Senate Panel Told FTX Crash Not a ‘One-Off’ Amid Debate Over Tighter Crypto Regulation

Sam Bankman-Fried testifies during a hearing before the House Financial Services Committee at Rayburn House Office Building on Capitol Hill, on Dec. 8, 2021. Alex Wong/Getty Images

At a Senate hearing Wednesday on the collapse of crypto platform FTX, expert testimony provided differing views on the loosely regulated crypto industry, with some arguing it poses big risks to customers and financial stability and must be more tightly controlled or banned outright, while others calling for a softer touch.

The Senate Committee on Banking, Housing and Urban Affairs kicked off its hearing on in Washington on Dec. 14, with the panel’s chair opening the discussion by addressing agencies in the United States and the Bahamas for their roles in arresting and charging FTX founder Sam Bankman-Fried.

Bankman-Fried was initially expected to testify at the hearing, but that is no longer the case after he was arrested Tuesday in the Bahamas and denied bail.

“I want to express my gratitude to the Department of Justice, the SEC, the CFTC, and the Bahamian authorities for taking the critical step to hold Sam Bankman-Fried accountable for his misdeeds,” said Sen. Sherrod Brown (D-Ohio), the committee chairman.

Sen. Sherrod Brown (D-Ohio) speaks to reporters in Washington, on Mar. 12, 2020. Alex Wong/Getty Images

Three U.S. agencies—the Commodity Futures Trading Commission (CFTC), the Securities and Exchange Commission (SEC), and the U.S. Attorney for the Southern District of New York (SDNY)—have all filed charges against the FTX founder, including eight criminal ones.

If convicted on all eight counts—which include wire fraud and conspiracy to commit money laundering—Bankman-Fried could face up to 115 years behind bars.

His attorney, Mark Cohen from Cohen & Gresser, told media outlets that Bankman-Fried is “reviewing the charges with his legal team and considering all of his legal options.”

At the hearing, Brown said he hopes Bankman-Fried “will soon be brought to justice” and that “it’s clear that he owes the American people an explanation.”

For his part, Bankman-Fried has acknowledged that he made mistakes in connection with the collapse of FTX while insisting he did not engage in any fraudulent activity and did not intentionally misuse funds.

Brown said at the hearing that the collapse of FTX should be closely scrutinized and ways found to minimize the risk of harm to consumers from potential future crypto collapses.

“If we are going to learn from FTX’s meltdown, we must look closely at the risks from conflicts at crypto platforms that combine multiple functions,” Brown said.

“It means thinking about the kinds of disclosure that consumers and investors really need to understand how a token or crypto platform works,” he added

The Ohio senator said lawmakers should look at how current laws are applied in the domain of banking and securities for guidance on how best to regulate the crypto industry.

He said the panel would work with regulators to “put consumers, not the crypto industry, first.”

“It’s not just about crypto, it’s about protecting consumers ... from bad actors who think rules simply don’t apply to them,” he said.

Witnesses that appeared before the panel on Wednesday include law professor Hilary Allen, investor Kevin O’Leary, the Cato Institute’s Jennifer Schulp, and Ben McKenzie Schenkkan, an actor and critic of cryptocurrencies.

‘Cascade of Interconnected Failures’

Allen, a professor of law at the American University Washington College of Law, said in prepared remarks (pdf) that the FTX collapse was not a “one-off, but part of a cascade of interconnected failures in the highly leveraged crypto financial system.”

She said that providing greater regulatory clarity in the United States with respect to the crypto industry would be insufficient to prevent future collapses such as occurred with FTX.

A ban on crypto would be the most sure-fire and straightforward way to protect investors and the financial system, she argued.

“It would end the uncontrolled creation of cryptoassets and also ensure that cryptoassets never require a bail-out,” she said.

Failing an outright ban, Allen said policymakers should at least avoid making rules that would encourage the proliferation of crypto.

Allen also urged lawmakers not to regulate crypto the same way that they do banking products, which would give crypto the kinds of government protection enjoyed by the banking sector, which plays a critical function in the economy by providing credit.

“Allowing crypto to integrate with the rest of our financial system could cause a broader financial crisis that will hurt those who never even invested in crypto,” she said, adding that regulation should be designed in a way to “keep banks away from crypto.”

She recommended “energetic” enforcement of the SEC’s registration requirements to limit the creation of cryptoassets.

O'Leary, by contrast, said in prepared remarks (pdf) that while he understands why some are calling for outright crypto bans, he sees the industry as a useful force shaking up the status quo.

“Disruption is always uncomfortable at first, and entrenched businesses abhor new competition,” he said. “But it has been proven time and time again that disruption is absolutely necessary in advancing the economy.”

He called for “clear” policy and regulation of the crypto industry, adding that the best place to start is by establishing a regulatory framework for digital stablecoins backed by the U.S. dollar.

“A well-regulated stablecoin backed by the U.S. dollar and other high-quality, liquid assets could become the global default payment system over time,” he said.

“We need to get to the bottom of what happened at FTX, but we can’t let its collapse cause us to abandon the great promise and potential of crypto,” he added.

Schulp serves as the director of financial regulation studies at the Center for Monetary and Financial Alternatives at the Cato Institute, a libertarian think-tank.

She said in prepared remarks (pdf) that a key takeaway is that the collapse of FTX doesn’t appear “intrinsically” tied to blockchain technologies such as cryptocurrencies. To illustrate this point, Schulp cited FTX’s new CEO as saying, when he took the helm of FTX after Bankman-Fried’s departure: “Never in my career have I seen such a complete failure of corporate controls and such a complete absence of trustworthy financial information as occurred here.”

Schulp said a major problem was the lack of clarity in U.S. regulations, which both fails to address known risks in the crypto industry and encourages companies to go offshore where regulatory requirements are less ambiguous.

She suggested policymakers draw a difference between decentralized projects and centralized exchanged when formulating rules, and that regulations should formulated in a way that makes them narrowly targeted to relevant risks.

Digital Dollar?

In September, the Department of the Treasury issued a report (pdf) that recommended the United States work on developing a central bank digital currency (CBDS), sometimes dubbed the digital dollar.

Treasury Secretary Janet Yellen said the Treasury recommends that the United States “advance policy and technical work on a potential central bank digital currency, or CBDC, so that the United States is prepared if CBDC is determined to be in the national interest.”

More than 100 central banks around the world are considering a digital currency, but just a few have actually issued one.

Prior to the Treasury report, President Joe Biden signed an executive order on government oversight of cryptocurrency that urged the Federal Reserve to explore the possible adoption of its own digital currency.

The executive order also directed the Treasury to study the impact of cryptocurrency on financial stability and national security.

In November, the Federal Reserve Bank of New York announced that it would be teaming up with global financial giants to launch a 12-week digital dollar pilot program.

The New York Fed’s experiment will review how banks are able to process digital dollar tokens within the central bank system and quantify their impact, with the assistance of the some of the largest financial institutions in the world.

CBDC and Privacy Rights

Critics have expressed concern, however, that a digital currency issued by a central authority could lead to a loss of privacy.

Some have warned that CBDCs could be made into a mechanism that is like the Social Credit System, a citizen-scoring scheme used by the Chinese Communist Party (CCP) to regulate Chinese citizens.

Under the system, the CCP gets to decide what sorts of facilities are granted to the average citizen based on their compliance with authoritarian rules.

“Without privacy, blockchain is a perfect tool for warrantless financial surveillance. Let’s not kid ourselves by pretending otherwise,” stated Paul Grewal, the chief legal officer of Coinbase, in a tweet in August.

But some think fears of a Big Brother-type encroachment into the economic life of Americans are overblown.

“Social media is awash with fears that ’the government' will be able to track your spending, and that is true, assuming a nefarious government,” J.G. Collins, managing director of the Stuyvesant Square Consultancy, a strategic advisory, market survey, and consulting firm in New York, wrote in a recent op-ed in The Epoch Times.

“But that’s not terribly different from ’the government' looking at your bank account, your credit card statements, or your tax return, assuming the authorities are nefarious; otherwise, the government would have to have probable cause to do so,” he continued.

Collins believes that the government would be overwhelmed tracking hundreds of millions of daily transactions and that, if it were so determined, “it would find a way to persecute us citizens with or without CBDCs.”

He believes the bigger threat is that the government could use CBDCs as an instrument of monetary policy to overcome policymaker reluctance to adopt negative interest rates.

If the government wants to stimulate the economy, say in a crisis where consumer spending has collapsed, it could threat to confiscate unspent CBDCs held in Americans’ digital wallets as a way to boost spending, Collins explained.

While the U.S. Constitution provides property protections, these are not absolute and can be overcome by “due process of law” or providing Americans whose property has been confiscated with “just compensation.”

“That might happen, in the manner of a tax, but it would not be—and should not be—a power of the Federal Reserve,” Collins argued, but should be subject to an act of law by congressional representatives, who at least in theory are accountable to the American people.