Legislating Crypto's Future

On the latest From the Block podcast, Holland and Knight attorney Andrew Balthazor tells PYMNTS’ Karen Webster and Citi’s Ryan Rugg that until crypto solves for scams, user errors and consumer remedies, more adoption just means more losses. Here’s what he says has to change.

Transcript

Narrator 0:01

Welcome to From the Block, where Ryan Rugg, Citi's Global Head of Digital Assets, and Karen Webster, CEO of PYMNTS, unpack the real questions CEOs and CFOs are asking about stable coins. From infrastructure to innovation, it's the practical path from concept to competitive advantage. In this episode, Karen Webster and Ryan Rugg sit down with Andrew Balthazor, Associate and Co-lead, Crypto Asset Disputes Team at Holland and Knight LLP to talk about legislating crypto's future.

Karen Webster 0:35

Hi, I'm Karen Webster here with Ryan Rugg, Global Head of Digital Assets, TTS at Citi, and Andy Balthazor, co-lead of Holland and Knight's crypto asset disputes team for another episode of From the Block Street Talk about blockchain and digital assets. Thanks, Ryan. Thanks, Andy. Looking forward to it, Karen.

Andy Balthazor 0:56

Thank you for having me.

Karen Webster 0:58

So the groundhog saw a shadow. You know what that means? I don't believe it. With this weather in New York, I do not believe it. Six more weeks of crypto volatility. I'd start with that little quip. I believe it. And winter. We have a great conversation today, Andy. We're looking forward to your perspective on what's going on legislatively and in particular how you see the trajectory of digital assets given where you sit. But before we get into it, I'd love to get a little bit of background. I mean, obviously, you have an important role to play at Holland and Knight in thinking about crypto regulation and the application of regulation in the legal, in the legal, in the legal environment for the clients you serve. But you are a military intelligence officer or were for the U.S. Army. How did you how did you get here from there?

Andy Balthazor 2:06

It was a long and meandering path. I was always interested in computers. This was like early Apple basic programming, very rudimentary on monochrome screens, which dates me a bit. But when I got to West Point, I majored in computer science. I did some work with uh some early work with neural net and AI and parallel processing. Um and then after getting into the army, uh serving in Iraq as a military intelligence officer, um, I left after a deployment to to Iraq during the first year of the invasion. And after that, um found myself dabbling in in a number of different fields, none of which were very fulfilling. Um I eventually turned to law as something that I really wanted to uh pursue. Um I had numerous occasions to act as my own amateur attorney in different contexts. And um, in my view, was doing a better job than the attorneys I would hire to represent me in some like different disputes or to help uh family members who were involved in their own disputes. So when I entered law school in 2016, this was around the time of the ICO summer, and there was a lot of um a lot of legal, interesting legal questions being asked about the distribution of crypto to raise capital, the the extent of um our current laws and how they apply to this new type of asset. Um I was already familiar with Bitcoin at the time. Um I I was and and still am to some extent an avid computer gamer, and Bitcoin miners and computer gamers have a lot of overlap due to the shared hardware that that early Bitcoin miners used. So when I started law school, I knew that I wanted to do something with Bitcoin and crypto. So I started um researching it, proposed different concepts for law review articles or other publications. And when I got my first real law job at Hawn and Knight as a summer associate, um, the very first day I learned that one of the Hawn and Knight partners had been designated a receiver in a crypto enforcement action brought by the SEC relating to security. So I, as soon as I got my email uh account set up, I emailed the partner, expressed my interest, told him a little bit about my background. And that week I was working with crypto. And that was in 2017.

Ryan Rugg 5:10

Quite the restaurant man, right, Karen? I mean, he's done art, science, health veteran, now, you know, reborn a crypto lawyer. I mean, it definitely is a meander room, but I mean, excited to have you. And I think that, you know, what we call in the industry is unicorns that like lawyers that understand code, right? Especially in this new digital age that we're we're moving towards. So exciting to kind of hear your perspective and some of the things that you're working on.

Andy Balthazor 5:36

Well, thanks again for having me.

Karen Webster 5:38

It's been 10 years. You know, there's a lot that's changed in 10 years, and we've got lots of questions to ask you, but but is there one thing over this the the last 10 years of your experience in digital assets that you think has marked significant change forward and things that still need to be resolved from your perspective?

Andy Balthazor 6:03

Well, certainly we're seeing much more interest in integrating digital assets with the conventional financial system. Um, and that's a broad comment that covers a wide array of topics. But um, I think my primary concern is that we haven't yet tackled how to prevent criminals from exploiting um this technology uh and and harming everyone from retail investors to commercial investors.

Karen Webster 6:39

And and how do you think we need to do that? I mean, because obviously genius and clarity are both um advocating for change and obviously um frameworks and guardrails to to protect investors and and those who are part of the digital asset ecosystem. What needs to happen from your from your perspective?

Andy Balthazor 7:09

So it depends on the types of risks we're talking about. Um I get heartbreaking stories frequently from users who have been scammed by um by criminals. And the form of the sometimes the scam is about crypto. Sometimes that's just how the criminals extract value from their victims. Um and it is there's often very little we can do. This is primarily a law enforcement issue. The private attorneys, in my view, often you're just throwing good money after bad if you try to hire someone to to go after these um criminals because using using civil tools to chase criminals is is often a losing endeavor, um which is really sad. Um but uh one of the advantages of blockchain technology is the visibility of transactions. You can see a lot more than you can in the conventional financial system. Um and I think that there are ways to leverage that technology better to prevent a scam in progress or limit the damage of a scam that's already been been done. And I think there's I think there's a lot of education that we need to do with with users to prevent those types of scams. Um I think that we're seeing some of the um we're seeing some of that play out in issues relating to Zell. Like Zell has some built-in limits to reduce the impact of scams. There's daily and weekly transaction limits. Um in some circumstances, you can undo transactions. Um you can identify all the participants in a Zell transaction. You can identify the banks, know who's involved, you can identify customers. That's you can't always do that with the blockchain. And presently, there's there's not a lot of guardrails on it. So I think there's there's ways that we can improve at least that aspect of it.

Ryan Rugg 9:13

I can definitely tell you from like a you know from my career perspective, either at IBM advising banks or at a bank, you know, safety and soundness for our end clients, like we take extremely serious, right? So, you know, starting out on an internal permission version of Ethereum and starting to scale, like as this legislation starts to shape up, like to your point, like the things we apply in the TradFi space aren't gonna differ, right? You know, our clients trust us. And we want to make sure that, you know, you mentioned Zell and the controls that they're putting in, but we're going from daily batch settlement to secondly, you know, you need to be able to monitor these networks, you know, around the clock, 24-7 weekends, holidays. It does not make a difference, you know, when our clients are gonna do and being able to put those safeguards in place are extremely important, right? I mean, and we're talking large sums of money that we're moving. So I definitely agree that, you know, as it moves from retail into the enterprise, those safeguards need to be put in place to ensure that, you know, the safety and soundness of our clients for the long term.

Karen Webster 10:12

I think it depends on all, I mean, obviously depends on who's responsible when something goes wrong. And I think that's where you see um limits and other things that are that are put in place to limit the liability. And I think in in many, in many cases, there's still um a little bit of clarity required on who assumes the risk when things go on chain. And I think that that's part of what needs to be uh still hammered out.

Andy Balthazor 10:43

The Genius Act uh requires issuers to have policies to freeze tokens. Um but there is not a lot of uh clarity on what is the remedy for that. So like if user uh is using a payment stable coin regulated by the Genius Act and sends it like not even because of a scam, just enters in the wrong destination code and and sends it to the wrong address, maybe a debt address. So there's no third party involved, it's just lost tokens that are inaccessible. What's the remedy? And there's no clear remedy under the Genius Act for that scenario. Um, you could you could the the issuer is required to have a freeze policy, and you can through the smart contract prevent those tokens from moving. But there, what does the user do after that is a little bit an open-ended question. Right now, what we have to do is sue the issuer in order to uh force them to reissue the tokens to the person who has the rightful title to the the value associated with those tokens. And that's not a workable solution for everyday commerce.

Karen Webster 11:56

You know, 10 years ago there wasn't uh any sort of uh regulation around the uh digital asset crypto market. Now we have genius signed into law. Obviously, rulemaking is still in progress and clarity is sort of moving its way through through Congress. From your perspective, Andy, how important is the shift from what was once sort of enforcement-led to now regulator with with with guardrails and frameworks in how you talk to your clients about what is their strategy for embracing digital assets?

Andy Balthazor 12:38

So we certainly have a lot more clients interested in leaning forward into offering digital assets in connection with their businesses, but there is still a lot of uncertainty. Um the although we have the Genius Act, we're still developing implementing rules and regulations. So a lot of question marks on what those are going to look like. That Genius Act only addresses a narrow niche of crypto crypto. Um the payment stable coins is very narrowly defined. So there's still a lot, like 98% of crypto is not included in that definition. So we have a lot of question marks on how do we deal with those other assets. Um and I think we're advising right now, generally, clients need to become conversant, like select some people within their institution to understand this industry, understand what their peers are doing in the industry, uh, explore pilot programs, um, and be able to pivot appropriately based on customer demand, industry, um, industry adoption, and final rules and regulations and new statutes if the Clarity Act becomes passed.

Ryan Rugg 13:58

So it sounds like it's a start, right, from a legislative standpoint, but you know, we could use more, you know. So back in 2021, when I was at IBM, Promontory Risk and Compliance, like, you know, branch wrote the Speedy Agreement for State of Wyoming. And that was really like the first legislative piece that was out there. And it's like, I think it's very constructive seeing, you know, genius and clarity um kind of come into fruition. And that there's still a lot of like, as you said, open-ended, you know, kind of questions that we still need to get answers for, especially for large enterprises like to operate in this space. Like we don't operate in the gray area, right? Like it's either clearly permissionable or it's not. Like we don't ask for forgiveness. We ask for permission is like my famous line that I say, where it's like, so I think the more that we can get those open-ended questions kind of you know answered through legislation, through regulators, like the key, the bigger, you know, amok it'll be for this industry as a whole.

Andy Balthazor 14:53

One of the downsides to the current administration's withdrawal of some of the enforcement actions that we're pending is that we will not get definitive binding answers that would apply throughout the circuits on some of these issues. So we've got um now a mishmash of common law decisions, some of which are bindings, many of which are not, that we can point to in advising our clients. But that is not that's not really the concrete answers that most of the larger clients would want.

Karen Webster 15:26

And so is it is that holding them back? Or are they, I mean, you talk about pilot programs, um, with the idea that during pilot programs there may be more clarity not to not to use the name of the act as, but clarity as in more certainty around the direction. Um but are they is there still this? I'm not sure that this is worth investing a lot in right now because of that uncertainty.

Andy Balthazor 15:58

Yes, I think so. I I think that there's there's a reluctance to put a lot of investment into something, especially uh, first of all, there's there's still questions on just how much demand and utility that that these that some of the the use cases have compared to other methods to achieve the same goal. Um but also this the the C change in regulatory approach at the federal level means that uh large institutions need to consider the political risk of what happens when a new administration comes with different views that might substantially change how uh how they approach some of these cutting-edge issues.

Karen Webster 16:43

You you seem to though be a real advocate of stablecoin as sort of a parallel payment system and or payment method. Um I know Ryan views it as um another another rail. Is it your view that getting stable coin regulation right creates the strong enough foundation for other for other legislative actions and regulatory and for and uh regulatory framework for other digital assets that are, to your point, still in the gray area?

Andy Balthazor 17:21

So I wouldn't necessarily say that I am an advocate for that. Um it is definitely a the the advocates for payment stable coins certainly see it as an alternative way to make payments. And I and I think that largely we're talking consumer payments. Um I think that this was the Genius Act was the low-hanging fruit of the crypto ecosystem. Um it's the easiest to point to the and say this does not uh seem like a security to me. This is a derivative of a financial product that we can understand, and this um should be regulated more like we regulate those types of products. Um and I think some people have analogized it to uh like money on a gift card used to pay for services within um a vendor's you know ecosystem. And that's that's probably uh how they might be used maybe in the future. But um it's still unclear just to what extent consumers will adopt this and merchants really. Merchants are the ones who have to really uh be incentivized to adopt stable coins as a method of payment and make it worthwhile uh for them. So um we will see.

Karen Webster 18:45

Yeah, well, the card networks are are trying to create that bridge to acceptance through their through their rails.

Ryan Rugg 18:51

But but Ryan, you're I know you have strong points of view. And like what Andy was saying is really like getting that cash on ledger, right? If it's stable coins, if it's tokenized deposits, if it's you know another version, CBDC or whatever, you know, if you're going to, as Andy's analogy, buy that good, buy that, you know, on the gift card. You need that cash component, that fiat component. And that's what I think stable coins and tokenized deposits have enabled because the promise of this technology is that atomic settlement, DVP, no latency in the system, being able to go from fiat to asset and asset to fiat, like instantaneously, frictionlessly. So I think it's like a you know clear component. But that said, like as you mentioned, I mean like 85, 90% is still in retail, right? It's still primarily a retail product for crypto. And it's still yet to be seen, like how much adoption moves into various enterprises. But you know, I definitely think that cash on ledger, and like that's why I think for me personally, like starting with Genius, which kind of represents around fiat, made a lot of sense, like getting that kind of legislation around that as you start to look at, you know, clarity and other legislation in this space that's gonna kind of give, I would say, you know, kind of rails to the other kind of assets within the crypto industry.

Karen Webster 20:06

Andy, I'm gonna ask a question that is a little bit of a of a third rail question, and that is um, you know, the the hotly debated issue around stable coin issuers offering yield or rewards to to stable coin holders. I mean, banks and stable coin issuers have very strong and different points of view on that. In in your view, is there a middle ground?

Andy Balthazor 20:35

I think that there is always a middle ground. Um, unless we're talking, I mean, even if you're talking something that's black and white, there's gonna be a gray area. Um I don't know where a fair compromise is here. I see both sides of the issue. Um I don't why should stablecoin issuers be prohibited through affiliates um from issuing uh yield? So long, in my view, as it's disclosed to the the users of the beneficiaries of those of that yield that these are this is not as safe as a deposit. These assets are not necessarily backed by deposit uh by insured deposits, but also by other assets. And there is some risk there that's not present in like a um a deposit account at a bank. Um as long as users know that, why should they be prohibited from um earning some yield from that? I understand the banks' concern. The the banks are concerned about deposit flight. There's a potential real impact in um the money supply. If too much of that goes to issuers, which are just gonna pour it into US Treasuries or maybe some other low risk deposits permitted by the Genius Act, that removes some money supply from lending in the community and regional banks that could raise the cost of lending for. um for the types of lenders, the type of creditors who need that, or the type of debtor debtors who need that that capital for growing their small businesses or what have you. So I understand both issues. What the exact compromise is, I don't know. I think that ideally you want all these financial uh entities competing on um competing to provide the best result for the market. So if they're competing on yield and they're competing on other functions, if stable coins are saying use me because I'm faster and I have lower fees, maybe that'll incentivize the bank networks to provide lower fees and faster settlement. If banks are saying you should use the conventional financial system because we have better anti-fraud measures, then stablecoin issuers and the the payment systems built around those should be starting to compete on that front as well. And I think overall if if there was competition on all those fronts you'd probably end up with a with a a better financial system regardless of the method used. Do you think that that clarity will be successful at passing this year, given that this issue seems to be the impediment to to getting consensus on both sides of the aisle I think that there are a lot of issues outside of clarity that might prevent this litigation from moving forward. I think there's a lot of other hot button issues currently in the news that might make it very difficult for um for both houses to come to an agreement and both parties to come to an agreement.

Karen Webster 23:50

So we've talked a lot about a lot of things um there's some clarity again using that word some certainty a lot of uncertainty still and you know Andy and Ryan both I'd I'd love to get your thoughts on you know if you were sitting across the table from legislators in Congress what would you offer as constructive advice for how to move the crypto conversation forward so that you know everyone gets what they need the consumer is protected certainly and that's that that's first and foremost but we're able to create an ecosystem around digital assets that is safe and sound.

Ryan Rugg 24:30

I think you like you hit on the head Karen like as long as like the consumer is protected and like one of the things you know that we discuss a lot is about same risks, same activity, same regulation, you know, making sure that those safeguards are in place as our clients you know start to enter into this digital ecosystem and start to scale. You know, the same safety and soundness you know safeguards that we put in the traditional world we want to put here as well. And you know, as far as the ecosystem continuing to evolve for our clients, like we want to support them on this journey. As mentioned the past, we formed a partnership with Coinbase to be able to provide those on and off ramps for stable coins. You know, viewing it as Andy as you said in like a parallel kind of ramble if our clients want to use this, we want to be able to provide that service, but ensuring that that safety and soundness is in it. And like you know you talked about you know kind of the freezes and what happens after and you know analyzing that again for the long-term kind of applicability to our clients. So I think you know clarity gives some of the answers to these questions that we have out there and you know looking forward to kind of that legislation as well as others that come down the pipe that help give us those clear kind of guardrails for the future.

Andy Balthazor 25:44

Andy you have the last word so I I would recommend that anyone considering changes to enacting new legislation, amending legislation or even considering rules to try to listen to all sides uh all the stakeholders who would be impacted by the regulations so listen to the issuers the financial intermediaries on the crypto side the banks and the consumers the institutions who might use this at a commercial level appreciate all of their concerns and try to draft legislation that is even handed. And I agree with matching risk same risk with same regulation how did you put it Ryan that was really clever.

Ryan Rugg 26:29

Same risk same activity same regulation yeah I agree with regardless if it's a fintech or a bank that's offering the service right we want to make sure that ultimately that end user is protected.

Andy Balthazor 26:40

Right. So if we're innovating and providing a new method to do the same thing then we should be applying some of the same uh regulations to moderate the same risks involved with that are you are you implying that one voice isn't being heard as much as it should be I think that there's a danger of that anytime legislatures let legislators work there is going to be some voices louder than others for a variety of reasons. So I think it's always good when you're trying to work on changing something to make sure that you're hearing opposing points of view um and not just the loudest voices in the room.

Karen Webster 27:23

Interesting.

Ryan Rugg 27:24

Andy Ryan thanks for um a great conversation really enjoyed the uh the discussion Ryan any final thoughts any final words no I I really appreciate Andy coming on adding your insight it is a very exciting space that as you said there's a lot of questions still out there so we appreciate all the work that you're doing on the legal front um and look forward to collaborating the future.

Andy Balthazor 27:49

Thank you for having me.

Narrator 27:50

Thanks guys thank you bye bye now that's it for this episode of the PYMNTS Podcast, the thinking behind the doing conversations with the leaders transforming payments, commerce and the digital economy. Be sure to follow us on Spotify and Apple Podcasts. You can also catch every episode at payments.com forward slash podcasts. Thanks for listening