The past year has been the “worst” in crypto history in terms of negative headlines, but most of the problems were caused by centralized intermediaries rather than the underlying technologies of cryptocurrencies, said Erik Voorhees, founder of decentralized trading platform ShapeShift, at DC Blockchain Summit 2023.
The Bitcoin pioneer was joined on stage by decentralized finance (DeFi) advocates to discuss the challenges facing the cryptocurrency industry in light of recent negative headlines, in a panel discussion hosted by Forkast Labs co-Chief Executive Officer Angie Lau.
Kathy Kraninger, vice-president of regulatory affairs at Solidus Labs and a former director of the Consumer Financial Protection Bureau, Jonathan Jachym, global policy head of crypto exchange Kraken, and Rashan Colbert, head of policy at decentralized exchange dYdX, were part of the panel discussion.
The four industry experts emphasized the need to focus on decentralization and benefits of DeFi over the traditional financial system, while calling for clear communication and strong policy frameworks.
The following Q&A has been edited for clarity and length.
Angie Lau: I applaud all of you for coming here for a platform of communication. We talk about how innovation really moves forward only when the rails exist. Here on stage, you will be hearing from some of the most powerful and influential payment and exchange rails. We do it on the data and infrastructure side and the media side, the information rails.
But one would argue that the policy rails must also strongly align to this entire industry if it is to move forward. We come here at a time where the headlines are blaring, erosion of distrust. We’re seeing day to day from an exchange perspective that people are taking money out, the trust is not there, there is capital flight. But then buffeted by more headlines of the banking industry, traditional finance, and where do we find that safety haven?
As we talk about what happened in the decentralization space, you have an OG here with Erik Voorhees and you have some OGs here from the policy space and now in the decentralized and exchanged crypto exchange space.
Let me start off with a question for our panel. As these headlines erupted, exploded, what did you see from a decentralization front that perhaps others did not see, but within the industry, you really saw what kind of migration, what kind of activity post these headlines?
Erik, I’ll start with you.
Erik Voorhees: Sure.
Hi, everyone.
We had a lot of headlines over this last year and most of them were horrible. It was probably like the worst year in crypto history. Observers made the mistake of assigning these headlines to cryptocurrency broadly when nearly every single disaster was a disaster of centralized intermediaries and really had nothing to do with the specific technologies that are the reasons we’re all here.
So decentralized finance obviously works according to immutable code that anyone can see — open source, it acts precisely according to that code. Intermediaries run according to the squishy feelings and behaviors of humans. This last year was really an example of demonstrating the superiority of open, immutable code over the rules and behaviors of central intermediaries.
Lau: You saw that flight into DeFi?
Voorhees: Not as much as it should because a lot of people aren’t making the proper distinction between where the problems were and where the solutions were. They see the problems broadly in crypto rather than with specific intermediaries, and the solution being these open source, immutable, decentralized protocols.
Lau: Kathy.
Kathy Kraninger: Good morning, everyone. Great to be with you and with this distinguished panel.
With respect to decentralization, it really is truly an interesting year. As Eric said, I haven’t been following this as long as he has, so I’m a little late to the game, but it’s demonstrated by everyone in this room and everyone watching, the interest is growing.
Why are we not seeing a flight of funds to decentralization? There’s a lot of what I would call swirl. It’s the uncertainty about exactly what is safe. You look at social media as the source of information for this industry. There are a lot of different voices out there. And we also have a lot of fraud in this space. Wherever there is value, wherever there is money, there are going to be people looking to make money at the expense of others, certainly illicitly and illegally. That is one of the challenges that those who are leading voices in the industry and advocates for the space can do a lot to help really clarify some of those things. As we get best practices and as you have truly decentralized rails, people will see the value and understand that better. But part of it is a communication challenge and so much noise that is out there that is frankly confusing to average people.
Lau: Jonathan over at Kraken, what did you see in terms of immediate behavioral activity in the marketplace from your perspective at Kraken?
Jonathan Jachym: Yeah, thank you.
From a market integrity perspective at Kraken and other established markets, things worked well. The markets functioned as they’re designed to do both with centralized exchanges and with decentralized exchanges.
From a policy perspective there’s been a lot of confusion about crypto’s contribution or impact here. Unfortunately, that’s resulted in a lot of knee-jerk reactions. Yes, there’s been an enormous amount of volatility [and] there’s been vulnerabilities in the market, but that shouldn’t drive a broad reaction. We should be deliberate about the policy reactions. In the near term, we’ve seen, at least in the U.S., a lot of activity in the states to complement some of the federal efforts. We’re going to continue to support these policy efforts and hopefully educate stakeholders so that we have the right outcomes in terms of the regulation that we believe is needed for centralized exchange marketplaces.
Lau: Rashan over dYdX, what did you see?
Rashan Colbert: I just came to dYdX three months ago. The preceding seven years, I was working in the United States Senate. A lot of the turmoil of 2022, I saw through that lens.
Immediately coming over as a person who has a certain level of belief in decentralization and the technology, I saw and tried to make the case to folks that while we’re seeing decentralized entities have issues, failures [and] collapses, we’re actually seeing the protocols last and sustain. We saw some capital flow into decentralized protocols into the DeFi space. Building on what Erik said, a lot of cash flowed out of the system because there was that conflation of centralized intermediaries and the protocols. But for folks who wanted to participate in the space, we did see a bit of that transition into DeFi. It was a defining moment to some degree in the last year and shows that this technology is not subject to the same whims of people and their decision-making.
Lau: I would say that there seems to be an evolution of conversation as well.
Erik, you and I spoke a couple of years ago, and certainly the space seemed a lot more — I don’t know if the word is avant garde — moving forward and with the focus on the technology and potentially less on the structure as it exists within government, society and such, in terms of the policy rails.
Fast forward to today, we really see teams with incredibly pedigreed folks like yourselves who come from the government side to participate on behalf of the industry to face forward. That maturity is evolving.
Erik, for you — because you’ve been in this space the longest, really — how do you see this evolution going? Have we reached peak conversation or do we have a long ways to go?
Voorhees: I would say it’s unfortunate when projects which are trying to build actual solutions to problems veer away from engineers who build those solutions toward basically trying to get Washington or state-based governments from harming them.
You see this kind of perversion from these very interesting entrepreneurial startups, and as they get bigger, they start to ossify and huge portions of their payroll go to compliance. The best example of this, of course, is the banking system wherein some banks, like 20% or 30% of the payroll, is just in compliance. Some of these big banks have literally thousands of people working in compliance or in regulatory affairs.
You also notice that the banking industry does not innovate anything. It’s become completely ossified, does not solve problems for people and has an absolutely horrible reputation. The whole thing is like burning down in front of us right now. These things are related.
The beauty of crypto is that you have people that are actually building this technology from an engineering perspective. And thank God that they’re not just sitting around asking permission to do so. They’re just building it without permission. Sometimes, they have to do that anonymously because they feel so threatened and so endangered by various government regulators that they simply do not feel safe being public about who they are. That’s a travesty. That’s un-American. I hope that that gets better with time, but I’m not super positive about that.
Lau: It’s a view on the spectrum of the political reality that we live in today. There, on one hand, it is that innovation and entrepreneurship and pioneerism that have expanded our frontier, have expanded our horizon. Yet the stability of a framework, a society, or a structure allows us to engage with each other with trust.
How have you, Kathy, thought about that from your experience, obviously, in one of the biggest government agencies and now having to use those communication skills and understanding the landscape. How are you moving that forward over at Solidus Labs?
Kraninger: I can build on what Erik just said because I spent my career seeing massive transformative events and disruptive events and thinking about how we need to still just build incrementally. Change is hard for people building change. You have this whole regulatory structure that we’ve built upon [and] you’ve got all the incumbents embedded in it. And so, you just keep pushing the rock up the hill and look for ways that you can make it at least somewhat better.
But, as Erik noted, we have so many things that have completely calcified and so many of those rules and requirements and compliance things that have all piled on top of each other. You have to stop and think about how effective any of it is. It really is something that requires fundamental transformation, reexamination, thinking about why we do the things that we do and if they make any sense. That’s the exciting thing about this industry. It really is asking those questions. Having technologists come at human problems and issues and really saying, “Look, there’s a totally different way to think about this.” That’s one of the challenges in talking to regulators, too. That’s where they’re coming from. So I absolutely encourage those. It does take effort, as Erik noted.
Engaging and explaining the problem you’re trying to solve, sharing the use cases, it matters. And we are making progress as much as we can all get pulled back on some of the things that are less positive out there today. We are making progress with people understanding and seeing the use cases, the things that can actually solve and move things forward. But changing the current structure, the way people have built on it, it just takes time.
Lau: Jonathan, Kraken is a pioneer and because of that, you’ve faced numerous regulatory investigations.
The exchange started in 2011. Seven years later, agencies came knocking. How would you describe, right now, as Kraken has overcome a lot of these regulatory hurdles, and as Erik said, has really kind of been that bottleneck of energy and efficiency from an entrepreneurial perspective. How would you describe the regulatory environment in the U.S. right now? And where do you think things stand from a policy perspective in the U.S.?
Jachym: There’s a lot of different components to policy in our space. Kraken, as you said, is one of the oldest and largest of the digital asset markets, but our business has broadened over the years. We offer trading in over 200 assets, but also OTC trading and futures where we’re licensed. We actually operate one of the world’s largest and most widely used crypto index providers benchmarks, which is licensed and regulated in the U.K. We were proud to launch our NFT market last year and we’re soon to launch our services under our Special Purpose Depository Institution Charter in the state of Wyoming. There’s a lot of different facets to our business, and regulatory change and policy is touching each of those.
Our policy team, which I was charged to establish and build over the last 16 months, is on the ground in London, Brussels and Washington. We see different jurisdictions at different stages of the development process.
Here in the U.S., we categorize things in four big buckets. This is oversimplifying, but if you think about policy, market regulation and consumer protections is one, financial crime is another, banking prudential regulation is a third and taxes, the fourth.
On the financial crime and AML space and tax, there’s been a lot of positive progress and constructive engagement and dialog. We sense frustrations on market regulation, particularly with centralized exchanges.
Regulation of centralized marketplaces is not a new concept. I spent over 11 years working at some of the largest traditional financial market and exchange groups. There’re core components here that are very applicable to regulating centralized markets such as ours, listing disclosure and market integrity, custody, segregation, customer asset protection. These are all very common themes. Yet, what we’ve seen is the intent and desire to simply take this new technology and shoehorn it into traditional market rules and regulations and labels. And there are just nuances with the technology that would create a bad outcome there and would really damage not just innovation, but competitiveness here in the U.S.
There’s a lot of good ideas on the table to legislate in this space, and we’re really encouraging Congress and our policymakers to act and bring clarity and jump in real quick.
Voorhees: I think Jonathan’s a little too polite to bring this up, but Kraken has been absolutely like one of the stalwarts of the industry. You guys have been around for a long time doing great work. You have not stolen billions of dollars of customer money. It’s atrocious that FTX was like the darling of DC. And yet a company like Kraken that’s been around actually doing good work for so long has faced all this regulatory scrutiny. There’s something seriously wrong with that. And if the regulators were out to actually protect people, they probably would have been going after FTX for committing the greatest financial fraud in crypto history and maybe not be so rude to Kraken.
If anyone out there like has anything to do with FTX or Kraken, maybe think a little on that.
Lau: That is a very solid point. We are in the nation’s capital and we are very clear that while we’re talking about policy, politics is very much the purview and the tailwind that drives a lot of these conversations. It is part of the language of this country. It is part of the vernacular, which is also super unique when we talk about the maturing of the space. I look at you and then I look at our very esteemed panelists who come from a very experienced background in policy and in government.
Rashan, you’re a perfect example. This dYdX, as a decentralized exchange, is looking to somebody like you with your platform, with expertise, with your network and your ability to navigate within the structure of Washington D.C., to try to advocate for itself.
How do you see your role? And certainly as a new participant in this space, what in your mind is going to be your value set here?
Colbert: That’s a great, great question.
I see these different pieces as intricately tied together. We have our policy that obviously our policy makers set on Capitol Hill, we have the regulations that the executives enforce, and then we have this political system that kind of ties all these things together.
Hopefully, I can work and be a voice for dYdX and DeFi and hopefully for part of crypto writ large to help connect all these things and help us see the places where we need to to be active. There’s a trite phrase in policy in circles: “If you’re not at the table, you’re on the menu.”
In order that we’re not cut up to the specifications or cooked in the way that other people would like us to be served, we have to be deep within these conversations and make sure that we tell people what the merits or the risks are of decentralization, that’s obviously the focus of this specific panel. There are pros and there are cons. For some people, self-custody is a great thing but if you really don’t want to keep your keys, then there are solutions that are on a different place in the spectrum. So going into each of these different ideas that are unique to crypto and to decentralized solutions is important and making sure that we’re bringing those solutions to the right parties.
Lau: Erik, building trust, is that something that is achievable?
Voorhees: Yeah, it is.
In finance, people have been trying to build trust using the reputation of individual people and brands and policies. That’s how we get the traditional financial systems. That works okay, but history is rife with examples of that trust being violated everywhere from a small payday lender all the way up to the central banks of the world, they destroy that trust periodically. They’re humans. Humans are fallible creatures.
We have, finally, an alternative way of building trust, which does not rely on the subjective whims of human fallibility, that is, with open source code, essentially with mathematics.
If we can trust mathematics, we can build trusted finance using mathematics. This is what DeFi is all about. It’s amazing that people care about rules. D.C. is supposed to care about rules. The builders in DeFi are creating financial systems which enforce rules 100% of the time all over the world, purely as written in an open and objective way, where there is no bias at all in its execution. DeFi is ordered in this way. DeFi is superior to law.
When we talk about building trust, we actually can do it mathematically now. That’s a very special thing. This is something that will change the world and we can actually create a financial system that people can rely on 100% of the time because it’s built on mathematics instead of people.
Lau: So how do you bridge that? And what Rashan said, if you’re not at the table, you’re on the menu. Do you think you’re on the menu?
Voorhees: I’m definitely on the menu.
Lau: The appetizer, the entrée and dessert.
Voorhees: What’s not on the menu is the decentralized platforms themselves. They operate out of the bounds of human perversion and coercion.
Bitcoin being the greatest example of this.
Bitcoin, by all objective views, essentially violates all financial regulation that the world has built up over the last couple of decades. Why hasn’t it been shut down? Because it can’t be. Because it lives on a plane that is above humanity. And this is what makes it objective. This is what makes it fair. This is what makes it superior. And this is what makes it virtuous.
Lau: Here’s the flip side. The flip side is should we invite the regulators to the code level? Instead of demanding the technology to sit at the table, is there a way to invite the regulators to the open source, to the code level?
Kraninger: That is fundamental. I completely agree with Erik [and] Erik’s assessment of things, as does the audience, it sounds like. But you still have to deal with the human element of people actually understanding and engaging with it.
There are generational changes happening now too, in terms of people’s comfort level with technology. You saw it in the pandemic in spades. I’d rather look at a device than the person standing in front of me. We’re getting more and more comfortable with a lot more technology and more technologically savvy people.
But look, Washington is one of those bastions where everyone’s still wearing suits and it is definitely a much more traditional place. The regulators are that way, too. Again, regulators are built on all of that history and the notion that precedent really could be looked at fundamentally and thinking about these things more broadly in terms of the effect and the impact, it is something that is a bit revolutionary, I suppose.
The notion that regulation can change. Decentralization, we’ve had a lot of questions, too, with respect to: Is it truly decentralized? Who’s making money from it? When you’re talking about finance, somebody is trying to make money. So how do we actually assess and understand that? Those are the things that regulators are grappling with. And you do have people in the agencies who are trying to understand. Getting that engagement around, again, understanding what the opportunity is, is going to take a little bit of time. But it’s still very much worth our time as an industry. That’s why all of us are sitting here today and still living and working in Washington.
Lau: I note that we have the liberty and the freedom to have these really robust and candid conversations. Jonathan, you and I were reminiscing about Hong Kong and for the past 10 years as a foreign correspondent leading out of Hong Kong, certainly aware of the dynamics and certainly with China top-down, very categorically banning crypto. Yet this innovation persists, exists from the ground level.
I kind of compare crypto to water. It will always find a way. In that way, Jonathan, where do you see us right now, as you evolve the business from a crypto perspective as the world really wants to engage? What is the opportunity right now for policymakers here to also engage and to champion the kind of innovation that is allowed to exist in a country like this?
Jachym: Look, this conversation is not unique to Washington. You see a lot of developed markets, emerging markets grappling with this. In some sense, technology is paramount here. Having spent a lot of my career in traditional markets, you see things that are clunky, processes that are inefficient and costly. You see the real power of not just blockchain technology, but DeFi is a key driver to really improve the way our society functions and our financial markets function and to improve access. That’s a powerful thing.
In terms of international engagement, these markets are more global than any other markets I’ve ever worked in. We heard the CFTC commissioners talking earlier about regulation of global markets. One thing that concerns us is that as these conversations progress in Europe and Asia, here in the Americas, we’ll end up with a patchwork of different regulatory frameworks.
If we look back to the post crisis reforms, there was a lot of work that was done, but there were some clear international principles that guided those efforts, and it didn’t land in a perfect harmonized fashion, but at least helped. Here, we’re worried about what happens if many different jurisdictions go in different directions. There’s a real opportunity. You see the U.K. and Australia, in the process of developing legislation. You see Japan, Switzerland having regulation in place, reviewing some of that. Different jurisdictions are taking different approaches. I know the international standard setters, not just in the market regulation space, but broadly, are also working towards some more harmonized thinking, which we believe is greatly needed in this space.
Kraninger: Just to jump on that too, it’s really a lot of the starting point is around CeFi, which makes sense. And regulators are looking at DeFi, but in the vein of trying to understand it, trying to understand that there are risks. Rashad said there are pros and cons to the decisions that people make and how and where they want to store their money and their investments. So thinking about that and being thoughtful is what a lot of the international regulators are doing and together.
It is hard. We’re not going to tear down the walls of of nation states and note that there are actual jurisdictional lines here that are geographic, but that is a barrier to the continued expansion of decentralized finance and crypto of the rails that can really transform the way we we live and work, just like the internet did in this next evolution.
So there’s required coordination, there’s required conversation, but there will be those jurisdictional lines. So trying to understand how best to do this, it will definitely need that kind of coordination and engagement with those in the room.
Lau: The innovation also gets to move forward when all of the pollution of the cons of the technology and the participants who really pollute that space are removed. That is hopefully the role of legislation and policy. But of course that only exists if you can understand the technology that only exists if you are clear enough about the innovation that you can be so specific to excise those participants.
Last question for the panel. If there was one hard line legislation out there and/or attitude out there that must go away in order for this innovation to move forward with the greatest degree of independence, what would that be? I’ll start with you, Rashan.
Colbert: We need to make sure that we’re making protocols permissionless and that builders can build. There are secondary things that we can do to keep people safe on top of that. But if we’re infringing upon speech and the ability for people to innovate, then we’re going nowhere fast.
Jachym: We’re a marketplace. Our success or failure is pegged to the success or failure of the innovators that bring their projects to our marketplace. The one thing that needs to go away is paralysis in terms of getting something done that will provide clarity for centralized exchanges. The EU has finalized their rules and are moving on to the regulatory phase and we are business planning as a business. We want to get to a point where we can do that in the U.S. with clear legislation.
Kraninger: Certainty is definitely at the top of desire. But I would note the other side of that. Let’s make sure as we look at market structure [so] we don’t re-embed intermediaries as a required part of the ecosystem because we will completely miss out on the opportunity of decentralization.
Voorhees: Let’s remove this notion that the government should know everything about everyone. That’s a fundamental principle. Let’s maintain fidelity at least to the Fourth Amendment to the U.S. Constitution, and permit free, sovereign individuals to have privacy in their own lives. Unless we want this to be China or Russia, let’s permit privacy among people. That requires a substantial mentality change on the part of regulators.
Lau: And that requires listening and acknowledgment of other people’s perspectives. And I applaud all of you for listening and doing exactly that. Thank you to our panelists today.