US SEC Commissioner Hester Peirce on DeFi & regulation: transcript

CryptoLaw interviewed Commissioner Hester Peirce from the U.S. Securities and Exchange Commission.

You can watch the video on YouTube and we also prepared a transcript of the video for you below:

*Note: we’ve made minor editorial changes to the transcript to improve readability (for example by removing duplicate words)

Ann Sofie Cloots:

Thank you so much for making time to speak today, Commissioner Peirce. So we have Commission Hester Peirce with us, from the US Securities and Exchange Commission. Welcome Commissioner Peirce and thank you again for making time to talk to us.

Commissioner Hester Peirce:

Thank you so much for the chance to be here and to talk to you about this topic. I do want to start with my disclaimer, which is that the views I represent are my own views, not necessarily those of the SEC or my fellow Commissioners.

ASC:

Understood, and there’s so many things we could talk about, about your safe harbour proposal, digital assets in general, which has been a roller coaster – DeFi in particular. If it’s okay to you, I’d like to ask you first a question about your safe harbour proposal.

So you’ve made a proposal a year ago, and you finetuned it a little bit recently. The key idea is still the same: a 3-year exemption for token issuers for registration requirements under securities laws. And you made some tweaks including, for example, this exit procedure whereby external legal counsel can confirm whether the issuers have actually met full functionality or full decentralisation at the end of the 3-year safe harbour period.

So far, what has been the feedback on your revised proposal?

HP:

Well, I’ve gotten some good feedback, actually, I’ve put it on GitHub. And I’ve gotten some constructive feedback on there, which, which I’m still kind of working through. But I think one of the issues that, you know, people still continue to struggle with, I think, is how do we make sure that we can really figure out at the end of the three years whether something is decentralised, and we’ve provided some markers for that. But that’s still an area around which people have questions.

I think there are also questions around: will it apply to governance token, for example? How are you thinking about DAOs in connection with the safe harbour – those kinds of things? And then trying to figure out, you know, what’s the information to be provided by the project team, those kinds of issues are also things that I’ve gotten feedback about.

And then of course, the big question I get is, what is the likelihood that this is going to get adopted by the SEC, and that’s something that, you know, it remains to be seen, whether it will be adopted, but I think having it out there is important just to get people’s feedback, and to get my fellow Commissioners thinking about something like this, whether it’s this safe harbour or something else, and potentially getting Congress to think about doing something like this, if we don’t do it ourselves,

ASC:

You’re doing your best to put it out there, to get the discussion going. So one of the things you also just mentioned is disclosure, reporting, information to be given by in the three year safe harbour period. And there’s this argument in decentralised finance – DeFi – about, “well, we don’t need the same kind of reporting obligations in DeFi because of the way it works. It’s on-chain transparency, it is decentralised, we don’t have the same information asymmetry between the insiders and the outsiders that we may see in a traditional company.” So the argument goes, in that case, we don’t need the same rule book for DeFi as we need for traditional finance. The asymmetry of information is different,  insiders-outsiders, agency costs may be different. What’s your view on that line of argument?

HP:

Well, I think that it’s fair for us to have a conversation around how we should regulate this new area. You know, I am not of the mind that simply because we’ve been regulating in one way for a long time means that when something new comes along, the same kind of regulation is appropriate. So I think there are some advantages to DeFi that maybe do warrant rethinking the regulatory structure. It is intended to be more transparent, access is intended to be on equal terms for everyone. And those kinds of things are good.

Now, the caveat, of course, is that the transparency, you know, it does sometimes require some work for the person trying to get through and understand what’s going on. And so, you know, people who are involved in the DeFi community need to be honest with themselves about the actual underlying software, the code and what is actually going on. I think there can be a tendency to get so excited about a protocol that you’re not actually looking at the details of how it works in practice. And so people need to remember that if they want to embrace this new regulatory approach where we’re sort of saying that the SEC or other regulators don’t need to be as involved because there is this code out there that everyone can look at, that means that people actually do have to look at the code. So with greater freedom comes greater responsibility.

ASC:

And so much has been happening in digital assets and DeFi over the past years, months, weeks. Certainly not easy for any regulator to keep up to date, because obviously, DeF and digital assets is just one of the many things you look at.

At this point in time, what do you think are the key open legal questions in digital assets as such, and in DeFi in particular?

HP:

Well, I think you’re right to point out that this is just one of many topics that regulators are focused on. And often it’s difficult for people who are working in the crypto space to remember that there’s a lot of other stuff going on at regulators. Regulators are generally slow anyway. But then, you know, given that there’s a lot on their plates there, maybe even slower. And given that crypto is moving so fast, it seems like they’re even slower.

I think there are a number of open issues. My safe harbour is intended to address this issue of when it’s unclear whether the securities laws actually do apply to a token distribution event. Here’s a way to kind of get around having to answer that question directly for the beginning years of the project. I think there are a lot of questions around custody of digital assets by traditional financial institutions. I think they’re the kinds of issues that you’re raising, which are sort of these more meta issues around: how should regulation apply when you’ve got technology that allows you to do things and to push information out in a way that you couldn’t push it out before? So I think there are those kinds of issues as well.

And then, for us, a question I’m always getting is, you know, when are you going to start allowing exchange traded products to be built on top of digital assets, such as Bitcoin or ETH?

ASC:

I can imagine you get that question quite a lot. Obviously, in the industry, as well, in the DeFi and digital assets market, people are working on solutions, trying to find out what to do with privacy, zero-knowledge proofs, what to do about potential allegations of market manipulation in mempools. Obviously, the industry itself is also advancing and trying to come up with solutions.

What do you think is the right balance between having industry explore and come up with solutions and intervention from regulators at some point, even lawmakers? Do you think we’re anywhere near that balance for DeFi?

HP:

I think we’re still working on that balance. It is important for it to be a shared enterprise and trying to develop the right regulatory structure. And by right regulatory structure, I mean, that allocation of responsibility between the private sector and the government sector. And, you know, I think we should be open as I said, to rethinking the regulatory structure. People involved in the space should be eagerly working on trying to show how they can regulate the space themselves. And I think that will be helpful then to regulators, to make regulators more comfortable to know that there are actually people who are trying to think about how to build self regulation in from the ground up as they’re building DeFi. You know, this is going to be, I think, a long conversation. I don’t think it’s something that’s going to get resolved this year or next year. But I think it can be helpful for us as regulators to see that there are people who are thinking about the same kinds of problems that regulators think about, and they’re trying to address those, you know, either on a self regulatory basis, building it into the code itself, or, you know, working with other people in the community to try to build norms into the behaviour and the activities in the space.

ASC:

Yes, and of course, industry can play a role academia, academics can play a role.

Are there any specific pain points or key issues that you say “it would really be helpful for myself, my colleagues or regulators working on other legal questions on DeFi” to get input from? Are there any knowledge gaps that you see, where you could use more input from academics, from industry, from any thought leaders?

HP:

Well, there’s certainly a lot of knowledge gaps for me. I know, it can be quite daunting to try to learn about this area. So anything that anyone could do to simplify matters for someone who’s not particularly technical, would be helpful. And I think then, thinking down the road in terms of what might be coming: so I know a lot of academics are thinking about DAOs and what that means for interaction with our current legal framework. That kind of thinking is really helpful. And then thinking about issues like what, you know – because academics probably are more aware of the activity going on in the DeFi space – thinking about where those interactions are now with the securities laws and other financial regulation. And, you know, thinking about where it makes sense for a regulator, like the SEC to get involved and where it doesn’t make sense. So I think those are some things that academia and industry can be involved in.

And then I guess, just a more basic point would be, you know, people who are so deep in the DeFi space, or in the crypto space, sometimes forget to translate for the rest of the world, what the actual value is that they see in the space, and what they see, you know – often when there’s something new like this, the activity at the beginning is not reflective of what its gonna look like, in five or 10 years. And people are experimenting, they’re building, they’re trying things. But that kind of experimentation at first this looks very different from what it will look like later when there’s more mass adoption.

And so trying to just look down the road and help us regulators see what the mass adoption phase will look like, I think could be very helpful. Because the one issue I’ve noticed with my fellow regulators, when they talk about this, is they write it off, because they think it doesn’t bring anything new or anything valuable. And what I want people in the space to be able to explain to my regulatory colleagues is that: no, actually, all of this experimentation and activity that’s happening now is going to build the basis for a better financial system, which is probably going to be a mix of DeFi and CeFi.

And then also building a better way for people to cooperate with one another and to transact, to transfer value. Those things are really important, not only for coordinating human activity, but for making sure that people all over the world and in parts of society that have previously been shut out of the financial system and the economy, are brought in and are able to contribute their time and their talents and are able to get paid for their work.

That’s where I see the real hope of this sector. And I think sometimes the sector doesn’t do a good job of communicating that longer term vision for what they’re trying to build.

ASC:

So we cannot just blame regulatory uncertainty, we also have to find out what can we do with the technology that, as you say, many people are very enthusiastic about, it’s maybe written off as speculation or nothing new would show the promise and show where it can meet.

I know we’re running out of time and I had many other questions. Perhaps one final question would be: the SEC has taken a very active role – compared to many other regulators – an active role in enforcing and issuing guidance. You have taken a very active role talking to people explaining your views, proposing the safe harbour.

What do you think the role is of the SEC, at the global level, in setting standards and perhaps getting the discussion going and influencing where we may be heading with regulation or the general legal approach to DeFi?

HP:

The SEC has been an active participant. And I will say that, in general, international regulators have been working together on this, on crypto issues, for a long time. And one of the nice things about it is that there really has been a lot of input from a lot of different regulators all over the world. Because different regulators are experimenting with different approaches as well. So it has been a really nice collaboration.

One thing I hope that the SEC can do is to really put that positive view out there that we can build a good regulatory structure that allows really important innovation to happen. So we can show people that you can approach this area with an openness – but also, you know, taking your regulatory mission seriously – but an openness to the innovation that it brings.

Now, has the SEC done as good a job on this front as I would like it to? Absolutely not. We, you know, I think we’ve been overly conservative and overly negative about this space. But at the same time, I think we’ve taken some important steps like cracking down on fraud, which is something that we want regulators all over the world to be doing as well. And engaging actively with people in the space. So I think that’s another thing that we’re showing the importance of. So we have work to do. But I do think if we take the right approach, we can be a positive influence on the global regulatory policy in this area.

ASC:

Certainly, and best of luck with that. Thank you again, so much for making time to speak us about DeFi.

HP:

Thank you, Ann, It was a pleasure to talk to you.

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