A recent hearing on Capitol Hill focused on the regulatory structure of crypto and digital asset oversight amidst volatile trading in the crypto market. The discussion highlighted the need for regulatory clarity and potential legislative solutions to address the unique challenges posed by digital assets.

The hearing discussed the regulation of digital assets as it exists today, which many contend is still an empty negative regulatory space. Witnesses and lawmakers discussed what the legislative response should be, including legislation on market structure to provide a better oversight regime for new crypto products still being introduced.

Passing the STABLE Act out of committee last week was pointed to as an encouraging sign within that context. This bill is a significant step toward creating a bipartisan regulatory framework for stablecoins and digital assets more broadly.

There were a number of worries expressed about the current state of play with crypto regulation. The SEC has recently faced criticism for its enforcement actions being too punitive. Opponents say that its current mandate is ill-equipped to address the unique intricacies of digital assets.

“In various speeches, market participants were urged to register with the SEC without a clear path, a number of enforcement actions were brought against market participants, and, in the context of the SEC’s general rulemaking agenda, digital assets were identified in certain proposals but final rules were never adopted.” - Tiffany J. Smith

Tiffany J. Smith, a partner at Hogan Lovells, pointed out how burdensome the SEC’s approach is for crypto projects seeking to comply with SEC rules and regulations. Tens of thousands more have tried and failed, wasting massive amounts of money only to meet disaster — or years of lingering doubt.

“It is clear that the current securities regulatory framework is not a viable option to regulate crypto. It fails to achieve its stated policy goals. … In practice, however, virtually no crypto projects have successfully registered their tokens under federal securities laws and lived to tell the tale. Projects that tried to comply with the SEC’s [U.S. Securities and Exchange Commission] current requirements expended significant resources and effort, only to fail or survive in a state of regulatory uncertainty,” - Tiffany J. Smith

The hearing, too, explored the accountability of other regulators. Alexandra Thornton reminded us that the CFPB has been hampered by capacity constraints. This limitation would seriously constrain its capacity to be able to meaningfully supervise those payment systems for digital platforms.

“The SEC has dropped enforcement actions against crypto firms. … The CFPB [Consumer Financial Protection Bureau], which likely would have overseen payment systems for digital platforms, has been kneecapped.” - Alexandra Thornton

Thornton further raised concerns over the digital asset markets overall as it relates to functionality and fairness. She cited massive asset value swings, investor losses from hacks, and fraud as evidence of the need for stronger oversight.

“The digital asset markets have not functioned well so far, with massive asset value swings, billion-dollar losses to investors from hacks, and billions more from frauds,” - Alexandra Thornton

A key theme was the need to embrace decentralization in any reauthorization legislation. Jacob Werrett argued that successful legislation should encourage and accommodate decentralization to preserve the important use cases and blockchain features.

“to preserve the use cases and important blockchain features … successful legislation should accommodate and encourage decentralization,” - Jacob Werrett

Werrett also highlighted the importance of legislation taking the full technology stack into account. It involves layer-1 blockchains, layer-2s, protocols deployed on top of those blockchains, cross-chain bridges, applications governed by protocols and governance of blockchains and protocols themselves.

“various tests can be applied to determine whether a blockchain, protocol or token are decentralized. Legislation should consider all parts of the technology stack, such as blockchains, protocols built on those blockchains, applications associated with various protocols, and governance of blockchains and protocols.” - Jacob Werrett

Looking ahead, lawmakers hinted that draft legislation focused on market structure would be next. This indicates a continued commitment to cementing an overall regulatory landscape for digital assets.

“Congress appears determined to pass legislation establishing a light regulatory regime for stablecoins and now for other digital assets” - Alexandra Thornton