Keynote Address by Commissioner Caroline D. Pham, 18th Nasdaq Technology of the Future Conference—Reimagining Tomorrow’s Markets
Regulation of the Future: Building Responsible Digital Asset Markets
June 28, 2022
Good afternoon to you all. Thank you very much for inviting me to speak at the 18th Technology of the Future Conference, in person for the first time in four years, and for the first time at Nasdaq headquarters in New York City. It’s funny that no matter how much things change, some things are still the same—like the smile you get when reconnecting with colleagues and making new friends. I’m excited to see so many leaders in financial markets getting together. I’m excited to reconnect with some of you, and meet others for the first time. Some of us—like me—have switched jobs once or twice since we last saw each other.
Looking out at the room at all the exchanges, clearinghouses, and central securities depositories (CSDs) represented here today, these are truly global markets. It looks like only Antarctica is not covered, but we’ll see about that in another two years. I won’t ask what strategic opportunities you all are exploring.
I’ll go ahead and say now that these are my views and do not reflect those of the Commission or any other Commissioner.
I’m so pleased to be here today with you. This is the Technology of the Future Conference. And so I’m going to talk about the Regulation of the Future. But first, let’s talk about how far we’ve come.
Fifty-one years ago—three years before Congress even created the Commodity Futures Trading Commission (CFTC) as an independent agency—leaders in financial markets, the National Association of Securities Dealers (NASD), came together and launched NASDAQ (National Association of Securities Dealers Automated Quotations). It was a ground-breaking and industry-led solution—with some nudging by the Securities and Exchange Commission (SEC)—that was a huge leap forward for the over-the-counter (OTC) market by creating “streaming” quotes. Nasdaq enabled OTC stock market makers to update their bid/ask quotes electronically, and then shared this information widely.
Sitting atop desks, Nasdaq’s cathode-ray terminals showed just quotes, market-maker IDs, and stock names. That was it. And at the time it was miraculous.
That same year the astronauts of Apollo 14 landed on the moon. This was the third moon landing, but the first in the lunar highlands and the first with a Modular Equipment Transporter, basically a wheelbarrow for the moon. Before safely returning home, the astronauts used that wheelbarrow to carry tools and collect geological samples like moon rocks and lunar soil to bring back to scientists on Earth for study.
That same year the United States left the gold standard, and the United States dollar became a floating currency subject to market forces. This abrupt change fundamentally altered the international monetary system.
That was also the year that scientists began publishing papers on the idea of punctuated equilibrium. Punctuated equilibrium was the idea that species are generally stable and changed very little for millions of years—until the punctuation of a rapid burst of change leads to a new species. This idea of an evolutionary “big bang” changed our ideas about change.
Nasdaq’s automated quotations system transformed the way our markets work and led to all-electronic trading. And now all of you are here today, leaders of your firms, with potentially revolutionary ideas like Nasdaq’s idea 51 years ago, and working to innovate not only for today’s markets, but reimagine for tomorrow’s. And that’s why we’re all here—to come together and talk about building the future of markets.
We are again in the midst of what could be another moment of abrupt change that disrupts the current market structure equilibrium.
There’s a lot going on. New technologies—particularly distributed ledger technology (DLT) and blockchains, whether permissioned or permissionless—present opportunities and risks. They could present a future of potentially promising and untold advancements. DLT could change the essential nature of money, payments, and finance. In the present, crypto markets recently have risen to, and fallen from, trillions of dollars in value. Non-bank financial intermediaries are playing larger and larger roles in financial markets. And all of this is against the backdrop of heightened global volatility, inflation fears, and geopolitical clashes.
So this conference comes at just the right time. Financial market infrastructures (FMIs), intermediaries, other participants, authorities, and global bodies are all focused on the promise and pitfalls of digital assets and DLT. Legal and legislative developments such as proposed bills working their way through the U.S. Congress or others such as the European Union’s proposed Markets in Crypto-assets (MiCA) Regulation, and international efforts at the G20 and the Financial Stability Board (FSB), all raise questions about what the future global regulatory landscape could look like. And recent plunges in crypto prices, “crypto crises” in liquidity and credit amplified by leverage, and substantial retail losses, make it crystal clear that we need to balance innovation with retail protection.
So this is what I’ll talk about today. First, I’ll begin by noting that we’ve faced similar challenges and market changes before. Second, I’ll identify fundamentals for responsible digital asset markets. Finally, I’ll outline a pragmatic approach to next steps.
I. WHERE WE'RE GOING LOOKS LIKE WHERE WE'VE BEEN
Digitalization—The New Electronification of Markets
Let’s take that trip down memory lane again. Many years ago, trading involved reams of ticker tape, and people running from room to room or desk to desk. Settlement of a trade could be whenever someone finally arrived and hand-delivered the money or the paper stock certificate—with the credit, liquidity, and counterparty risks in the meantime. And the octagonal futures pits in Chicago and Kansas City, or the ringed pits in New York, were rowdy scenes with hand signals and shouts, trade slips and runners. It always looks so fun in the movies, and that’s what led me to my first internship at the CFTC. You know—pork bellies and frozen concentrate orange juice.
Today, traders look at screens and floors are much quieter, notwithstanding the occasional hijinks, or lunch delivered to the desk, or your kids and dogs if you’re trading from home. The settlement cycle has been compressed from T+ “a lot.” Now always-on, real-time markets are possible. Technology has and will continue to transform our day-to-day life, and work, and our life’s work.
Nasdaq’s all-electronic markets—and the electronification of markets from equities, to FX, to rates, fixed income, and more—has led to more transparency, more access, more competition, more cost-efficiency, more liquidity. Market structure has shifted, and shifted again.
Digitalization and digital asset markets have the promise of all these benefits and more. But we must have guardrails to avoid the pitfalls.
Change Is Not New—And We’re Not the New Kid on the Block
Change is not new. As the saying goes, we’ve seen this movie before. I was working at the CFTC during another time of abrupt change over a decade ago. Just after the financial crisis, I was a Commissioner’s counsel. Our main focus then was rulemaking for all of the G20 reforms. Congress had just passed the Dodd-Frank Act. For the first time, there would be comprehensive regulation over the nearly $700 trillion dollar notional swaps market. The CFTC got that authority. Regulators arguably created the biggest change to market structure for swaps since the first ISDA Master Agreement. And then I lived through that change on the other side, working to implement Dodd-Frank, the Volcker Rule, and other global regulatory reforms at a global bank. No good deed goes unpunished.
Back then, we had an existing asset class that had new rules. And now, we have a potentially new asset class that potentially can use existing rules.
Well, the CFTC is not the new kid on the block. Since Dodd-Frank, we’ve had hundreds of rulemakings for new or changed rules. Show me another regulator with global jurisdiction, who’s handled that much volume and flow, for the most complex products, through that many market stresses and disruptions, and through incredible shifts in market structure like reforms for derivatives trading, margin, clearing, and benchmarks, or Brexit or IBOR transition. Show me another regulator that oversees as many global systemically important entities—as many U.S. and non-U.S. FMIs and as many U.S. and non-U.S. banks. Show me another regulator that has imposed billions and billions of dollars in penalties, with only about 160 staff in the Division of Enforcement.
And for the CFTC as well as other regulators, this is not a case of unknown unknowns. People talk about policing misconduct in the crypto markets—but we know what misconduct is. People talk about contagion in the crypto markets—but we know what contagion is. People talk about crypto bank runs—but we know what bank runs are.
These changes are not new. The CFTC is not the new kid on the block. This is not a case of unknown unknowns. We know what to do. We know how to do it.
Core Principles—What’s Old Is New Again
From a market regulation and market conduct perspective, no matter how much things change, some things are still the same. The basics apply across any asset class or technology. Don’t lie. Don’t cheat. Don’t steal. Be responsible.
The Core Principles of CFTC designated contract markets (DCMs) for futures are a good example. The general rule is that a DCM has to comply with twenty-three Core Principles set forth in the Commodity Exchange Act and CFTC regulations. These Core Principles help ensure customer funds are protected, risks are managed, and trading is fair, efficient, and transparent. They require each DCM to ensure its listed contracts are not readily susceptible to manipulation, and to have rules and resources in place to detect and prevent manipulation, price distortion, and disruptions of the cash-settlement or delivery process. They also require DCMs to have appropriate risk and oversight procedures and controls.
Don’t lie, don’t cheat, don’t steal, be responsible. This principles-based approach lets DCMs innovate and compete fairly and evolve along with the derivatives markets, whether the underlying is corn or crypto, e-mini or ETH.
The FX Global Code, a code of conduct for FX trading, is another example. The FX Code is designed to provide a common set of guidelines covering market participants and to promote the integrity and effective functioning of the wholesale FX markets. The code is organized around six leading principles: ethics, governance, execution, information sharing, risk management and compliance, and effective confirmation and settlement. It identifies good practices and processes at a global level.
In this room, many of you are running your own exchanges, clearinghouses, and CSDs all around the world. You have your own rulebooks, operational requirements, and hard-won experience implementing and enforcing them. Core principles and codes of conduct and decades of running highly regulated businesses are good tools to have and use for any new asset class or technology.
Digital Assets—New Technology, New-ish Products
Digital assets and DLT could make it possible to deliver financial services more quickly, securely, and at lower cost, especially cross-border. I’m talking about payments, financing, trading, collateral management, and more, across institutional and retail products and services. The process enhancements and efficiencies are compelling.
These developments in underlying technology don’t necessarily change the what—for instance, the exchange of risk, value, or ownership interest. But they do promise to change the how, through the development of new rails for the financial system—a question of pipes and plumbing, more than what’s flowing through them.
Take a look at what’s inside the new pipes. There’s a lot that’s not new or maybe just new-ish.
That is especially true for tokenization of real assets—take an asset, make a token, and put it on a blockchain. Because these are existing financial products, if it’s the same risk, and the same activity, it should be the same regulation. That should be the regulatory framework that should go with it. Where the product or technology is truly novel, then at that point you may need more regulatory clarity or guidance. But regulators should also try to be as technology-neutral as possible to keep rules evergreen and not in need of constant updating.
More CFTC Jurisdiction—The New-New
The CFTC already has a ready-made regulatory framework for many digital assets. We are a market regulator over commodity derivatives—futures, options, and swaps—and we oversee exchanges, clearinghouses, dealers, and other market participants and market professionals. We oversee DCMs that list and trade crypto derivatives, and derivatives clearing organizations (DCOs) that clear crypto derivatives. When you trade bitcoin or ether futures on a DCM and clear through a DCO, you get the same customer protections and transparency, including certainty over custody of margin and clarity regarding bankruptcy protections.
The CFTC has dealt with products priced by reference to something else for a long time. The statutory “swap” definition in Dodd-Frank is quite broad, and we’ve spent a decade implementing and overseeing the current swaps framework. In addition, some crypto trading in a lot of ways resembles emerging markets FX trading, and CFTC rules (with certain exceptions) cover a wide variety of FX derivatives—FX swaps, FX options, FX forwards, FX non-deliverable forwards (NDFs), currency swaps, and cross-currency swaps.
Congress is considering several crypto legislative proposals. It’s very encouraging that Congress is undertaking such a comprehensive effort to create a clearer and more holistic regulatory framework around digital assets in the United States. And to make very clear and even to expand the CFTC’s jurisdiction in this space. That will make sure that there is sufficient regulatory clarity for the industry and enable growth in compliant digital asset markets with protections for the retail public. Not only does that position the U.S. at the forefront of responsible innovation, it promotes American competitiveness in the international arena. It’s not too late to inform international standards to minimize market fragmentation, and partner with non-U.S. regulatory counterparts on global coordination and cooperation. And we can’t ignore the serious national security implications if money and markets move away from us, the United States.
That important work is urgent and ongoing. As a critical mass continues to build with Congress, market participants, public interest groups, and other regulators, I believe we’ll see the benefit of having the CFTC’s principles-based framework that is more flexible and more adaptable to new changes and new risks.
In the meantime, the CFTC has important tools in its toolbox. From my perspective, the SEC regulates the securities markets, and the CFTC has regulatory touchpoints with virtually everything else. It’s well-known that the CFTC has strong anti-fraud and anti-manipulation enforcement authority over spot commodity markets, which we have used over and over. The CFTC has successfully brought over 50 crypto enforcement actions since 2015, with hundreds of millions of dollars in penalties. The CFTC also has oversight over certain spot retail FX and spot retail leveraged commodity transactions. These could be good places to start while Congress thoughtfully works through tasking us with additional authority.
The key takeaways are that the CFTC’s regulatory framework is relatively asset- and technology-neutral. Our focus on principles-based regulation, customer protections, market integrity, risk management, price discovery, and transparency has worked well for our markets for decades.
II. REGULATION OF THE FUTURE FOR TOMORROW'S MARKETS
Digital assets and DLT could change our markets. It might still be early, but there are promising use cases if we can achieve blockchain stability and scalability across layer 1, 2, or whatever’s next. There are also familiar and in some ways predictable risks that could impact consumers, investors, and business protections; financial stability and financial system integrity; combating and preventing crime and illicit finance; national security; the ability to exercise human rights; financial inclusion and equity; and climate change and pollution. There are also the inevitable scammers and fraudsters.
Ten Fundamentals for Responsible Digital Asset Markets
As with electronification of markets and other shifts to market structure, where we’re going looks like where we’ve been. I would like to identify ten fundamentals for responsible digital asset markets. These may look familiar, but I told you that what’s old is new again. And yes, this is a floor, not a ceiling.
First, we need to identify the particular product or service. You have to know what something is before you know what rules apply. This means knowing whether a product is a security. This means knowing whether it is a novel, native crypto asset or a traditional financial instrument cleverly rebranded but still subject to existing laws and regulations. These kinds of questions are being worked through here in the U.S. as well as abroad in other jurisdictions, and at the international standard setter level.
Second, the product or service must be within the regulatory perimeter. If there are areas of the financial system that are apparently outside and unregulated, such as a “shadow” crypto financial system—shadow banking 3.0—then the appropriate response is to bring them inside. This is what the CFTC did in large part for the OTC swaps market after Dodd-Frank. And while Congress continues its work on developing legislation, there may be other ways as well to make sure the CFTC and others are exercising the full extent of their existing market oversight, supervisory, and enforcement authorities.
Third, we must mitigate systemic risk. We’ve seen disruptions spread from the collapse of projects such as Terra and Luna, revealing potentially undisclosed connections, exposures, and interdependence among large participants that increases the risk of spread amongst and beyond crypto. We need to address this.
Fourth, we must combat illicit finance and national security risks. Our markets need to be safe from exploitative money laundering, cybercrime and ransomware, narcotics and human trafficking, and the financing of terrorism.
Fifth, we must appropriately use activity-based and entity-based regulation. Market regulators oversee product activity, and who engages in it. Prudential supervisors oversee entities, and the activities they engage in. Same, but different.
Sixth, we must protect customers and the retail public. There should be requirements for disclosure, suitability, and education at a minimum. People should know what they are getting into. Recent news reports, about potential lack of protections in the event of bankruptcy for customers holding digital assets on platforms, raise real concerns.
Seventh, we must ensure transparency. DLT presents great opportunities in this regard.
Eighth, we must vigorously enforce market conduct rules. If you are lying, cheating, or stealing—if you break the rules—then you should face the consequences.
Ninth, we must address conflicts of interest. There should be requirements for appropriate governance and oversight; prevention or management of conflicts of interest such as prohibition, disclosure, or information barriers; and alignment of incentives amongst market participants.
Tenth, we must promote free markets that will unlock American innovation. I believe that markets work best when there are clear and simple rules with common standards. That’s something I learned time and again in government and in the private sector. Regulation shouldn’t unnecessarily increase operational complexity or costs, especially costs that then get passed down. The rules shouldn’t be so difficult, conflicting, or overlapping that they are impossible to implement in the real world. Lack of regulatory coherence impedes the ability of regulated institutions—who have the experience and the resources—to actively participate in digital asset activities and responsible innovation.
III. A PRAGMATIC APPROACH TO NEXT STEPS
Do Androids Dream of Electric Sheep?
The future will stretch our imaginations. Just as the internet’s emergence led to the profusion of social media, mobile connectivity, and cloud computing, today’s technologies may put us on the verge of a Metaverse of real-time, immersive, massively multi-person content, experiences, and connections. We could be moving from crypto and blockchain as a wrapper on value to a wrapper on reality.
Some foresee the Metaverse, Web3, crypto assets, non-fungible tokens (NFTs), and portable digital identity and ownership enabling a seamless convergence of our physical and digital lives—creating unified, virtual communities where people can work, play, relax, transact, and socialize. Pop stars and avatars already are performing live music concerts with varying degrees of real life intersecting with the virtual, from digital avatars on real stages, to live performers on streamed stages, to live digital performances done entirely online. For some, the Metaverse promises even better ways to do everything we do now: commerce, entertainment and media, education and training, manufacturing, and business in general. With a broad take on the “Open Metaverse,” one report states that the total addressable market could grow to between $8 trillion and $13 trillion by 2030, with around five billion total users.
The technology of the future calls for the regulation of the future. Significant infrastructure investment will be necessary in computing, data, networks, hardware, and software to achieve the Metaverse. We have to invest in our regulatory infrastructure as well.
One, Two, Three
So here are the next steps for how we get to the right regulatory future. My work in the private sector taught me that the way to get things done is to get all the information, learn as much as possible, and then find pragmatic solutions. Recent market events, including big losses for regular people, show us that we need to take action now.
One. We need to get all the information we can. Here in the United States, SEC Commissioner Hester Peirce and I have called for joint CFTC-SEC public roundtables to evaluate recent crypto market events and risks, and to discuss how to regulate crypto responsibly and with greater clarity. Globally, I am sponsoring the CFTC’s Global Markets Advisory Committee, which is about having a level playing field and will focus on firms’ global business strategy and operations and the markets that are needed to support growth and effective risk management. The GMAC is an international forum for executive leaders from both the public and private sectors to come together and create a shared vision for the future of markets. I’m inviting international standard setters and non-U.S. regulators to participate. One potential subcommittee could be on Digital Asset Markets. Looking around the room, it’s clear this market evolution presents global challenges that need global solutions. It’s so important that we talk together, so that regulators can leverage the expertise of people who are doing this every day. You are all a part of this. You need to be a part of the solution.
Two. We need to learn as much as we can. We should remember hard-learned lessons from the financial crisis and Dodd-Frank and other G20 reforms. Let’s be careful about “big bang” changes that could lead to market fragmentation and unintended consequences. I have been on the implementation side of things, and it takes time to operationalize rules, build processes and systems, and put into place all the compliance and risk management programs—you need a runway. We should move forward with both hard work and hard thinking, so we do it right the first time and don’t have to rely on dozens of one-off staff letters, exceptions, and temporary fixes. And if a new universe is really being created, we don’t want everything we know and have built to be blown up on the way there.
Three. We need to find pragmatic solutions. We should start with what we have. I believe it’s usually faster, easier, and more reliable to use what’s existing and tried-and-true, than to stand up something entirely new. So we should apply existing laws where we can. When it comes to the CFTC, we have ready-made regulatory frameworks for derivatives markets that have stood the test of time. We have our core principles and business conduct standards. We have broad anti-fraud and anti-manipulation authority. Where we have rules at hand, let’s use them.
We should harmonize the laws and rules we have and those we might have. I know firsthand from implementing global regulatory reforms just how important harmonized rules are. That means coordinating across authorities and jurisdictions. That means not only the CFTC working with the SEC and other U.S. regulators, it also means working with non-U.S. regulators too.
We should work towards forward-looking laws and regulations. From the beginning, we should aim for durable, flexible regulations—we should try to future-proof what we do. This proactive—not reactive—approach to regulation and oversight will ensure that we continue to meet our mandate both today and in the future, as technology and markets continue to evolve. That’s what the CFTC is built to do—to anticipate and adapt more quickly to new changes and new risks.
And one more thing. In all this, we should keep retail protections front of mind. It’s clear from billions of dollars of losses by the retail public, and the knock-on effects to the broader crypto markets, that regulators cannot fail to act any longer.
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BUILDING THE FUTURE OF MARKETS
We’re facing fast-moving, disruptive challenges to current technologies and market structure. But as Phil Mackintosh, Chief Economist and a Senior Vice President at Nasdaq, wrote last year while recognizing Nasdaq’s 50th anniversary: as we look forward, don’t forget to look back. In ways hard to foresee when Nasdaq was launched, computers have revolutionized financial markets across the world. Automation has led to greater transparency and efficiency, with the most electronic markets tending to be the most transparent, broadly offering information and access. These were fundamental changes requiring hard work, hard thinking, adaptation, and resilience.
Fifty-one years ago, the United States left the gold standard behind, and gold took its place among other assets in a more complex international financial system. Will more innovations and this crypto winter usher in a new era beyond the bitcoin gold standard? What new digital specie—what new digital money—will evolve? Will markets find a new equilibrium, one that rests on Web3 and DeFi? We have to do the heavy lifting. We have to be pragmatic. Wheelbarrows work on the moon.
In the 1990s, Nasdaq’s Technology of the Future built “the stock market for the next 100 years.” Today, with our Regulation of the Future—and with some nudging by the CFTC—we can build the global financial markets for the next 100 years and beyond.