Policy Newsletter

Carta Policy: Lawmakers rethink crypto regulation following FTX meltdown

18 November 2022
The Carta Policy Team

The Topline

  • Republicans will control the House next Congress, while Democrats maintain Senate majority; Speaker Pelosi to step down from Democratic leadership

  • Congress posturing for legislation on broader crypto framework and stablecoin regime

  • House Committee previews legislation to rework disclosures for private funds and raising capital in private markets

  • Treasury competition report outlines gaps in fintech regulation 

We will not be sending out a Carta Policy Newsletter next week in observance of Thanksgiving. We hope you are all able to take some time and enjoy the holiday. As always, thank you for reading.

Macro matters

118th Congress takes shape

Republicans cleared the threshold necessary to gain control of the U.S. House of Representatives, though they will have a much smaller majority than originally anticipated. Democrats held the Senate, with the December 6 Georgia run-off election determining whether they will have a one- or two-seat majority. With control of the House, Republicans will be able to block legislative action on key Democratic priorities and use subpoena power to conduct aggressive oversight of the administration and regulators.

Republicans convened their internal leadership elections for next Congress, and Rep. Kevin McCarthy and Sen. Mitch McConnell easily defeated challengers to win their party’s support to lead. Sen. McConnell secured another term as Senate Minority Leader, and Rep. McCarthy’s quest to become Speaker of the House cleared its first hurdle. The full House will vote on the next Speaker of the House on January 3, but Republicans’ slim margins in the chamber could complicate Rep. McCarthy’s bid.

On the Democratic side, we have reached the end of an era. Speaker Pelosi, the first female Speaker of the House, will step down after leading the caucus for 20 years. Both Speaker Pelosi and Majority Leader Steny Hoyer announced their plans to step down from their leadership posts, paving the way for a new generation of party leaders. Rep. Hakeem Jeffries is expected to lead House Democrats next Congress. Senate Democratic leadership is not expected to change, with Sen. Chuck Schumer serving another term as Majority Leader. 

With a divided Congress and slim majorities, there will be few opportunities for bipartisanship next Congress, but some areas—like regulating crypto (more on this below) and capital formation—have the potential for compromise. 

Lame-duck outlook: Too many goals, too little time (or support)

With just weeks remaining in the current legislative session and two time-consuming, must-pass items on the docket—government funding and the National Defense Authorization Act—members will attempt to attach outstanding priorities to these end-of-year packages. Tax and healthcare extenders, retirement reform (more below), mental health support, and insulin caps are some of the contenders. The administration had hoped Democrats might secure a bipartisan debt-limit increase before the end of the session, but the issue is unlikely to gain any Republican support.

Carta Equity Report

Carta released its annual equity report, which looks at equity ownership across race, gender, geography, and ethnicity, with the goal of expanding opportunity across the venture ecosystem. On December 7, Carta will host the Carta Equity Summit to highlight progress that has been made and discuss challenges and solutions to closing the equity gap. Register here.

Capital markets

HFSC releases legislative proposals to increase transparency in the private markets

House Financial Services Committee Democrats unveiled a number of legislative proposals that would have significant impacts on the private markets. Among other things, the proposals would require private fund advisers that file Form PF to disclose beneficial ownership information and require issuers raising capital under Rule 506(b) or 506(c) of Regulation D to pre-file a notice of sale and closing amendment. The proposals would also give the Commission broad authority to expand information collected on Form D, and condition the use of the exemption on filing Form D. The legislative proposals were released in connection with a hearing focused on U.S. investment in Russia and China, despite their applicability to the private markets more broadly. While we do not expect the bulk of these measures to advance, they do help provide cover for the SEC to act. The SEC has already proposed expanded Form PF reporting and other private fund adviser reforms and is expected to consider changes to Reg D over the next year. Carta has and will continue to engage on these issues to streamline access to capital and investor access.

SEC sets records with 2022 enforcement statistics

The Securities and Exchange Commission’s enforcement filings jumped by 9% in 2022, with a total of 760 actions filed and a record $6.4 billion ordered in civil penalties and disgorgement. Despite Republican criticism of the agency’s use of enforcement to regulate, we expect the aggressive examination and enforcement efforts to continue, including through the use of high-impact cases to change behavior. The SEC highlighted its continued focus on the crypto industry amid the vacuum created by a lack of legislative action, noting that its revamped crypto-focused unit nearly doubled in size in 2022. Expect more to come on this front in light of the FTX collapse. Among other areas, the SEC is expected to focus on the private fund industry, particularly around conflicts of interests, fees, and disclosures. Gensler has expressed concerns with the growth of the industry and its interconnectedness to the economy, both from an investor and capital-access standpoint. The SEC has touted actions against large broker-dealers for failing to properly maintain records of work-related communications on personal devices and is now allegedly probing electronic communications practices of large equity firms, as well. 

Carta’s releases State of Private Markets report for Q3

Deal activity and value have declined every quarter in 2022, falling back to pre-pandemic levels. Deal volume fell 30% from Q2, the biggest quarterly decline since 2016. Series C saw the sharpest declines both in terms of volume (52%) and cash raised (80%). While seed funding looked more resilient earlier this year compared to other stages, the venture slowdown has reached the seed stage, though pre-money valuations have remained steady. The report also covers employment trends, which shows involuntary job departures are increasing and departures by choice are falling. Read more about which industries, stages, and geographic regions are being most impacted here.

Crypto & digital assets

FTX failure ignites Washington’s crypto concerns

The collapse of FTX, which before its implosion was the world’s third-largest crypto exchange by trading volume, continues to dominate the conversation in Washington. In bankruptcy court filings this week, FTX’s new CEO—a 40-year veteran who handled the Enron restructuring—highlighted unprecedented failures in corporate controls at a level he had not seen during his career. Such revelations could be damaging to the private fund industry, who have been under fire for a lack of diligence in connection to investments in FTX. 

Washington’s scrutiny of FTX and the broader industry is unlikely to wane; both the House Financial Services and Senate Banking Committees are planning hearings on the exchange in the coming weeks. FTX Founder Sam Bankman-Fried, in addition to representatives from Alameda Research, Binance, and other FTX employees, are the targeted witnesses. Hearings on the regulatory response and oversight are most certainly to follow.

The spectacular collapse and resulting crypto contagion spurred by FTX will likely accelerate congressional negotiations on legislation to establish a regulatory structure for the crypto industry, though we do not expect a final legislative framework until next Congress. Lawmakers in both chambers have engaged in bipartisan efforts to craft legislation to give the CFTC and SEC some combination of authorities to regulate cryptocurrencies and crypto exchanges. While bipartisan efforts have been underway for some time, FTX’s contributions to the bills’ development, though typical of a major industry stakeholder, has raised new concerns about the existing proposals. Regulators, including CFTC Chair Rostin Behnam and Treasury Secretary Janet Yellen, are pushing Congress to move swiftly to establish a crypto regulatory framework. With a legislative solution not expected until 2023, however, the SEC, DOJ, and other regulators are actively investigating FTX’s operations and may levy considerable enforcement actions against the exchange and its principals in the coming months. 

Policymakers push for stablecoin legislation

Leading policymakers—the top Republican on the Banking Committee, Senator Toomey, and House Financial Services Committee (HFSC) Chair Maxine Waters and Ranking Member Patrick McHenry—are advocating for an agreement on bipartisan stablecoin legislation in the lame-duck session, though it will be challenging to get done in such a short period. The legislation would focus on stablecoins—a narrower subset of crypto assets that are tethered to another asset, as opposed to the full suite of products managed by exchanges like FTX. Representatives Waters and McHenry are working on their own federal framework bill for stablecoins, while Sen. Toomey is backing a bipartisan proposal from Sens. Cynthia Lummis and Kirsten Gillibrand, expected to be introduced in the next few weeks, that would make the Office of the Comptroller of the Currency the main regulator for stablecoins while leaving room for state regulators.

Michael Barr, the Fed’s vice chair for supervision, echoed lawmakers’ calls for legislation to regulate stablecoins, cautioning in his testimony to the HFSC that stablecoins should not be permitted to be offered until Congress intervenes with a strong framework that includes Fed oversight, regulation, and approval. While Barr’s messaging signals the Fed is jumping in the ring alongside the SEC and other regulators to vie for jurisdictional power, it is clear there is great urgency amongst lawmakers to introduce a stablecoin bill in Congress before a new session begins in 2023.

Banking & financial products

Gruenberg, a fintech skeptic, nominated to lead FDIC

President Biden tapped Marty Gruenberg to serve as chair of the Federal Deposit Insurance Corporation (FDIC), a post he held previously and is currently serving in on an acting basis. His nomination was well received by Democrats but panned by Republicans. Rep. McHenry, incoming chair of the House Financial Services Committee, described the nomination as further evidence of the Biden administration’s disinterest in bipartisanship on financial services issues. Gruenberg has previously raised concerns about the rise of fintech and nonbank lending, as well as disparities between the oversight of fintechs and traditional financial institutions. The FDIC is a key regulator on fintech issues and has the authority to grant industrial loan company (ILC) charters, which can enable non-banks, like fintechs, to offer banking products and services. Gruenberg is skeptical of these activities, having previously voted against granting certain ILC charters. 

Taxation & accounting

Tax leaders predict retirement success in the lame-duck

Senator Ron Wyden, chair of the Senate Finance Committee, fueled hopes that a “SECURE 2.0” retirement savings bill will come together before year-end, sharing that negotiators are working to attach it to a broader government funding package. The Senate EARN Act and RISE and SHINE Act, along with the House Securing a Strong Retirement Act will form the basis for the final deal, but the trio of bills differ on several key points. Notable differences include employer-matching requirements and early withdrawals, among other provisions that are currently being resolved in discussions. Additionally, the House package includes a provision that limits the cessation of IRA treatment to only the portion of the account involved in a prohibited transaction. Currently, when an individual engages in a prohibited IRA transaction, the entire IRA is disqualified and treated as distributed to the individual, regardless of the size of the prohibited transaction. This House proposal, if included in the final retirement deal, would narrow the distribution penalty to only the portion of the IRA account used in a prohibited transaction—making the rules for IRAs more clear and less punitive on retirement savers.

Antitrust, privacy, and technology

Treasury and White House call for more supervision of fintech-bank partnerships

The Treasury Department released its competition report, noting that while the rise of financial technology companies has increased competitive pressures, which ultimately benefits consumers and markets, these fintechs are often not regulated in the same manner as their traditional financial counterparts, leaving oversight gaps on both consumer protection and safety and soundness. To address the concerns and capitalize on the benefits discussed in the report, Treasury outlines regulatory recommendations in four areas: (1) encouraging enhanced measurement of competition and review of concentration in banking, (2) enabling competition in responsible consumer credit underwriting, (3) enabling effective oversight of bank–fintech relationships, and (4) encouraging competition in small-dollar lending. These recommendations will inform agency action and legislative discussions as policymakers wrestle with this ongoing dynamic of how best to pull non-regulated actors under the oversight regime.

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