Crypto regulation timeline ‘measured in years,’ former FDIC official cautions

Former FDIC CIO, Duke Professor, and Venture Capitalist Sultan Meghji joins Yahoo Finance Live to discuss crypto regulation in the U.S., missteps leading up to the FTX collapse, the outlook for consumer financial protections in the space, and what the FTX fallout says about VCs.

Video Transcript

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DEBBIE STABENOW: When exchanges accept customer funds for trading, they must not be allowed to gamble with those funds. They must not be allowed to invent products that have little or no intrinsic value and accept them as collateral for loans. And they must not be allowed to self deal. FTX did all of those things.

BRAD SMITH: That was Michigan Senator Debbie Stabenow, chairwoman– chair of the Senate Agriculture Committee, discussing the downfall of FTX in a hearing that began 30 minutes ago. For more on this, we’re now joined by former FDIC chief innovation officer, Sultan Majid. Great to have you here with us today, and particularly for the insight that you could provide from the FDIC stance and what actually should be insured, what can be insured if we ultimately see some type of legislation move forward.

SULTAN MEGHJI: Well, first off, thank you for having me. And second, I would be remiss if I didn’t start with the standard disclaimer of any federal employee, even though I’m no longer one, that I speak on my own behalf, and not on behalf of the agency or the administration. But to your question, crypto isn’t actually regulated in the United States in any way. And there is no insurance against it, except for a traditional business insurance that a company can choose to get.

At no point in any of the potential legislative discussions that are going on right now would anyone conceivably offer insurance for the simple fact that there is no structure for it. The deposit insurance that the FDIC offers to banks in the United States is strictly for the US dollar. And I can’t imagine the United States government ever ceding the primacy of the US dollar to a cryptocurrency, whether it’s one made by the US or not, until the Federal Reserve decides, if ever, to make a central bank digital currency.

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JULIE HYMAN: Sultan, this is Julie here. At the same time, I don’t think any of the legislation being proposed is considering any kind of insurance framework, right, for crypto.

SULTAN MEGHJI: None whatsoever.

JULIE HYMAN: Should there be?

SULTAN MEGHJI: Yeah, none whatsoever. It’s an interesting question, right? If someone were to create a stablecoin, for example, here in the United States that was pegged directly to the US dollar, at some point, wouldn’t you want to be able to treat that just like a US dollar and then, at the same time, wouldn’t you want insurance? There are a number of pieces of legislation running around Congress right now that walk us in that direction, but don’t walk all the way up to insurance. The insurance still sits at the US dollar.

I think as crypto continues to grow, even in the wake of this current little bit of insanity and trying to work some of the bad actors out, I think the technology that underlines this is not going away. The fundamental products and services that are more frictionless, more easy to use, more consumer-friendly, that give us more opportunity to protect consumers than traditional infrastructure does, we’re going to have to have that conversation. I think it’s a great question, Julie, but I think you’re probably a year or two ahead of where Congress is.

BRAD SMITH: I think the question, though, is, is how would this work? Because Congress has really pushed for, at this point, at least, in their discussion, this stance that stablecoin issuers, at least, would have to receive the same licensing and allowances that insured depository institutions would have to abide by as well.

SULTAN MEGHJI: That’s exactly right. One of the pieces of legislation is being direct on that. There is a question of the mechanics of it. Is it, do you have to hold $1 US for every one stablecoin that you put out in the market? The current stablecoin providers that are out there are usually keeping about 20%. So for every $5 of stablecoin they issue, they’ll have $1 in something inside of a bank or something like that.

There’s a big fight going on because as it’s going on right now, the video clip you just showed was just a few minutes ago from the Senate Agriculture Committee. That’s really focused on the CFTC and SEC, which both of whom, to a degree, say that they have the statutory authority to regulate this. But when you’re talking about depository insurance, you’re really talking about the FDIC, the OCC, and the Federal Reserve. And there isn’t a whole government approach to this, to say, OK, we’re going to have these kinds of crypto products and services be treated as deposits or these treated as exchanges or these treated as commodities.

JULIE HYMAN: Sultan, you stepped down from the FDIC because you were frustrated with the pace of innovation in the government. You wrote a Bloomberg opinion piece on it at the time, and you said, the assumption is that 20th century rules can be gerryrigged to cover 21st century technology, which you called a dangerous view. How hopeful are you that Congress or the federal government is going to actually get this done?

SULTAN MEGHJI: You know, I think they’re going to get something done. But I think the timeline is going to be measured in years, not weeks or months. And so if I’m currently looking for some sort of resolution out of some of the recent crypto chaos, I wouldn’t expect it to come any time soon. I think generally speaking, we do need to go back and revisit some of the legislation guidance and policy and operating models that are inside of the regulatory committee because they’re just not fit for how we operate today.

In the mid 1980s, the average family had 15, 20, 25 banking transactions a month. And that was for a whole family. You pay your mortgage, you get cash, you buy your groceries, et cetera. Nowadays, I might have 20 a day, just going about my normal life. And the way we have built our regulatory regimes don’t take into account what modern technology is doing. I’m not optimistic that the US government will be leading this in any way whatsoever.

JULIE HYMAN: Well, at the same time, the situation is moving so quickly that a lot fewer people are now invested in crypto, and those that are have a lot less in it because of the collapse that we’ve seen in the price. So I’m just curious. There’s urgency on the one hand because we’ve seen incidents like what happened at FTX. But is there less urgency on the other– like, has the situation become not moot, but less relevant because of what’s happening in crypto? Are we going to just have less adoption of crypto as a result of what’s going on right now?

SULTAN MEGHJI: It’s a great question to ask. And I’m not going to try to magic eight ball that. My own personal opinion is that, no. I think, if anything, we’re going to see a continued increase in the usage of these technologies for the fundamental reason that it’s what consumers are asking for. Over the last five years, we’ve put a tremendous amount of new capital into the American economy, and a massive percentage of that hasn’t gone into the traditional banking system.

Customers are not happy with what the banks are offering right now. For the last decade, it’s been drifting away. And we see a lot of especially younger people not going into branches. They want to do everything from their phone. They want to have the kind of financial services products and services that they actually want, not what their grandparents wanted. And that is all being built on crypto technology.

Anything that’s not being built on crypto technology is behind the curve. The average banking system is over 15 years old at this point. It’s a big risk to the overall system. But for the next few years, we’re going to see a lot of build. And I think we’re going to see a tremendous investment in the technologies underlying crypto.

And for those who don’t spend all their day in crypto, I’ll say, remember, crypto is really three things. It’s a piece– it’s a set of technologies. There are cryptocurrencies. And then there are products and services built on top of them. What we’re seeing right now is that those technologies and the products and services being built on top of them are being invested in orders of magnitude more than just a few years ago. And this year has not changed that in the slightest.

BRAD SMITH: Got to hustle to the finish here, Sultan, but when we think about what the congressional members who are doing some of the questioning can ask of FTX, can ask of former FTX CEO Sam Bankman-Fried, because they’re don’t spend every single day in this space, what is one good question that they could put forward?

SULTAN MEGHJI: The biggest question to ask is, what can we do today to protect the American consumer?

BRAD SMITH: OK.

SULTAN MEGHJI: Because right now, there are billions of dollars out there of Americans’ money sitting in these unregulated systems, and there are tremendous capabilities to protect them, to stop things like FTX happening again.

BRAD SMITH: And then just lastly, while we have you here, you also work on the VC side currently here. And when you think about what due diligence venture capitalists didn’t do when they were investing into FTX, what needs to be done differently to make sure that this doesn’t happen again, where you have massive sums of money being thrown at a corporation that had otherwise less than wholesome operations in its own right, just to summarize it if I may?

SULTAN MEGHJI: Well, I think we now are seeing what separates a good VC from a bad VC. Good VCs tried to– would look at an FTX five years ago and say, I’m not touching that with a 10-foot pole. And bad VCs haven’t, and they put a lot of money in there. And celebrities and all these others did, too. There’s a difference between having a great brand as a VC and actually being a good VC.

And I would say if I was ever thinking about investing in a VC or investing in a company, I would put a lot more energy into due diligence. And look at what really good VCs do. And look at the VCs that aren’t having bad reactions to the last six months and not feeling overexposed. This is not rocket science. Venture capital has been around for decades. And there are a lot of wonderful firms out there that do a great job, not just on due diligence, but then, for example, in financial audits of their investments and ensuring that those investments are managed appropriately. And it’s not hard to find us.

BRAD SMITH: Former FDIC chief innovation officer and Duke professor, Sultan Meghji joining us here today. Thanks so much for the time and the insights. We really appreciate it and hope some of the members of Congress who have a little time on their hands were listening, too. Thanks so much.