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U.S. Treasury Secretary Janet Yellen Sarah Status—Getty Images
Proof of State is Fortune Crypto’s Wednesday edition, where Leo Schwartz provides insider insight into policy and regulation.
Persuading lawmakers to take a thoughtful approach to crypto regulation is no easy task. FTX’s collapse confirmed to skeptics that the industry is filled with fraud and casino-like incentives. The October 7 Hamas attack and subsequent revelations about illegal fundraising using cryptocurrencies were even more damning. Even if the amount is exaggerated, one dollar of cryptocurrency sent to Hamas and North Korea’s Lazarus Group is too much for some politicians.
Recent legislation targeting money laundering and the “customer awareness” gap in cryptocurrencies reflects this approach. All technologies in the broader cryptocurrency ecosystem are subject to existing laws, such as bank secrecy laws, which can treat services such as wallet providers, miners, and blockchain validators as financial institutions rather than autonomous software in many cases. It is a nail waiting for the hammer of the law. .
Of course, members of Congress are subject to political pressure. After events like the one on October 7 and the publicity about the role of cryptocurrencies, they are forced to take action and use the law as a blunt weapon. Bills can be improved through new drafts or price hikes, blurring the line between press releases and policy proposals.
Regulators are in a different position. We must act against existing threats and operate within existing legal frameworks, rather than being defensive about potential laws. This generally doesn’t go well, at least for the crypto industry. Look at the SEC.
When it comes to pressing concerns about illegal lending and the thorny question of how to approach KYC and AML for cryptocurrency services, that authority rests primarily with the Treasury and Justice departments. The companies have announced sanctions and criminal charges loathed by many in the cryptocurrency space, including sanctions and criminal charges against Tornado Cash, an open source software tool called “Mixer” that helped conceal the flow of cryptocurrencies by organizations including Lazarus. taking action.
In late November, Deputy Treasury Secretary Wally Adeyemo stood before a gathering of crypto policy heavyweights and shared his vision for expanding the department’s regulatory powers. This means classifying the majority of the sector as financial institutions. “What’s happening now is clearly not working,” he said, adding that the onus is on industry to come up with solutions.
This week, the industry provided an answer. Three of these big names, including Polygon Labs Chief Legal Policy Officer Rebecca Rettig and former Treasury Department official Michael Mosier, will help the Treasury Department regulate the complex world of DeFi. They published a 45-page proposal aimed at creating a framework. Or decentralized finance. Unlike centralized crypto platforms such as Binance or Coinbase, many services in DeFi (such as mixers such as Tornado and decentralized exchanges such as Uniswap) operate as software-neutral, and therefore include VPNs and other communication tools. The authors argue that it is similar to the internet infrastructure of Importantly, this means that financial institutions are not subject to the same AML and KYC obligations as financial institutions as set out in laws such as the Bank Secrecy Act.
The proposal is thick and full of acronyms, so the number of characters left doesn’t allow for a detailed explanation, but the highlights are that it divides the world of DeFi services into different classifications, and that the various departments of the Treasury Department, such as the Financial Crimes Enforcement Agency, That is to be handled by the appropriate department. Network (FinCEN) and the Office of Cybersecurity and Critical Infrastructure Protection (OCCIP). Some of the proposals would require new legislation, but many could be implemented through existing rulemaking authority.
Speaking to the authors yesterday, Mosier likened the emergence of digital payments to the evolution of communications. The advancement from telegraph messages to exchanges to automatic packet switching meant that anyone could make a phone call to anyone else. “The world hasn’t ended, we’ve just found another way to manage that risk,” he said.
I think Mr. Mosier, who was acting director of FinCEN, would approach such a nuanced proposal rather than taking the approach of his former colleagues who said that $1 worth of cryptocurrencies used for illegal financing is too many. I asked if it was. Convincing authorities that DeFi protocols should be treated as “critical infrastructure” (a 1998 designation that means the tools are “essential to the functioning of the U.S. economy,” as the authors put it) will be a challenge. It seems like a great job.
“You’re likely to hear that from members of Congress on The Hill,” he said. “I don’t tend to get much of it. [Treasury] Because they are law enforcement, and they understand that if the answer was zero tolerance, they would have shut down the entire banking system by now. ”
leo schwartz
leo.schwartz@fortune.com
@leomschwartz
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Meme-O-The-Moment
FTX bank run jokes never get old:
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