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Is It Time to Regulate Stablecoins? Senators Hear — and Debate — Both Sides

Hot off the first-ever House committee hearing focused explicitly on cryptocurrencies, the Senate held another hearing Tuesday on crypto's quieter, younger cousin: stablecoins. 
While the fiat-backed digital tokens usually don't generate the same buzz as leading cryptocurrencies such as Bitcoin or Ether, the Senate's Banking, Housing and Urban Affairs Committee hearing proved far more contentious than last week's five-hour meeting.
The House hearing served more as an opportunity for legislators to listen and learn than press an agenda. By contrast, the Senate hearing featured an array of clashing viewpoints, as outspoken critics of stablecoins testified alongside adamant defenders. 
Up for debate was how exactly the state should regulate stablecoins, which for the moment serve primarily as a way to trade in and out of crypto exchanges, but are also touted as the backbone of a coming boom in decentralized finance and payments technology. 
Whether or not senators were convinced by this optimistic vision played perhaps the biggest role in shaping their perspective on how rigorously stablecoins should be regulated. 
Senators more sympathetic to the industry, for instance, stressed the importance of not hampering innovation in its early stages, especially as international competition heats up. 
Senator Pat Toomey, a Republican from Pennsylvania and ranking member of the Senate Banking, Housing, and Urban Affairs Committee, listens during a hearing in Washington, D.C., U.S., on Tuesday, Dec. 14, 2021. The hearing is titled Senator Pat Toomey, a Republican from Pennsylvania and ranking member of the Senate Banking, Housing, and Urban Affairs Committee, listens during a hearing in Washington, D.C., U.S., on Tuesday, Dec. 14, 2021. The hearing is titled "Stablecoins: How Do They Work, How Are They Used, and What Are Their Risks?' Photographer: Sarah Silbiger/Bloomberg via Getty Images
"Whatever Congress does, let's make sure that we don't stifle innovation in an evolving digital economy or undermine our own country's competitiveness," said Sen. Pat Toomey, the Republican ranking member of the committee. "Let's have the humility to recognize that many of our views about how financial services are delivered and how investments work are quickly becoming outdated."
More skeptical lawmakers zeroed in on stablecoins' role in propping up the unregulated decentralized finance (defi) ecosystem, which they argued is used for illicit activities and risky financial behavior. 
"The time to act is before it all blows up," said Sen. Elizabeth Warren (D-Massachusetts). "Stablecoins have no regulators, no independent auditors, no guarantors, and they are propping up one of the shadiest parts of the crypto world, the place where consumers are least protected from getting scammed."  

Sensible Regulations 

While the tenor and tone differed between skeptics (read Democrats) and sympathizers (read Republicans) there was broad agreement that at least some new regulations were in order. 
For instance, most lawmakers and panelists agreed that reserve requirements for issuers were necessary to ensure that users can always redeem their stablecoin for fiat currency. 
Right now, most issuers say their coins are backed one-to-one with cash or cash equivalents such as short-term treasury bills. This is how issuers maintain their peg with the dollar, which is essential to maintaining user confidence in the coin. 
The problem is that no standardized rule exists for what constitutes a sufficient reserve in terms of composition, custody, or transparency. 
Jai Massari, partner at Davis Polk & Wardwell LLP, listens during a Senate Banking, Housing, and Urban Affairs Committee hearing in Washington, D.C., U.S., on Tuesday, Dec. 14, 2021. The hearing is titled Jai Massari, partner at Davis Polk & Wardwell LLP, listens during a Senate Banking, Housing, and Urban Affairs Committee hearing in Washington, D.C., U.S., on Tuesday, Dec. 14, 2021. The hearing is titled "Stablecoins: How Do They Work, How Are They Used, and What Are Their Risks?' Photographer: Sarah Silbiger/Bloomberg via Getty Images
"Stablecoin issuers should have restrictions on permissible types of reserve assets to ensure short-term, liquid backing of those reserves," said Jai Massari, a regulatory expert and partner at Davis Polk & Wardwell, LLP, who testified in favor of sensible regulations. 
She also noted that issuers should abide by other existing federal rules around monitoring and preventing illicit financial activities such as money laundering — a major concern in the space given the opaque nature of the crypto and decentralized finance markets. 
One sticking point, however, was whether stablecoin issuers should be regulated as insured depository institutions (i.e. like normal banks) or if they should be registered under special banking charters tailored to their particular business model.  
The President's Working Group on Financial Markets, which is spearheading the Biden administration's efforts to reign in stablecoins, has called for the former, but critics of this approach have stressed that stablecoin issuers fundamentally don't function like banks, in that they're not using leverage in the same way to lend out money. 
"Stablecoin issuance is different from traditional banking, and therefore in my view it doesn't make sense to overlay the same regulations that we have for regular banks on top of stablecoin issuers," Massari said. 
Hilary J. Allen, professor at American University Washington College of Law, agreed that stablecoin issuers shouldn't be regulated as banks, but for very different reasons. In her view, treating them like banks would further legitimize stablecoins, and by extension the entire defi universe, which could present systemic threats if left unchecked. 
"I don't think defi can grow without stablecoins," she said. "Right now, I think defi is contained to the point where it won't impact financial stability. But if it grows, I think there's a real threat there, particularly if it becomes intertwined with our traditional financial system." 
So until the risks of defi are better understood, she added, stablecoins are only helping to fuel a massive unregulated market. 

A New Payment System 

Beyond the immediate regulatory concerns, proponents of stablecoins tried to shift the conversation toward the opportunities they present for the wider payments system. 
Dante Disparte, chief strategy officer at Circle, which issues the second-largest stablecoin by market cap USDC, told lawmakers that stablecoins' role as a form of payment is steadily growing, particularly among traditional financial institutions. 
Dante Disparte, chief strategy officer and head of global policy at Circle, speaks during a Senate Banking, Housing, and Urban Affairs Committee hearing in Washington, D.C., U.S., on Tuesday, Dec. 14, 2021. The hearing is titled Dante Disparte, chief strategy officer and head of global policy at Circle, speaks during a Senate Banking, Housing, and Urban Affairs Committee hearing in Washington, D.C., U.S., on Tuesday, Dec. 14, 2021. The hearing is titled "Stablecoins: How Do They Work, How Are They Used, and What Are Their Risks?' Photographer: Sarah Silbiger/Bloomberg via Getty Images
He pointed to the fact that Visa recently enabled settlement in USDC, and that Circle had recently struck a partnership with MoneyGram to handle global cash transfers.
His comments echoed arguments made at last week's hearing that decentralized finance will enable faster, cheaper, more transparent transactions. 
"I think it's profoundly in the American national interest and in our public interest that we have options for how people can move money in an always-on economy," Disparte said. "Our financial needs do not take bank holidays, and our money shouldn't either."
Alexis Goldstein, director of financial policy at Open Markets Institute, pushed back against this framing that stablecoins offer a faster or cheaper payments option. 
"As someone who's played around with sending them, both personally and sort of in my work, it often makes Western Union look cheap when you rack up all the fees that you need in order to send it from one person to another, especially when the Ethereum blockchain gets congested," she said. "It can be very unpredictable. Fees can be very high."
Alexis Goldstein, director of financial policy at Open Markets Institute, speaks during a Senate Banking, Housing, and Urban Affairs Committee hearing in Washington, D.C., U.S., on Tuesday, Dec. 14, 2021. The hearing is titled Alexis Goldstein, director of financial policy at Open Markets Institute, speaks during a Senate Banking, Housing, and Urban Affairs Committee hearing in Washington, D.C., U.S., on Tuesday, Dec. 14, 2021. The hearing is titled "Stablecoins: How Do They Work, How Are They Used, and What Are Their Risks?' Photographer: Sarah Silbiger/Bloomberg via Getty Images
She added that any speed advantages are lost whenever a user exits crypto exchanges to transfer a coin from one wallet to another, or to exchange for fiat. 
Disparte didn't discount that some blockchains were currently slow or costly, but urged lawmakers to hold out hope for innovation in the space that would speed up transactions.  
"Early blockchains are a little bit akin to dial-up internet," he said. "The argument to ban the stablecoin innovation because the current experience on certain early blockchains may be a little slower, a little cost prohibitive ignores the fact that the innovation isn't standing still."
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