Facebook's plans to create its own digital currency raises a number of important questions for U.S. policymakers and highlights the need for a comprehensive response to the rise of digital assets, according to a former chairman of the U.S. agency that oversees derivatives markets.
Tim Massad, former chairman of the Commodity Futures Trading Commission, stressed the need for a new digital assets regime at Crypto Evolved, a conference in New York that brought together a number of institutional players in the cryptocurrency markets. Massad noted that politicians from both parties have reacted with alarm to the June 18 announcement from Facebook and have called for hearings to dig into the details. He also predicted that members of Congress will ask for answers on the company's "true objectives" in developing this cryptocurrency.
Massad, who had a long career in securities law before serving as CFTC chairman from 2014 to 2017, said it is difficult to predict whether Facebook will succeed in getting regulatory approval for its plans. But he also noted that some elements of the proposal, as described in a white paper released on June 18, have been designed to address potential conflicts with U.S. securities laws.
"Will Facebook be able to overcome the various regulatory and potential political challenges that they face? That's very difficult to predict, but when you look at the white paper, I think they have very deliberately structured this to avoid some common regulatory problems," Massad said.
For example, the company has separated Libra, the currency, from the token that will be used for investing in the project. In effect, that means users of Libra will not benefit financially from the growth of the ecosystem that develops around Libra, in contrast to other tokens that give users a claim on the value of the issuer.
Massad explained that this avoids conflicts with the so-called "Howey" test that the Securities and Exchange Commission uses to determine if a digital asset is a security. That in turn determines whether all of the activities around the asset are subject to the SEC rules and regulations that apply to conventional securities such as stocks and bonds.
Big questions remain, however. For example, backing Libra with a basket of various currencies may help minimize volatility in Libra, Massad said, but it also introduces an element of exchange rate risk. The value of Libra will change as the prices for the currencies in the basket fluctuate, and that creates the possibility of gains and losses under U.S. tax laws, he said.
Another set of questions revolves around the application of anti-money laundering laws. It is not clear, he said, who will be responsible for complying with "know your customer" and other AML rules: each user of the currency, or some type of "central process" set up by Facebook.
Massad also predicted that Congress will want to scrutinize the reasons that Facebook has put forward for launching Libra. One of the stated goals is to pave the way for millions of individuals around the world who do not currently have bank accounts to gain access to a mechanism for sending and receiving money. But he questioned whether the introduction of another payment services will fully address the needs of the unbanked.
If the goal really is financial inclusion, then Facebook and the other members of the association it has set up to manage the currency may have to pay interest on Libra and make credit available through some type of micro-loans in order to compete with other payment services that offer credit and interest, he said. And if that is the direction of travel, then at some point the association may have to become a bank. More generally, members of Congress may question whether this currency will further strengthen Facebook's economic position.
"This proposal to me creates a moment of great irony," said Massad. "Ten years ago, when Satoshi Nakamoto launched bitcoin, the promise was to create a means to transfer value without relying on large centralized intermediaries." Instead the innovation of blockchain has given rise to "what some might call the worst incarnation of the very thing that it was advertised to cure … this potential currency which is going to be run by one of the most powerful and dominant technology companies in the world."
Although members of Congress have shown an interest in calling Facebook to testify, Massad said it is not yet clear whether Congress will go beyond the specifics of Libra to the general issues around the regulation of digital assets. Getting legislation enacted is always difficult, and election-year politics will make that even more challenging. On the other hand, he noted that there have been examples of swift action in response to financial innovation in the past, such as the JOBS Act of 2012 that authorized crowdfunding.
What is needed, he said, is for Congress to develop a new regulatory framework for digital assets. This new asset class cuts across traditional boundaries of regulation, and government agencies such as the SEC and the CFTC are only able to focus on what is inside their jurisdictional "boxes," he said.
"We are in a situation where each regulator is taking steps within its sphere but that leaves us with a lack of clarity and some gaps" in regulation, he said. The path forward is for Congress to establish "general principles of regulation" and then delegate the authority to either the SEC or the CFTC to write the rules.
Equally important, Congress needs to provide these agencies with the necessary resources "to do the job," he said. The SEC and the CFTC face serious constraints on their budgets, especially relative to their responsibilities for the existing U.S. securities and derivatives markets, and they are using their limited resources on "piecemeal regulation through enforcement," he said.
(Photo: Rod Morata/Rathkopf Photography for ViableMkts)