Is Less Really More? Examining Crypto's Evolution and the Effects of Financial (De)Regulation

Transcription:

Nikhilesh De (00:09):

Holly and thank you all of you for joining us. As Holly said, my name is Nik. I'm a Policy Reporter at Coined US covering crypto and regulations. So it's been a very quiet week for me. Thrilled to be joined by Gordon at Circle. I'm sure he's also having an equally quiet week. Before we get into the meat of this, can you just quickly introduce yourself and tell us what Circle's up to right now?

Gordon Liao (00:33):

Sure. Gordon Liao, I serve as the Head of Research and Chief Commerce at Circle. Circle, as many of you guys might know, is a issuer of payment stablecoin based in the US. It's the largest regulated payment stablecoin issuer. We issue USDC as well as the Euro version. URC two tokens are widely available on public permissionless blockchain. Myself, I come from a background of traditional finance, started in fixed income trading at the Harvard Endowment and worked at the Federal Reserve before joining in this industry.

Nikhilesh De (01:14):

So over the last, let's say three or four weeks, we've seen regulators throughout the US kind of take a step back in terms of enforcement drop cases in the SEC's front take out rules. We've seen Congress introduce bills right now or something that today the house is expected to vote on a tax rule to basically just overturn in IRS tax provision. We're heading towards, it looks like a more deregulatory or deregulated environment than we've seen in the last four years. Broadly, what does that mean for the crypto sector at large and for companies trying to get into it?

Gordon Liao (01:54):

Yep. So first of all, I don't think it is necessarily deregulation. In fact, most of this industry, at least the more serious players in Circle Armando, have been arguing that we need proper regulation of the sector for it to really grow into its potential, which is tokenization of financial markets and use of blockchain for real financial market activities. We've been asking Congress for that. We've been asking many regulators around the world for that for the last couple of years. And in the last administration, unfortunately there was actually very little that got done from a proper regulation from a congressional standpoint. There were many regulation by enforcement type of actions by the ICC, but those were not really true regulation that someone could build a company around for other industry players to enter into the market. So what we're seeing over the last couple weeks is there has been some waters to lift things like SAP 121, which is an accounting rule that makes holding crypto very difficult for traditional custody players.

(03:06):

But we are also seeing equally this incoming wave of potential regulation. I think there's currently three stable coin bills in circulation being discussed actively, the genies acting, one of those that's in the forefront along with market structure bills. And finally we're seeing for the first time the US is starting to catch up with the global regulatory environment. We have already seen rules in Europe, the markets in crypto assets rules in Europe that were enacted that actually has started to put a proper framework around crypto assets in stablecoin as well. We've seen rules in Hong Kong in Singapore and Japan. Finally, for the first time, we're seeing the US regulators start to get very serious about this and perhaps we'll see some form of regulation that would actually support players in this space. Not only the current digital asset firms, but also perhaps new entrant traditional banks and also non-bank financial institutions to be serious and take this technology seriously rather than leave it to the wild west of only using it for perhaps memecoin trading. I think the lack of seriousness was in part because the lack of regulation.

Nikhilesh De (04:30):

So you mentioned the stable, sorry, the genius Bill, that's the senate effort to create a stable HO legislation. There's two efforts in the house, one from Republicans, one from Democrats. You mentioned the market structure bill, say some of these bills actually become law and we get new legislation around this. What does that mean for both incumbents in the crypto sector as well as more traditional financial institutions like banks that are looking at this sector right now?

Gordon Liao (05:00):

Well, one will introduce a proper framework for people to compete on a level playing field that is both for the incumbents in this sector, but also for new entrants to intervene and provide services to their customers. I think that's very much a growing space. Think of blockchain as the introduction of the internet. It's going to be there and it's going to be used widely. And I think having these regulations that could foster the proper usage of these innovation, it's only going to introduce competition and it's going to only open up markets for incumbents for traditional banks as well. And so I think there's no shortage of potential usage once the bills get passed.

Nikhilesh De (05:52):

What do banks need to know if they're trying to get into this? Even ignoring the legislative front, what should they know about crypto blockchain meme coins?

Gordon Liao (06:02):

I think some of the banks actually know quite a bit. If you look at the largest G-SIBs in the us, whether it is JP Morgan or Citi, and these banks have been looking at blockchain type of solutions for years. Goldman as well. There also have been experimentations around the usage of blockchain for intraday repo, for instance, JPM coin and JPM blockchain. So I don't think this is new technology, but it's always been viewed as experimentation so far because it's been viewed as risky by banking regulators. But I think this time is actually, it opens up the opportunity to take this technology seriously and actually invest in the innovation, invest more human resources, invest more capital into examination of blockchain for a variety of use cases. And you sell the start of this with non-bank traditional financial institutions, BlackRock, issuing ETFs, and also having tokenized funds that's on chain, but more and more so I think for the banks, they'll had to catch up a little bit, but I don't think they had to catch up that much, especially for some of the incumbents that's already been playing around with the technology. I think it would just be very much getting into the space simultaneously at the same time as the expansion with non-banks in this space as well.

Nikhilesh De (07:29):

In terms of looking at this from the other side, in terms of demand, what kind of demand is there from retail users or institutional users for financial institutions or even stable coin issuers like circle to provide stable coins or other types of payment tokens?

Gordon Liao (07:47):

At the end of the day, I think the end users are not necessarily demanding that you have to use crypto, you have to use blockchain for whatever activities. The end users are demanding faster and cheaper payments. They're demanding more efficient credit intermediation, they're demanding higher deposit rates, perhaps a more competitive dynamic on that front. I think this is a technology and tool in which you could solve some of those latent user demands, but it's not necessarily that users are demanding for just the trading of crypto assets. So there is two segments of crypto, right? One is crypto as a asset class and certainly there is a set of activities around it, whether it is custodying crypto assets or trading crypto assets. And that is currently being filled, the role is being filled by crypto exchanges, but then there is a whole segment of usage of cryptography, usage of blockchain and tokenization for better enabling traditional market intermediation services enabling more transparency in market prices.

(09:01):

The prices of various type of illiquid assets would enable faster payments globally, and that's been looked at from multiple angles. From the private sector side, we looked at cross-border payments, but also from the official sector there has been a lot of experimentation with things like cross-border sediments using digital currency. Sometimes it's called central bank digital currency, which is not necessarily taking off, but the usage of underlying technology has been the same and the goal has been the same of offering cheaper services and better services for the end users. If we look at today on the cross-border payment space, the cost of sending dollar or sending and exchanging to a different currency in end user remittance still remains quite high. I think by World Bank estimate, it's still the average cost of remittance is around 6 or 7%. That is a quite heavy chunk of cost taking out of those who are actually in need of payments.

(10:06):

But even corporate payment side, the delay in payments that because it goes through multiple corresponding banks in between and other liquidities are locked up in between. It takes sometimes days and sometimes up to a week for payments to get from perhaps the importer or the exporter to the end users. And that sort of delay in payments is really costly for businesses as well. So I think the end users will end up demanding these improvements and using the technology, but not necessarily, they don't necessarily need to know that people are, the financial firms are using blockchain or using tokenization to better service them.

Nikhilesh De (10:53):

So jumping back to something you mentioned earlier over the last couple of years, we've seen a lot of companies in crypto say they're going to set up offices outside the US because the regulatory environment was either too hostile here or with Mika in Europe or other regulations in different countries just friendlier for them. Now we're seeing again, kind of a lighter environment in the us. Do you expect a lot of companies in a lot of this capital to try and come back to the US to take advantage of the current environment?

Gordon Liao (11:30):

Well, the president have stated that he wants to make America the crypto capital of the world. I think there has been always a lot of activities outside of the US in part because the regulatory environment, in part because a lot of development just happened to happen in those markets in Asia, for instance, where crypto really took off in parts of Latin America in which the usage of payment stablecoin for instance, took off. I think there's always going to be those type of activities, but if you look at the true innovations, I would say that the US have a fair share of that innovation. If you look at all the VC firms are based right here in San Francisco in New York and the largest crypto developer ecosystem in New York and sf, it's already a very flourishing type of environment and it's hopefully only going to get better for that sort of development and innovation.

Nikhilesh De (12:34):

And so bringing this back to banks and financial institutions, is there a world where they could get more involved on the developer side, not just for the financial aspect of it, but would it make sense for them to look into being part of a node or staking or trying to contribute to the actual code basis for these projects?

Gordon Liao (12:55):

Absolutely. I think there is ample opportunity to do that. And many of the banks have experimented with the technology for the larger banks, of course they have very large teams to do this, but even for smaller banks, I think they have opportunity to participate in this somewhat decentralizing force because the ecosystem is so open to anyone joining. All the code are all in the open GitHub. So development in this space is happening at a rapid pace, not only because there's quite a bit of energy and momentum behind the innovation, but also because the whole space have grew out of this somewhat decentralized ethos of developing things together, putting the code out there for everyone to review. And some of these open source code have now been used as the core foundation, for instance, private blockchains for institutional usage. So it definitely opens up the possibility for smaller banks and smaller institutions to engage as well.

(14:08):

And it always struck me. So before I was at Circle, I was at a smaller protocol lab called SWA Labs, and at the time it was about 30 employees. Now it has maybe a hundred employees, but it has been one of the largest decentralized automated market maker out there developing protocol. The reason I mentioned that is because you almost just never see that, right? It's such a small team being able to deploy products on a global scale and being adopted everywhere. I think that is only possible because you have the open source nature of the cold, you have the community contribution, and you have the ability to also garner the attention of the globe public blockchain. And I think the nature of blockchain allows many more participants to enter, but also opens up the market to quite a wide variety of user base as well.

(15:12):

So to me, I think it is going to be a force that help many of the smaller institutions to perhaps leapfrog a set of technology developments that they have been experiencing that has been slow. And if you think about the push for open banking, open banking by nature has been a push that is quite difficult because of the technology silos of different banks. But if you put it onto an open blockchain type of platform, then all of a sudden you could leapfrog some of the hurdles that we faced with open banking adoption and open banking APIs all of a sudden just jump to this next level of openness of shared code base and shared understanding as well.

Nikhilesh De (16:04):

So one of the things that kind of strikes me about a lot of crypto stable coins in particular, I know there's a stablecoin panel later, but just to briefly get into it, the majority of stable coins circulating right now are denominated in US dollars. Is that where all of the demand is? Is there interest in easily converting to different local currencies around the world or is the US dollar just still so dominant that this is the currency people want to play with?

Gordon Liao (16:33):

But certainly the US dollar has been dominant in global trade regardless, and in some ways blockchain does amplify that dominance, but we're also seeing the emergence of a number of local stable coins that is denominated in local currencies. And I think that's actually really healthy and it actually helps to bootstrap this on chain market for foreign exchange. If you think about how this model of a stablecoin sandwich type of payment works is you have conversion of fiat money from one currency into a local stablecoin and perhaps a stablecoin versus stablecoin type of exchange into a different stablecoin, different currency. And then at the other end you have this perhaps conversion from that other currency stablecoin into the local currency again. So that model is starting to emerge, and I think I could actually help some of the countries to almost better facilitate transparency into capital inflows and outflows because today the transactions on these public ledgers are visible to everyone and some of the firms are starting to track geolocations as well of probabilistically how much of transaction are going on in different jurisdictions and different countries. So I think it'll bring a level of transparency to those countries and it will actually help foster the ability to better facilitate capital inflows and outflow in transparent way.

Nikhilesh De (18:19):

So in a few minutes, we're going to open up to audience questions. So if you want to ask one, just start thinking about those. I want to switch gears to the White House and the not busy week we've been having. So tomorrow there's going to be a summit US president Donald Trump is hosting a bunch of crypto executives. There's been no agenda shared and we don't actually have a complete guest list either, but I'm just curious if you have any expectations or predictions at this point on what we can expect from that summit and what that might mean for crypto markets and companies trying to operate here?

Gordon Liao (18:56):

It is very unpredictable with the administration and I think there are two sides to the two sides to the development of just crypto regulation and governmental actions. One is more frankly, I think a lot of it is driving quite a bit of price volatility in the crypto market. And that might be related to all these discussion about crypto strategic reserve. And I think that was announced last weekend or previously, but then reemphasized again last weekend. On the other side, you have serious agencies and regulators looking at proper rules to adopt the technology. So you have the ICC having a crypto task force that is examining what type of regulations needs to be in place and what clarifying rules needs to be in place. You have Congress working with other regulators, the Fed, the OCC and et cetera, looking at the role of stable coins and tokenization of financial markets. Those are very different, I would say, than the discussions about crypto strategic reserve and the price actions that those my bring. So we'll had to see what is the announcement tomorrow? I mean is anyone's guess at this point.

Nikhilesh De (20:27):

So I want to ask a bit about the reserve. President Trump announced five crypto assets that would be part of the reserve on Sunday. Does it make sense to have a, I guess first off, does it make sense to have a strategic reserve of crypto?

Gordon Liao (20:46):

That is a question that I don't want to directly answer, but I am trained as an economist. I can give you the economist view, which is many countries hold FX reserves. Many countries hold gold as part of the reserve. So to the extent that something like Bitcoin is widely considered as a commodity with limited quantity and many people consider as a form of digital gold, even recently I think BlackRock included in their model portfolio, you could potentially foresee some version of Bitcoin being included as a reserve and having a good argument for it from a economic principle perspective. For the other tokens, I think that's really up for debate. And I could think of one argument potentially being if you believe that these utility tokens that are part of these blockchain networks could facilitate transactions later on and transactions because there are gas tokens that you had to use these gas tokens to pay for transactions on these networks. Perhaps there's some need to accumulate some amount of it for transactions later on, for instance of payments or tokenized assets. But I think that's a bit of a stretch from the utility standpoint. So I'm not entirely sure that I don't have a good economic answer for a justification for why you necessarily have to have that basket of tokens. But setting aside, I think the broader focus is to embrace the technology and the assets are what it is, but the technology is almost separate from the assets.

Nikhilesh De (22:49):

Gotcha. And then understood on the agency front, so as you mentioned, the SEC is launched a crypto task force and is withdrawing or pausing more than half a dozen different ongoing cases at this point. Do you think agency actions like that are sufficient for long-term crypto industry success? Or does Congress really need to actually get into this?

Gordon Liao (23:21):

I definitely think congress needs to get into it rather than just agency actions because it's very polarizing depending on the administration, depending on who's heading the agency at the time that the prior SEC Andrew Gensler have went after many of the crypto firms, the largest crypto firms, and now many of the cases are being dropped, you just can't build that sort of volatility if you're a large institution and financial institution thinking about do you want to adopt the technology for the next couple of decades? You cannot make that sort of bet if the foresight of whether there's legal or not is only four years at a time, you definitely need Congress. But also there's a need for international coordination as well. If you look at the rules as been, or at least the guidelines to then put out by international organizations such as the BIS or FSB, that also speaks to the need to have national regulation that could stand time, the types of time and could sync up with other nations in a coordinated way, especially because you're regulating something that's so global in nature.

Nikhilesh De (24:46):

Awesome. So we have about five minutes left. I think we have our first sliding scratch right there, sir.

Audience Member 1 (25:01):

Thank you so much. Insightful discussion. Knowing that most of us here in the audience are bankers, we're reflecting on the launch of NIG N-Y-D-I-G in 2017 and maybe in 2022 there was a bank and a credit union even after them signing nearly every major core processor, FIS and Fiserv. What's your view on banks offering digital currency services the same as PayPal or block or even circle and is circle's, APIs and SDK available to integrate into a bank's digital banking platform? And is this a market opportunity, which none of the, other than those two announced by NIG that I know of in the country are doing it, are they missing a major opportunity?

Gordon Liao (26:00):

I think today if you ask VCs and fintechs, they would say that every financial technology firm needs to have a stable coin strategy. I think the same would apply for banks that you had to seriously look at this as a leapfrog change in the core technology stack, but also really leapfrog change in the way that money moves around in the way that balance sheets gets transferred. So if you're not looking at it, then you do risk not competing in that space. And many the fintechs are looking at it. Yes, the APIs and SDKs are available for usage with banks. I think there are some pending banking regulations and guidelines of perhaps holding stablecoin or holding stablecoin on balance sheet, but hopefully this year there will be much more clarity on that. And of course, I think some of the banks are interested in getting into issuing stablecoin as well, and I think that's something really welcoming that there should be competition in that space.

(27:16):

But I would also emphasize that stablecoin is a broad term that captures many things. You have to really look at what is the asset backing for the on chain liability? Is the asset backing full reserve? Is the asset backing T-bills or is the asset backing loans and regular bank assets? That would have different implications for how attractive it is to end users, as well as how risky it is to the financial institutions that's issuing them and how interchangeable it is with other type of stable coins that are issued by other entities with different asset backings.

Audience Member 1 (28:00):

Thank you.

Nikhilesh De (28:01):

Do we have any other think in the back?

Audience Member 2 (28:07):

How do you reconcile Bank SEC Act and transparency and travel rules against cryptocurrencies, and then what the changes over the years? How do you reconcile the two and where do you see that coming out, especially with the president's announcements?

Gordon Liao (28:24):

Yeah, I think there shouldn't be a trade off there, right? The technology exists to better track, better monitor transactions and fulfill all the requirements. So in some ways, there is actually stronger deterrence force with blockchain. You have cases of prosecutions of illicit transactions that goes back for years because the data doesn't go away currently. And in some ways, you should be able to harness the technology to fulfill all those requirements. And certainly as a regulated player in this space, we take this very seriously and we have a very large compliance effort in which we check out the boxes and we're operating at the same standards as essentially all the other payment firms. Now with proper regulation, we hope to even upgrade it even more. So I don't think there's necessarily a trade off. There's plenty of technology solutions out there, and I think it actually will make payments safer.

Nikhilesh De (29:31):

I think we have about 30 seconds. If there's any last quick ones

Audience Member 1 (29:38):

You want me to take. I don't want to dominate. Does anybody,

Nikhilesh De (29:40):

I don't see any other hands up. So

Audience Member 1 (29:43):

Gosh, all this talk of legacy networks carrying new alternative payment types. Last week we saw the announcement of MasterCard one credentials prior to that Visa flexible credentials. Do you see a business case for these heritage networks to carry or route these crypto transactions? And what would be the use cases?

Gordon Liao (30:07):

I wouldn't consider 'em as legacy, right? First of all, they have a very captive set of customers, end users, and that's very important. I think Visa sees themself as a way of providing services to this customers, and they could use blockchain as part of their stack of solutions, but ultimately it's not about legacy in terms of adopting the technology or not adopting technologies. They have the customer base, and I think they should use better technology.

Audience Member 2 (30:38):

Well said.

Nikhilesh De (30:39):

That's all the time we have, but I want to thank Holly and the American Banker Crew for having us. Thank you, Gordon. And thank you all for listening.