SBC Cryptocurrencies Hearing

Senate Committee on Banking, Housing, and Urban Affairs

Cryptocurrencies: What are they good for?

Tuesday, July 27, 2021

Witnesses

• Angela Walch, Professor of Law, St. Mary’s University School of Law
• Jerry Brito, Executive Director, Coin Center
• Marta Belcher, Chair, Filecoin Foundation

Opening Statements
Chairman Sherrod Brown (D-Ohio)
In his opening statement, Brown said that thousands of digital assets have poured into the market – that are not real dollars or backed by the full faith and credit of the U.S.. Brown stated that this has led to a rise in decentralized financial schemes and alternative financial products with the hopes of creating a parallel finance system that has no rules or oversight. Brown noted that the current financial recovery remains fragile as COVID-19 variants emerge and there are still regulators to appoint. He closed by stating America’s needs for more community banks that are in people’s neighborhoods, for more no-fee accounts backed by the full faith and credit of the U.S. through the Federal Reserve, and to show people that there will be tangible accountability.

Ranking Member Patrick Toomey (R-Pa.)
In his opening statement, Toomey noted how cryptocurrencies are a growing part of the American economy. Toomey stated that a significant impediment to cryptocurrencies becoming a widely used store of value or medium of exchange is their price volatility, which could potentially be solved by tying it to other assets like a fiat currency, e.g., the U.S. dollar. He remarked that some cryptocurrencies may prove to be useful as a store of a value by serving as alternatives to fiat currencies, complementing the role that gold has historically played as a store of value and a hedge against inflation. He closed by stating that cryptocurrencies have enormous value in preserving the strength and legitimacy of the American economy on the global stage, and while there do exist legitimate issues such as their usage in illicit activities and their effects on monetary policy, such issues should not obscure the benefits that distributed ledger technology offers.

Testimony
Angela Walch, Professor of Law, St. Mary’s University School of Law
In her testimony, Walch warned that as the cryptocurrency financial system grows, there is a potential for crises in this system to cross over into the traditional financial system, causing a systemic crisis that could result in widespread harm to the public, domestically and globally, notably including to people who have not chosen to participate in the cryptocurrency system. She noted that many of the decisions being made about the cryptocurrency financial system appear to be based on idealized views rather than realistic ones, in that institutions may be investing in cryptocurrencies’ promise and that policymakers and regulators may be making decisions about the system based on myths about cryptocurrencies’ potential.

Jerry Brito, Executive Director, Coin Center
In his testimony, Brito described cryptocurrency networks as being open and permission-less, noting the thousands of entrepreneurs globally developing new applications of these networks, many of which can potentially change the world even if such effects cannot be predicted today. Beyond payments and money, Brito noted the value of tamper-resistant ledgers as allowing free speech to prevail against massive censorship in other countries and as enabling identity solutions for cybersecurity. He also noted the benefit of being able to verify credentials, helping to combat disinformation. Brito stressed that the only way for these benefits to be actualized in the future on a larger and more prominent scale is if Bitcoin is allowed the ability to grow over time. 

Marta Belcher, Chair, Filecoin Foundation
In her testimony, Belcher stated that cryptocurrencies can be the foundation for a better Internet, describing cryptocurrencies as alternatives to big tech, allowing people to be in control of their own data, protecting user privacy and security, and permanently preserving humanity’s most important information. She lauded cryptocurrencies’ ability to send monetary value across the globe instantly and securely, and their ability to program money. Belcher explained the uses of Filecoin and noted how there are already thousands of projects building other cryptocurrency applications, from automatically paying music royalties, to compensating people when their data is used, to paying journalists for each view of an article, to incentivizing consumers to use renewable energy.

Question & Answer
“Decentralized”
Brown asked if the term decentralized is misleading in reference to the cryptocurrency market and if there are actors who can achieve outsized power in the market. Walch stated that the term is misleading, in that using this label removes the ability to scrutinize the system and notice the concentrated pockets of power within them, such as core software developers that create these systems and decide what policies maintain said systems. She noted that miners in systems like Ethereum and Bitcoin can exploit their position by picking the transactions from the memory pool and deciding whether they enter the ledger and in which order they enter.

Sen. Elizabeth Warren (D-Mass.) asked if cryptocurrencies are truly decentralized. Walch stated that there are pockets of power within cryptocurrency systems, particularly with core software developers and miners that have the capacity for manipulating the system and exploiting their positions. Warren asked if cryptocurrencies are as safe and secure as traditional systems. Walch stated that although there are safeguards in cryptocurrencies, it is not true that cryptocurrencies are ultimately resistant to attack. Warren asked if cryptocurrencies are insulated from the risks that make the current financial system vulnerable and vice versa. Walch stated no, as there are links between the cryptocurrency system and the traditional financial system that allow for risks and vulnerabilities to cross between both systems.

Impact on the Traditional Financial System
Brown asked about the risks of the traditional financial system operating parallel to the cryptocurrency financial system. Walch stated that such parallel structure would allow many links to be formed between the two systems, meaning that anything going wrong in the cryptocurrency system, e.g., a catastrophic software bug, potentially has an impact on every single holder of the cryptocurrency that is affected, every holder of financial products that embed that cryptocurrency, all investment funds that touch that cryptocurrency, and all other cryptocurrencies due to the fear of contagion. She noted that all these effects can ripple over to the traditional system as well.

Sen. Cynthia Lummis (R-Wyo.) asked why it is important for Congress and regulators to use the same legal terms when discussing cryptocurrency issues. Walch stated that problems with terminology arise from the fact that these systems are extremely fast-moving and that products and activities in the cryptocurrency system mirror the traditional system and are thus called similar names, creating confusion and misunderstandings of terminology that become embedded into current legislation and regulation for cryptocurrencies.

Toomey asked how worried one should be with the ability for a problem developing in a cryptocurrency to cascade into the traditional financial system. Brito stated that there is a very low systemic risk of such a cascading problem but that such a risk should be supervised and regulated nonetheless.

Sen. Jack Reed (D-R.I.) asked how macroeconomic policy can be harmed intentionally or unintentionally by cryptocurrencies. Walch stated that cryptocurrencies were made in part due to a lack of faith in existing monetary systems controlled by governments, resulting in a fundamental tension between the existence of cryptocurrencies and conventional sovereign currencies.

Benefits
Lummis asked for specific cases on how virtual currencies and the distributed ledger technology underpinning these assets have the potential to reduce the cost of financial transactions for everyone and to create a more efficient financial system. Brito provided settlement as an example, wherein trading securities or other assets relies on intermediaries in the traditional market but would be made more efficient in a cryptocurrency market due to distributed ledgers.

Lummis asked if the transparency and openness of open-source finance is a benefit that can ensure a level playing field, promote financial inclusion, and create trust in the financial system. Brito stated that because cryptocurrency systems are broadly transparent, one can see where power centers and transactions are, which reduces the need for trust in facilitating interactions within the market.

Sen. Chris Van Hollen (D-Md.) asked for an evaluation of the relative benefits and risks of blockchain and cryptocurrencies in providing faster transactions. Walch stated that the current speed of transactions is not due to technology issues, but rather due to policy issues. Brito stated that second-layer networks are currently being built that allow for micro-transactions, which open a range of possibilities for future innovations.

Illicit Activity
Lummis asked why criminals consistently utilize cryptocurrency systems for money laundering and other illicit activities if it is true that transactions with virtual currencies are recorded on a publicly available ledger that cannot be easily altered. Brito stated that criminals utilize such systems because they are good for censorship payments, although they still create a trail of transactions.

Sen. Jon Tester (D-Mont.) asked why cybercriminals utilize cryptocurrencies so consistently in cases of ransomware. Belcher stated that ransomware is not a problem of cryptocurrencies, but of cybersecurity and that cryptocurrencies are stronger than traditional currencies in preventing illicit actions due to their public ledgers that are analyzable by law enforcement.

Sen. Robert Menendez (D-N.J.) asked how Congress should address the problem of sanctions violations via cryptocurrencies in cases of ransomware. Brito stated that the FBI advises victims of ransomware to not pay ransom demands regardless and highlights that the best method to deal with ransomware is to have a good cybersecurity system so that one can confidently refuse to pay ransom demands. Menendez asked if there exist tools that would allow financial institutions and regulators to prevent the use of mining to avoid sanctions. Brito stated that exchanges that occur overseas may not comply with U.S. cryptocurrency regulations since such regulations cannot apply to cryptocurrency transactions and actions outside of domestic borders.

Miners
Reed asked if there is a way to confirm who the key intermediaries in cryptocurrency transactions are. Walch stated that these are the miners, who allow for transactions to be put on the blockchain and who have the power to choose transactions, order them, and delay them along with a host of other abilities. She noted that miners do act as intermediaries and require more scrutiny.

Toomey asked if miners should be considered as intermediaries. Brito stated that broadly speaking, miners are intermediaries but that they are not actually financial intermediaries and that this nuance is reflected in current regulatory legislation. Toomey asked how miners should be considered in their power to decide what transactions are added to the blockchain. Brito stated that miners cannot redirect, steal, or initiate a user’s payments but are able to affect the order in which transactions are confirmed on the blockchain.

Van Hollen asked how a cryptocurrency miner may be able to take advantage of a cryptocurrency system. Walch stated that there are large mining pools that allow a mining pool operator to pick those transactions that will appear on the ledger and set the order in which they appear.

China
Reed asked if China’s recent scrutiny over cryptocurrencies is evidence of their hope to create an alternative system that would influence the American cryptocurrency system and cause disruption at a critical moment. Walch stated that there is speculation that other nations feel threatened by cryptocurrencies since they are alternative, non-sovereign currencies that are not controlled by governments, and she noted that China is also looking into issuing a central bank digital currency and may feel that the threat from cryptocurrencies is more than can be dealt with currently.

Sen. Steve Daines (R-Mont.) asked why the Chinese digital yuan is not putting the supremacy of the dollar at risk. Brito stated that the digital yuan is merely the digitization of the yuan, which still carries its own problems in comparison to the U.S. dollar.

Regulation and Global Standards
Sen. Mark Warner (D-Va.) asked if there is an appropriate method to set international standards in digital currencies backed by central banks. Walch stated that there currently does not exist a global body selectively dedicated to legislation and regulation on a uniform international scale.

Daines asked if cryptocurrencies can potentially disrupt the SWIFT global payment system and if they can coexist. Brito stated that there is no imminent disruption and that both can coexist, as cryptocurrencies are not exclusively dedicated to moving money but additionally allow for open networks for verifying distributed ledgers.

Daines asked if overregulation of the cryptocurrency space can be problematic to the American economy. Belcher stated that the cryptocurrency space is currently regulated, as existing legislation can effectively and sensibly be applied to the cryptocurrency space.

Tester asked if cryptocurrencies should be regulated similarly to how the traditional financial market is regulated. Walch stated the cryptocurrency market is distinct enough from the traditional market that it requires much consideration to develop tailored regulations. Brito stated that the cryptocurrency market should be regulated. Belcher stated the cryptocurrency space is already being heavily regulated.

Sen. Tina Smith (D-Minn.) asked if many decentralized financial instruments are likely operating in violation of the Commodity Exchange Act. Walch stated that scrutiny is required when looking at these systems to identify such claims and the associated risks of power allocation.

Transition From Cash to Crypto
Menendez asked if a brick-and-mortar retail business should be allowed to exclusively accept cryptocurrency and deny cash payments. Belcher responded no, stating that Filecoin is not intended to be a competitor to the U.S. dollar but is to be used for a specific purpose of file storage. Brito stated yes, as it should be up to a store’s freedom to decide what transactions to allow. Walch stated no, since not everyone has access to digital financial services.

Climate Change
Smith asked how cryptocurrencies can be prevented from becoming significant contributors to climate change. Belcher stated that cryptocurrencies can scale and become less energy-intensive over time.

For more information on this hearing, please click here.