Issue 116

Regulating crypto

Delivered on 14 June 2021 by Justin Pyvis. About a 3 min read.

The Basel Committee on Banking Supervision is gearing up to regulate banks that hold cryptocurrency, as "the growth of crypto assets and related services has the potential to raise financial stability concerns and increase risks faced by banks". Unfortunately its proposed regulations completely miss the mark. According to the FT:

All other [non-stablecoin] crypto assets, including bitcoin and ethereum, would go into the new, more strenuous regime. The Basel committee proposed a risk weight of 1,250 per cent, in line with the toughest standards for banks' exposures on riskier assets.

That would mean banks would in effect have to hold capital equal to the exposure they face, and be prepared if the value of the asset were worthless. A $100 exposure in bitcoin would result in a minimum capital requirement of $100, Basel said.

The standards would apply to assets created for decentralised finance (DeFi) and non-fungible tokens (NFTs), but potential central bank digital currencies were outside the scope of the consultation, it added.

I get that the regulator is concerned about stability, but the effect of these capital requirements will be to kick crypto to the curb – including the very promising DeFi – where it will be embraced by non-bank entities.

We've seen how excessive regulation can lead to growth in problematic shadow banking – well soon we may see a growing shadow crypto sector. A far better approach would be to update the rules to incorporate crypto, rather than kneecap it to the point that the only place it can thrive is outside of the traditional banking system.

There is a legitimate need to develop a proper, global regulatory framework that would allow institutions to access new DeFi services through the banking system. It really shouldn't be that difficult – most cryptocurrencies are actually more traceable than cash, given that they provide an open, immutable record of all transactions.

Then again, if the five Big Tech-busting bills released for review in the US last week are any indication (see below), perhaps proper regulation of crypto is indeed impossible.

Those five antitrust bills

US House Democrats on Friday unveiled five separate bills aimed at breaking up Big Tech. If you were to put several politicians in a room who knew nothing about technology and asked them to devise some new regulations... well this is close to what you would get:

  • American Choice and Innovation Online Act, to prohibit discriminatory conduct by dominant platforms, including a ban on self-preferencing and picking winners and losers online.
  • Platform Competition and Opportunity Act, to prohibit acquisitions of competitive threats by dominant platforms, as well acquisitions that expand or entrench the market power of online platforms.
  • Ending Platform Monopolies Act, to eliminate the ability of dominant platforms to leverage their control over across multiple business lines to self-preference and disadvantage competitors in ways that undermine free and fair competition.
  • Augmenting Compatibility and Competition by Enabling Service Switching Act, to promote competition online by lowering barriers to entry and switching costs for businesses and consumers through interoperability and data portability requirements.
  • Merger Filing Fee Modernization Act, to update filing fees for mergers for the first time in two decades to ensure that Department of Justice and Federal Trade Commission have the resources they need to aggressively enforce the antitrust laws.

At least we finally get a definition out of this. Big Tech (i.e. companies covered by these Acts) are defined as those with 50 million US-based monthly active users, 100,000 US-based monthly active business users, or possessing a market capitalisation of more than $US600 billion. Right now that would include Google, Facebook, Microsoft, Alphabet (the parent company of Google), Amazon, Apple, Netflix and maybe even Snapchat (which has close to 50 million US-based monthly active users). None of the metrics are indexed to population or inflation, meaning over a sufficient period of time they could become all-encompassing.

One important variable that isn't defined is "data", which will be provided "6 months after the date of enactment". So these Acts will go into force, require Big Tech to ensure things such as "all data must be portable", and "enable the secure transfer of data to a user", but not provide a definition of data?!

Not to mention that mandating data portability generally requires an assumption that the current way of doing things is the only way: will some future Facebook competitor be required to ensure its data are portable and interoperable with whatever today's regulators come up with? Surely not, but that's what will happen. The effect will be to lock-in some kind of standard and force every future entrant to comply accordingly, which would likely have the opposite effect to the stated goal: it would help Big Tech maintain its dominance and stymie innovation.

Then there's the effective prohibition on all mergers and acquisitions, with M&A disallowed for any Big Tech company that might "compete with the covered platform... constitute nascent or potential competition to the covered platform... enhance or increase the covered platform operator's market position... or maintain its market position". Really?

There's plenty more nastiness inside each, feel free to read them all here. But essentially a handful of US companies will be regulated differently to every other business – without evidence of consumer harm – in a process that, if passed, will probably destroy many products consumers actually enjoy. 🙄👏

Issue 116: Regulating crypto was compiled by Justin Pyvis and delivered on 14 June 2021.