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Additional Comment on SEC's "Exchange" Proposal; Senate Homeland Security Hearing on Crypto & Ransom

Our Second Comment on SEC’s Exchange Rulemaking


On Monday, we submitted a second comment letter in response to the Securities and Exchange Commission’s (SEC) proposed rulemaking that would, in part, expand the definition of an “exchange” to include persons who “make available” “communication protocol systems” that may allow people to express an interest in trading a security. It takes a far more “macro” lens with respect to the Proposal’s deficiencies compared to our first letter. We broadly argue that the Proposal represents an improperly static regulatory response to a dynamic innovation and therefore needs to be reconsidered in total. Commissioner Peirce made similar arguments in a speech she delivered this week.

Digital planet with a dollar sign.

The ball is now in the SEC’s court. To date, the Commission has accepted public comments on the proposal during two 30-day windows, and it is now considering those comments. From here, the SEC could quickly finalize and adopt the Proposal sometime this year, or it could “sit on” the idea in perpetuity… we don’t know, but we’ll be ready if it’s the former.


Senate Homeland Security Committee Holds Hearing on Crypto and Ransomware


What Happened?


Last Tuesday, the Senate Homeland Security and Governmental Affairs Committee held a hearing with a panel of industry witnesses to discuss how Congress should address the threat of ransomware and understand the role played by cryptocurrencies in facilitating it. The panel included executives from Chainalysis, the Institute for Security and Technology and Coveware.


The hearing provided policymakers with crucial information regarding the extent to which cryptocurrencies are being used for ransomware attacks, which cryptocurrencies are preferred by bad actors and what steps legislators, regulators, and/or law enforcement could take to increase their enforcement capabilities.


Jacqueline Koven, Head of Cyber Threat Intelligence at Chainalysis, provided most of the insight on crypto-specific issues.


Koven explained that criminals are attracted to this asset class for the same reason that investors and ordinary users are – the markets are liquid and permissionless, the transactions are peer-to-peer, and users are afforded pseudonymity.


She went on to acknowledge that while Chainalysis’ research found that illicit activity only makes up about 0.15% of crypto transaction volume, crypto’s unique features have begun to attract bad actors. Law enforcement needs to equip themselves with the tools and expertise necessary to effectively meet their policy goals.


What does this mean?


The high-level takeaway from the hearing was that the tools and the resources to equip law enforcement to effectively policy crypto-markets already exist, as has been proven several times. The witnesses generally advocated for bolstering law enforcement’s appropriations to use existing tools (like blockchain analytics) more broadly, which is a good idea. This approach adapts to how crypto-markets operate instead of focusing on applying intermediary regulations to novel entities. Overall, the hearing was positive, as the witnesses delivered an important message to senators: law enforcement is capable of meeting policy and enforcement goals in the crypto ecosystem.


DOJ Issues First Executive Order Report


What happened?


The United States Department of Justice (DOJ) submitted one of its reports in response to President Biden’s Executive Order on digital assets from March 2022.


Entitled “How To Strengthen International Law Enforcement Cooperation For Detecting, Investigating, and Prosecuting Criminal Activity Related To Digital Assets,” the report was produced by the DOJ in collaboration with other agencies like the SEC, Commodity Futures Trading Commission (CFTC), Department of Homeland Security (DHS), State Department, and the Treasury Department.


The report outlined three specific ways in which law enforcement can keep up with technological advancements in crypto and improve its enforcement capabilities:

  1. strengthening and expanding their operational capacity in coordination with foreign law enforcement officials;

  2. deepening information and data sharing capacity with foreign law enforcement officials to prevent the potential for jurisdictional arbitrage by criminals; and

  3. establishing relationships with blockchain analytics firms in the private sector that have developed tools and technology specifically geared for countering illicit activity in crypto markets.

Based on this report, it appears that the DOJ is confident in its ability to utilize blockchain analysis tools to trace the movement of digital assets on chain, but it is concerned with the potential for jurisdictional arbitrage by bad actors seeking to cash out ill-gotten assets at non-compliant custodial exchanges around the world.


What does this mean?


In general, the suggestions in the report appear “on point.” Rather than advocating for policies and regulations that reject (or would seek to alter) the dis-intermediated, peer-to-peer nature of crypto transactions, the DOJ seems open to continuing to modernize the enforcement approach that FinCEN began developing nearly a decade ago. In addition, non-compliant custodial crypto businesses have long been a major “gap” in the international AML/CFT regime (as is the case in TradFi as well), and we welcome DOJ’s focus on closing this gap.