Duckbucks: Some argue there is an inherent tension in regulating digital finance between setting clear rules, maintaining market integrity and encouraging innovation. Do you agree, and if so, are these goals being balanced correctly?
Commissioner Hester Peirce: The premise seems to be that you can’t achieve good regulation in digital finance, which I don’t think is accurate. I don’t think that these issues are easy, which is why a lot of places, including the Untied States have been floundering in their approach. But I think if we took an open-minded approach, an intellectually curious approach, we would be in a better place than we are and we could get to the place where we maintain market integrity, encourage financial innovation, and also have clear rules.
Now, there’s always a tension between people wanting very prescriptive rules that tell them exactly what to do and principles- based rules. But again, I think that if you have a regulator that is operating effectively, you can have a principles-based approach that enables people to feel that they have the freedom to try things. Well-intentioned people should feel comfortable operating within that system because they know that the regulator isn’t going to come in and say, “Well, you forgot to do X, Y and Z.” They’re going to be looking at the bigger picture: “We can see that you weren’t setting out to defraud people, and so we’re looking at you differently than we would look at someone who is obviously setting out to defraud people.” This can be done. I think we can meet all of these objectives, but it requires good faith on
both sides of the equation.
DB: When you arrived at the SEC, was there anything that surprised you about the culture, as a regulatory culture and an institutional culture, that may have an impact on some of these choices?
HP: I had been at the SEC before. It had been a while since I had been here, but one of the reasons I wanted to come back in the role of Commissioner is because I did think that we could have a bit of a cultural shift to be more welcoming toward innovation. And we tend to be a regulator that deals with the same entities time and time again. We’re used to dealing with pretty big, established players. So it can be hard for someone who is trying to break into the securities industry and do something new, to try something new. I wanted to be involved in the process of making our culture one that’s more open to innovation.
What has surprised me is the degree to which, when it comes to anything related to crypto, blockchain or digital assets, there’s been such a door. And there are little glimmers of hope. I see some of the things that the division I used to work in, the division of investment management, is doing in working with money market funds that are experimenting with an on-chain money market fund — those kinds of things give me a little bit of encouragement. But these little crumbs of encouragement are very few and far between.
‘If you have a regulator that is operating effectively, you can have a principles-based approach that enables people to feel that they have the freedom to try things.’
DB: Compared to other jurisdictions on this score, how do you see the challenges in the U.S. serving as a roadblock or speed bump to economic competitiveness?
HP: One of the things that’s distinguished the United States in the capital markets arena is that we have been known as a place that has good regulation. That doesn’t mean “no regulation.” That means that we’ve had a selective set of rules that are enforced. You have a carefully curated set of rules and you enforce them, and then people want to come to your jurisdiction. That’s what we should do in the crypto space as well — and we haven’t done that. Instead, we’ve been cultivating ambiguity, and that makes people want to go to jurisdictions that have clear rules.
Now, we could, at this moment, say that we’re going to try something, we’re going to change our approach. And then we have the advantage of being able to look at what other jurisdictions have done and ask, is what they’re doing working? So, it might be helpful for us in the sense that not being the first mover gives us the opportunity to learn from others. But we have to take those lessons, and we have to apply them at some point.
DB: Innovation in this space is happening quickly. Would you say that this may not play as well to the strengths of the U.S. compared to, taking your example, a context like that of capital market regulations?
HP: I wonder whether that’s true, because we could make it work if we want it to. Again, if you have a principles-based approach, it can tolerate, accommodate and welcome new things. But you have to be willing to operate in a principles-based way and you have to be willing to have conversations with people: “Here’s what we’re trying to do. Here’s where it bumps up against the existing rules or might bump up against the existing rules. Can you use your exemptive authority to help us figure out how to do this?” I think it could work fine if we were willing to do that work.
DB: What could that mean practically?
HP: Recently I proposed a micro innovation sandbox, which is really a way to let people try things on a very small scale, without having to go through the gates that the SEC has set up. You just do a notice filing with the SEC. You’d say, “here’s what I’m doing; here are the conditions I’ll be following.” You obviously don’t get to defraud people, so the anti-fraud rules apply. But beyond that, you can really try things on a small scale with the goal of working toward longer-term relief. That would be in the form of no-action letters or exemptive orders, and that has traditionally been the route that people have taken to get accommodations for new things. Then, ultimately, if enough people are doing something, you see something flip over into an actual rule-making.
The idea is to say, if the agency isn’t willing to do anything on its own, it sort of allows the person who wants to do something new to nudge us. I think that could be helpful in this space, because one of the complaints that I hear all the time is, “We’re reluctant to come in and talk to the SEC because we’re concerned that we’re never going to come out the other side with anything other than maybe
an enforcement action.”
And to be fair, sometimes enforcement actions are the right thing. If you’re setting up a fraudulent scheme, and you want to do it under the cover of the SEC, of course we’re going to bring an enforcement action against you. But for people who really are trying to commercialize something, it has been very frustrating because there isn’t a sense of urgency in moving things through. And so something like a micro innovation sandbox could help to spur that a little bit.
DB: Take an example like ChatGPT, where you’re having tens of millions of people come online to something new in a matter of months. And the same is true with some digital asset technologies. Is there a larger question of changing how regulators do things to enable them to keep pace a bit more, or is that a little pie in the sky?
HP: I think it’s a little pie in the sky to think that regulators are going to be able to react at the pace of technology — and I don’t think that’s a bad thing. If we see that there are problems, let’s identify what the problems are and try to solve them. If we attempt to solve the problems before they emerge, we might end up killing the technology or curtailing the technology’s potential. I actually think with something like AI, we should try to experiment with it ourselves. We should try to talk to as many people as we can who are using it. We should be all ears in case there are problems that arise. And we should be willing to work with people when they say, “Hey, we want to use this technology, but we’re not quite sure how we can make it work with the existing rules.” That would be a much healthier way to regulate something like AI.
Let’s not repeat the mistake that we made with crypto. Let’s really try to do this in a different way. And let’s not assume that we need an entirely new rule set, because in many ways, our existing rules are equipped to deal with AI — just as we regulate something much more complicated than AI, which is human beings. If you think about us trying to regulate human decision making, as it affects clients of investment advisors, for example, that’s really complicated. And if our rules can accommodate that, certainly they can accommodate AI.
DB: How do you see the complexity of the underlying technologies playing a role in this work? In digital assets and related technologies, it can take a great deal of effort to even wrap your head around the mechanics. How much does that matter?
HP: I think it does matter, but there are a lot of issues that we regulators deal with that are complicated. And so what do you do? You talk to people who know it better than you do, and you have a sense of humility in realizing that, as a regulator, you have exposure to some things, but not everything, and you need to be constantly learning. Whether that’s listening to a podcast about how roll-up works on a blockchain or about how a portfolio manager is making decisions about how to build a good bond portfolio. I don’t have personal experience with either of those things, so I have to lean on other people.
I think it’s just part of creating that culture at an agency: it is okay for you not to know everything, but go out and find people who can help you understand and bring people into the agency to help you understand. Set up advisory committees of people to help you understand. One of the really wonderful aspects of this job is that all kinds of people are willing to meet with me and talk with me, and that is something that we should take more advantage of. I think that can make us not only a better regulator, but also can encourage people on the outside that we are willing to hear and can involve them in the rule-making process in a way that’s really healthy. Because when you get the buy-in of more people, then your rule set is going to be more effective.
We always have to guard against regulatory capture. That’s why it is good to have some people on the inside who really do understand the technology, who really have had experience in the markets. And you should have those conversations out in public as much as you can, which is why I really like advisory committees and those kinds of things. I think they can be very helpful. But we have a world of talent out there that is willing to talk to us. So let’s do it.
‘We’ve been cultivating ambiguity, and that makes people want to go to jurisdictions that have clear rules’
DB: What should the SEC’s top priorities be in this space?
HP: I think we need to start providing some guidance for people so that they know that there are certain activities that are clearlyoutside our ambit, and that is something that we could do if we chose to do it. And then I think we really need to bring up greater legal precision to how we’ve been thinking about this space — what’s a security, what’s not a security — so that people can move beyond that and can really think about experimenting with how the technology might change the way we do things in
the financial world. That experimentation is happening outside the U.S.; it’s happening to some degree in the U.S. But if we really open the doors to that, I think you’d see a lot of financial firms thinking about how they might use the technology and experimenting with it in the real world.
As I say, we could set up something like that micro innovation sandbox so that people could try it on a small scale. We could work with people on exemptive orders and no-action letters. And we could do things like get rid of SAB 121, and if there’s a problem there to be addressed, let’s address it through a public process. We could have an advisory committee that was really dedicated to these kinds of things, where we could bring in people who have experience.
Some of those things we could do right away. Obviously, anything we do has to work within the confines of our statutes. But again, that’s part of the reason why I say it might be helpful for us to sit down and think, “these kinds of activities are totally outside of our ambit. Here’s what is in our ambit. And now let’s focus on addressing where what people are trying to do is running up against the statute.” And that might be where we need to spend some time. Year ago, now, I put out a safe harbor proposal, which was around, if you’re trying to do a token offering, how do you do that? You’re obviously not going to do an IPO because this is a couple of people starting up a project, but at the same time, if you want to get information out to people, what kind of information do people need? What does that look like?
We could work on those kinds of things. And whatever work that is, we should be working with the Commodity Futures Trading Commission, with the Federal Trade Commission — with whatever other regulators might be involved, state regulators, banking regulators.
DB: Are you optimistic?
HP: We can change course anytime we want. I’m always optimistic that at some point we’ll say, you know what? We’ve been trying to run our crypto policy through our enforcement division. That is not a good way of doing things. Let’s put the brakes on, reconsider, and go in a different direction. I’m always optimistic that with a little nudging that’s happened from the courts — as we saw with our Bitcoin exchange-traded product — you can actually get out on the other side of the bed and see that the world looks not so bad.
The views expressed by Commissioner Hester Peirce are her own views and not necessarily those of the SEC or other SEC Commissioners.
