Last week, the White House released an executive order where President Biden directed federal agencies to engage in a “whole of government” approach to assessing crypto’s risks, which run the gamut from national security to environmental to financial stability.
Many of the order’s directives call for new reports and studies, while others simply recognize the work that regulators have already been doing. The Securities and Exchange Commission has, for example, overseen crypto assets under its jurisdiction for years, as has the Commodity Futures Trading Commission. The Federal Trade Commission has brought a handful of actions related to deceptive marketing in crypto schemes, and the Treasury Department has been policing crypto companies for money-laundering and trade sanction violations.
We agree that regulating the crypto markets is a good thing. There’s no shortage of misrepresentations and outright scams promising “we’re all going to make it” and “get rich quick.” Also, cryptocurrency mining uses exorbitant amounts of energy, and concerns about illicit finance have taken on a new significance in light of recent sanctions on Russia.
But despite its calls for regulation, the president’s order is disappointing in its underlying message. It suggests that the benefits of crypto somehow make incurring its risks worthwhile — this message is why the crypto industry has celebrated the order and may explain why the price of Bitcoin surged after it was issued.
President Biden states that “[t]he rise in digital assets creates an opportunity to reinforce American leadership in the global financial system and at the technological frontier.” But is a crypto financial system one that we want? What do we risk by putting a stamp of approval on it?
Many argue that the prime promise of crypto is its ability to make our payment system fairer and more equitable: that it’s an answer to our chronic financial inclusion problem. Yet despite promises of disintermediation, crypto markets are rife with intermediaries that charge significant fees. Also, most cryptocurrencies are subject to significant price swings, making them a very dangerous place to park household savings. Even for those who choose to invest in stablecoins over more volatile crypto assets, stability is not guaranteed (the reserve asset holdings of stablecoins are opaque and it’s not clear how a user would get fiat currency back from a bankrupt issuer). And in many ways, all of that is a best-case scenario, because it assumes that nothing has been stolen in the many hacks that plague the crypto markets.
As crypto is increasingly adopted by Black and Hispanic communities, it bears mention that there’s a long history when it comes to so-called alternative finance and marginalized groups. Payday loans and check cashing services are forms of alternative finance. Subprime mortgage loans were an alternative financial service marketed to marginalized groups as well. Instead of dealing with the root causes of financial inequality, these alternative financial services offer more expensive, more complicated, or more risky alternatives to mainstream finance.
Crypto is often all three: expensive, complicated, and risky.
The Biden administration needs to recognize that technological innovation alone will not provide access to the simple, reasonably-priced financial services that underserved populations need. Furthermore, if one were trying to innovate a purely technological way to improve financial inclusion, crypto — with its purposely wasteful computation strategies and convoluted governance structures — would not be the optimal technological solution.
Aside from the harms that alternative finance can inflict upon communities of color, these kinds of services can (as we saw with subprime mortgages) also be the building blocks of financial crises. Many parallels can be drawn between the lead-up to the 2008 financial crisis and the growth of the subset of crypto known as “DeFi.” The increased leverage associated with credit default swaps, the increased rigidity associated with mortgage-backed securities, and the vulnerability of money market mutual funds to runs all have their corollaries in a DeFi ecosystem built on distributed ledgers, tokens, smart contracts, and stablecoins. If DeFi grows into a new form of shadow banking, it could be the source of our next financial crisis — and financial crises often hit marginalized groups the hardest, cementing financial inequality.
If we learned anything from 2008, it should be that not all financial innovation is good. The Biden administration should worry less about nurturing financial innovation per se, and focus more on interrogating industry claims about crypto’s potential to promote financial inclusion. Shiny new technologies should not distract from the hard political work that is needed to truly make our financial system more inclusive.
Hilary J. Allen is a professor of law at the American University Washington College of Law. Christopher K. Odinet is a professor of law and the Michael & Brenda Sandler Fellow in Corporate Law at the University of Iowa. Follow them on Twitter: @ChrisOdinet and @ProfHilaryAllen