U.S. Regulators Aim to Toughen Stance on Digital Assets

Although the U.S. has been slower than the EU in addressing digital assets, regulatory efforts have recently gained steam.

Strong regulatory action on digital assets has never been more imperative. The recent collapses of several high-profile cryptocurrency exchanges and the increasing criminal exploitation of digital assets have highlighted the inherent dangers of leaving the industry unchecked. Although the U.S. has been slower than the EU in addressing digital assets, regulatory efforts have recently gained steam with movement in both the Senate and the House of Representatives. 

On July 12th, Senators Kristen Gillibrand (D-NY) and Cynthia Lummis (R-WY) reintroduced the Lummis-Gillibrand Responsible Financial Innovation Act, an ambitious bill that would establish a comprehensive regulatory framework for digital assets. Key components include the following:

  • Requirement for crypto-asset exchanges to register with the Commodity Futures Trading Commission (CFTC)
  • Strong consumer protections, including the establishment of a consumer protection and market integrity authority
  • Anti-money laundering provisions
  • Risk management standards for crypto-lending
  • Requirement that stablecoins be issued solely by federally or state-regulated banks and credit unions
  • Appropriation of US$500 million each to both the CFTC and the Securities and Exchange Commission (SEC)

The regulation of digital assets in the U.S. has traditionally been fragmented, with various federal agencies unable to agree on definitions and claiming overlapping responsibilities. The bill would finally establish standard definitions and clarify regulators’ domains. Most crypto-tokens would be classified as commodities, and crypto-trading would thus fall under the CFTC’s authority. The SEC would have a much more limited role, which is at odds with SEC Chair Gary Gensler’s traditionally aggressive approach to digital assets.

Legislation at the Forefront in the Senate

A couple weeks later, on July 28th, Senators Elizabeth Warren (D-MA), Lindsey Graham (R-SC), Joe Manchin (D-WV), and Roger Marshall (R-KS) reintroduced the Digital Asset Anti-Money Laundering Act. The bill aims to crack down on cryptocurrency-related crime, close legislative gaps, and strengthen national security. Senator Warren has been extremely vocal on the national security risks stemming from digital assets, including their use by rogue states like North Korea to evade sanctions, fund weapons programs, spy, and carry out cyberattacks.

Key components include the following:

  • Extension of Bank Secrecy Act (BSA) requirements to digital asset wallet providers, minors, validators, and other industry players
  • Tougher enforcement of BSA compliance
  • Requirement for the Financial Crimes Enforcement Network (FinCEN) to finalize a proposed 2020 rule that establishes identity verification, record-keeping, and reporting requirements for digital asset transactions that involve an unhosted wallet, as well as certain risky jurisdictions
  • Requirement for FinCEN to establish rules barring financial institutions (FIs) from engaging with digital asset mixers (and other technologies that anonymize digital assets) and digital assets that have been anonymized

The reintroduction came a day after the Senate passed its annual National Defense Authorization Act (NDAA), which included an amendment requiring regulators to establish a “a risk-focused examination and review process” for FIs engaged in digital asset activities.

Regulatory Activity in the House

Meanwhile, the House of Representatives has been involved in parallel efforts. On July 20th, the House Committees on Financial Services and Agriculture introduced the Financial Innovation and Technology for the 21st Century Act, which seeks to enhance consumer protections while fostering innovation in digital assets. As with the Lummis-Gillibrand Responsible Financial Innovation Act, the bill expands the role of the CFTC in regulating digital assets. The bill has since been passed by both committees and has moved to the House floor.  

The Financial Technology Protection Act of 2023, introduced by Representative Zach Nunn (IA-03), also progressed to the House floor in July. The bill establishes a working group composed of various government departments, intelligence agencies, and industry leaders to address terrorism and the movement of illicit funds via digital asset platforms.

Although the bills are a step in the right direction, change will certainly not be immediate. They face opposition from a variety of stakeholders, and it is likely they will morph (if not get defeated or tabled) during the lengthy legislative process.

Preparing for a Shifting Crypto-Future

How should industry players adapt to this expanding scrutiny and prepare themselves for upcoming changes? The ever-evolving regulatory landscape promises to become more complex, with increasing requirements to fulfill, and firms that engage with digital assets must stay abreast of these developments or risk falling prey to criminal activity and non-compliance penalties. Firms should also look to replace legacy systems and processes for newer, sleeker ones—although they may come with expensive price tags, they will prove themselves key.

Going forward, regulatory certainty will be critical in avoiding another devastating cryptocurrency exchange collapse like those of FTX and Celsius, protecting investors from another Terra LUNA crash, and preventing the use of digital assets in money laundering and sanctions evasion. Still, there is more work to be done. Because of the transnational nature of digital assets, a global regulatory regime would be instrumental in combatting crypto-fueled financial crime and ensuring market protections. Further, regulators must also ensure that their efforts to rein in digital assets do not hinder innovation in the industry. Blockchain projects are becoming a cornerstone of global economic competition, and U.S. regulators and industry leaders are eager to make their mark. For more discussion on the future of digital assets regulation, contact me here.