except the legislation explicitly precludes this.
“The payment of interest could make stablecoins an investment option and not just a payment mechanism. It could lead to the creation of financial products similar to money-market funds, only this time they could be chartered and supervised by each of the fifty states.”
The current draft legislation restricts a stablecoin issuer’s activities but doesn’t impose limits on the stablecoin issuer’s owner or its affiliates.
Repo risks during bankruptcy
Mr Massad highlights the absence of rules for the bankruptcy of the stablecoin issuer. We’d note that there is a bankruptcy section in the Senate bill, so there’s a chance it will be incorporated.
However, he raises an important issue in the case of repo. Repo involves the stablecoin issuer pledging Treasuries in exchange for cash. Repo rules have an exception to normal bankruptcy rules which allow the counterparty in the repo to enforce claims no matter what.
“The risk created by this ability to pledge is substantial. One can imagine a Bear Stearns-like scenario where a stablecoin issuer is facing liquidity pressures. It could enter into a repo contract covering a large part—or even all—of its reserves to generate liquidity. But news of the contract could put further pressure on its liquidity as customers anticipate that there will be fewer reserve assets available for distribution post-bankruptcy. Thus, subjecting stablecoin issuers to bankruptcy while letting them pledge assets for liquidity purposes exposes holders to greater risk.”
Mr Massad would like to see significant extensions in anti money laundering (AML) requirements, including relating to self hosted wallets. Republicans are keen to protect the rights of individuals to host their own digital currencies in order to protect freedoms and privacy.
