Facebook’s Libra Should Be Regulated Like a Security, Says Former CFTC Chair

UPDATE (July 17, 2019): This article has been updated with the remaining witness statements, which were published on the morning of July 17.

Libra is a security, says a former Commodity Futures Trading Commission (CFTC) chairman in prepared remarks to the U.S. House of Representatives.

Gary Gensler, who chaired the CFTC from 2009 to 2014 and previously held leadership roles at the U.S. Treasury Department, says in written testimony that Facebook’s new cryptocurrency project looks like an investment vehicle and that Libra may even resemble some banking structures.

Gensler will testify before the House Financial Services Committee on Wednesday, as part of a panel of expert witnesses on the potential implications of Libra. He will join Public Citizen president Robert Weissman, Columbia University law professor Katharina Pistor, Georgetown University law professor Chris Brummer and CoinShares’ Meltem Demirors.

In Gensler’s remarks, obtained by CoinDesk, he describes how the Libra cryptocurrency might be classified as a security.

At the heart of his argument is Libra’s structure: Libra itself is intended to act as a kind of stablecoin, with its value pegged to a basket of sovereign currencies and government bonds. Members of the Libra Association, the governing council charged with overseeing the cryptocurrency’s ongoing development after it launches, will receive a Libra investment token – a security token, as Facebook has acknowledged.

Collateral earned on the basket of currencies backing Libra (referred to as the Libra Reserve) will go to holders of the investment token, according to documentation Facebook published about the project last month.

Gensler argues this means Libra itself looks like a security, saying:

“As currently proposed, the Libra Reserve, in essence, is a pooled investment vehicle that should at a minimum, be regulated by the Securities and Exchange Commission (SEC), with the Libra Association registering as an investment advisor.”

‘Pooled investment vehicle’

According to Gensler, Libra is a security for the same reasons that the Libra Investment Token is a security.

There may be debates on whether and how Libra qualifies as a security under the Investment Company Act of 1940, the Howey Test, or the “Reves Family Resemblance Test,” but none of these are strictly important for this analysis, he argues, explaining:

“It’s unambiguous that [the Libra Investment Token] is a security as it will receive a net return based upon interest on the Libra Reserve.”

In Gensler’s view, the actual Libra token is “part of the same pooled investment vehicle,” and therefore faces the same market risks as the investment token.

The SEC is already considering whether Libra could be considered a security, and therefore falls under its purview, according to a Wall Street Journal report.

“Further, investor protection will be just as important for the proposed Libra token as it is for investors in international bond funds or in commodity ETFs such as gold, silver, or oil ETFs,” Gensler says. “I also believe that each Authorized Reseller of the Libra token would need to be a registered broker dealer.”

He describes holders of Libra as a “2nd class of investors” in the Libra Reserve.

Bank too?

Securities concerns aside, aspects of Libra’s setup also may fall under banking regulations, Gensler adds.

The Libra Reserve is effectively proposing “a private form of money” which can be used for payments, storing value and lending “the proceeds to banks (as deposits) and governments (as debt securities),” he says.

These applications are similar to services offered by banks.

“Thus, there is some basis to consider the Libra Reserve as a bank or to apply bank-like regulation to it,” Gensler proposes. “At a minimum there should be restrictions on Libra Reserve’s investments and prohibition on its ability to lend or operate as a fractional bank.”

(It’s worth noting there’s actually precedent for a stablecoin issuer operating as a fractional bank: Tether.)

Myriad of issues

The other witnesses during the second panel also have concerns about Facebook’s efforts to launch a cryptocurrency. The remaining opening statements, which were mostly published on Wednesday morning, outline a number of issues that lawmakers and Facebook developers would have to address.

In her opening remarks, Pistor wrote that it appears as if Libra has been designed to act as a “currency of currencies,” but that its governance structure raises questions. Specifically, the Libra Association, which will be able to choose which groups can join it and is tasked with overseeing the network, maintains a large amount of power over the network.

“This concentration of power is unmatched by any meaningful accountability to anyone,” Pistor wrote, adding:

“The choice of the legal structure means that the members of the Libra Association will be insulated from liability and accountable only to themselves. They will not be accountable to holders of Libra coins or to the citizens of countries that create the safe assets used to backstop Libra.”

The U.S. regulatory structure needs to be updated, at least in part, to better address these concerns, she said.

Brummer’s opening remarks begin with more of a focus on consumer risk, noting that the Libra white paper does not detail how users might lose money on possible runs on the currency, as well as how the governance might cause the cryptocurrency to lose value.

Public Citizen’s Weissman, who was part of an open letter calling on Congress to impose a moratorium on Facebook’s efforts to develop Libra, echoed those concerns in his remarks.

“As a private, borderless currency, Libra will make it very difficult to ensure consumers are afforded appropriate disclosures, civil remedies, protection against usury, fair access to credit, defense against unfair and deceptive practices, and more,” he wrote. “There is good reason to worry that the Libra world will be a welcoming home for hucksters and scam artists.”

“No matter what Facebook now promises, Libra and Calibra threaten to make Facebook a corporate surveillance leviathan with no precedent outside the realm of science fiction, giving the company dramatically enhanced power over information flows and our economy, while also potentially worsening the already serious problem of algorithmic racial discrimination,” Weissman added.

For his part, Marcus said Libra wants to make it easier for individuals to access financial services regardless of what their personal circumstances might be.

Wednesday’s hearing begins at 10:00 a.m. Eastern Daylight Time.

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