Self-Regulating Bitcoin Exchanges: Will It Work?

Summary

WSJ Your Money Briefing

Episode: Self-Regulating Bitcoin Exchanges: Will It Work?
Date: August 22, 2018
Host: Charlie Turner
Guest: Paul Vigna, Wall Street Journal Reporter

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Episode Overview

This episode explores the burgeoning effort by major cryptocurrency exchanges to self-regulate through the creation of the Virtual Commodity Association (VCA). Host Charlie Turner and WSJ reporter Paul Vigna evaluate the goals, challenges, and potential impact of establishing best practices in an industry notorious for its lack of regulation and transparency. The discussion also highlights ongoing concerns around fraud, transparency, and the limitations of self-regulation versus formal government oversight.

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Key Discussion Points & Insights

1. The Drive Toward Self-Regulation in Crypto

• Several major crypto exchanges—including Bittrex, BitFlyer, and Gemini—have joined the Virtual Commodity Association (VCA), an attempt at industry self-regulation.
• Founded by Cameron and Tyler Winklevoss (Gemini), the VCA aims to set "a series of best practices, self-imposed rules and regulations for this industry" (Paul Vigna, 00:31).
• The goal is to provide oversight, develop standards, and increase transparency to bolster investor and institutional trust in cryptocurrencies.

2. The Diverse Regulatory Landscape

• Some exchanges (e.g., Gemini and BitFlyer) have already subjected themselves to state-level regulations, such as New York’s trust charter or the “bitlicense.”
• Others remain unregulated, creating inconsistency and vulnerabilities throughout the industry.
• Vigna notes:
  • "You have a lot of exchanges... but you don't have any kind of real oversight. The things that exist in traditional markets do not exist at all." (Paul Vigna, 03:10)

3. The Interplay of Transparency and Fraud

• The absence of transparency directly contributes to the high risk of fraud:
  • "The reason there's so much fraud is because there's no transparency." (Paul Vigna, 05:04)
• Many exchanges operate offshore with little or no disclosure of ownership, security procedures, or customer vetting.
• Lack of standard operational procedures makes it easy for unreliable or malicious actors to set up exchanges:
  • "You can basically buy off the shelf software, fire it up and call yourself an exchange and attract money from people." (Paul Vigna, 05:45)
• The VCA seeks to establish guidelines that differentiate responsible exchanges from dubious ones.

4. Practical Steps and Potential Standards

• VCA members aim to "share practices and methods with an eye toward cleaning up the industry and protecting customers." (Charlie Turner, 06:30)
• Enhanced disclosure, improved vetting, and sharing of best practices are intended to minimize fraud and boost market confidence.

5. Challenges with Enforcement

• A major open question: Can the VCA enforce its standards in a meaningful way?
  • "That's going to be a big issue... It's nice to say that we want to have standards, but are you really going to hold each other's feet to the fire?" (Paul Vigna, 07:10)
• The effectiveness of industry self-regulation will hinge on the presence (or absence) of credible penalties for violations.

6. The Problem of Non-Participating Exchanges

• Exchanges uninterested in voluntary oversight may simply remain outside the VCA:
  • "Bad actors might just remain outside the regulatory bubble." (Charlie Turner, 07:48)
• Vigna foresees a split between regulated (or self-regulated) exchanges and a persistent “gray market.”
  • "You can't shut down the black market, especially in cryptocurrencies... What you would hope to do is to minimize it as much as possible." (Paul Vigna, 08:46)

7. The Future: Industry, Regulatory, and Unregulated Tracks

• Long-term, the market may divide into three camps:
  1. Self-regulating exchanges (e.g., VCA members)
  2. Exchanges regulated by government bodies
  3. Unregulated "black market" or “gray market” actors
• The aspiration is for most trading volume and institutional involvement to flow through the regulated/self-regulated camp, raising industry standards and investor safety.

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Memorable Quotes & Moments

• On the need for transparency:

  "The reason there's so much fraud is because there's no transparency."
  — Paul Vigna, 05:04

• On the current state of exchanges:

  "You can basically buy off the shelf software, fire it up and call yourself an exchange and attract money from people. You may be the worst exchange on the planet, but you can do that."
  — Paul Vigna, 05:45

• On enforcement challenges:

  "It's nice to say that we want to have standards, but are you really going to hold each other's feet to the fire?... We just don't know yet."
  — Paul Vigna, 07:10

• On the inevitability of black markets:

  "You can't shut down the black market, especially in cryptocurrencies... What you would hope to do is to minimize it as much as possible."
  — Paul Vigna, 08:46

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Important Timestamps

• 03:08 — Explanation of cryptocurrency exchanges’ regulation status
• 05:04 — Transparency and fraud in the crypto market
• 06:41 — How the VCA hopes to set standards through information sharing
• 07:08 — The unsolved problem of enforcement and penalties
• 07:55 — Acknowledgment of exchanges remaining outside self-regulatory efforts
• 08:46 — Outlook for market segmentation and hopes for industry maturity

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Conclusion

This episode spotlights the infancy of crypto industry self-regulation and the efforts by prominent exchanges to instill trust via the VCA. While the initiative marks an important step, significant hurdles remain—especially around enforcement and dealing with unregulated actors. The conversation leaves listeners with a nuanced view: self-regulation may help professionalize the industry, but it will not, by itself, eradicate risk or criminality in such a fast-evolving and decentralized market.

Transcript

[A]

Deal replaces fragmented Payroll vendors with one global system. No third parties hire, manage and pay teams in 150 countries. Operate like a local everywhere. Visit deel.com WSJ. With your money briefing. I'm Charlie Turner at the Wall Street Journal in New York. In a moment we'll talk about an effort to self regulate exchanges that trade bitcoin and other digital currencies.

[B]

What they're trying to form is a body that would basically institute a series of best practices, self imposed rules and regulations for this industry.

[A]

The Wall Street Journal's Paul Vigna will join us. First, here are some money and market stories you need to know. Wall Street Journal Hurt on the Street's Charlie Grant says that all the clever wording in the world by corporate executives can't hide really bad news from investors. Generic drug company Lannet said its contract to distribute drugs made by Jerome Stevens would exp expire next March. Lannet listed several drugs and CEO Tim Cruise said that they would still significantly contribute to the company's financial performance in the coming months. But one of the drugs is the thyroid medication levothyroxine, which is among the most prescribed medicines in the U.S. the thyroid category accounted for about 40% of Lannat's revenue. Investors noticed Lanit shares were down 60%. Check out Jason Zweig's Intelligent Investor column in the Journal. Amid the march to the longest market bull run in history, stocks definitely aren't cheap. You may be one of a number of investors who believe stocks have nowhere to go but down, way down. There are concerns about rising interest rates, trade battles, emerging market turmoil and trouble surrounding some big high tech names. Jason says investors who fear the worst must above all not act rashly. It is, however, probably a good time for these people to re evaluate their investing plan plans and take some incremental steps to prepare for hazards that might make the market crash. Find out what those steps are in the intelligent [e-mail]. Bitcoin Ethereum Monero Ripple the viral growth of these cryptocurrencies has fueled a $200 billion industry now with more than 1,000 digital currencies but no real regulation to speak of the Wall street as several cryptocurrency exchanges have signed on to what appears to be the industry's first self regulatory organization, the Virtual Commodity Association. The VCA was founded by Cameron and Tyler Winklevoss, the co founders of geminitrust. Let's find out more about this organization and its goals from the Wall Street Journal's Paul Vigna, who joins us in our Studio Paul. The VCA announced its first member exchanges this week. They include Bittrex, Bitflyer, Gemini. What do the want the Virtual Commodity association to accomplish?

[B]

Well, this is part of an effort that you've seen this among certain exchanges. And to be clear, what you have now in the cryptocurrency market is a very broad global market. A lot of exchanges, a lot of people interested, but you don't have any kind of real oversight. The things that exist in traditional markets do not exist at all. So you have a lot of exchanges that allow people to trade, but their reliability is wildly divergent. Some are already regulated. We should point out, it's interesting, geminitrust, the Winklevoss's exchange and their company operates under a charter, a trust charter from the State of New York, just like any other chartered trust bank in the state. A couple of other exchanges are regulated. They've given into this idea that in order to attract institutional money, in order to attract the mainstream, in order to be a reliable business, we are going to have to submit to some level of oversight.

[A]

Now, are you saying that these particular exchanges, the ones that you've mentioned, regulate themselves? What regulation, what specific regulation are they subject to?

[B]

They're subject to, like in the case of Gemini, they are subject to all the laws that any trust bank in New York State is subject to. BitFlyer is one of the companies that received what's called the bitlicense, which was put out by New York State Department of Financial Services, which is another set of regulations that they adhere to. So some of these exchanges have decided to work with regulators or others do not. And that's the problem. That's what this VCA is trying to get around. What they're trying to form is a body that would basically institute a series of best practices, a series of sort of self imposed rules and regulations for this industry that would provide some oversight, that would provide some transparency and some confidence.

[A]

Is a lack of transparency the biggest problem with cryptocurrencies or is it fraud?

[B]

Well, the two go hand in hand. The reason there's so much fraud is because there's no transparency. A lot of these exchanges operate overseas, they operate offshore. You don't know who's running them. You don't know what kinds of security measures they have in place. If they have any security measures in place. You don't know what they're doing to vet their customers. If they're doing anything to vet their customers. You can basically, I mean, think about it. I'm using air quotes. You can't See it, but I'm using them. An exchange, when we think of an exchange, we think of something like the New York Stock Exchange, which is a large company which has a lot of redundancies, a lot of backup systems, a lot of ways to know who is doing what at what time. That doesn't exist in the cryptocurrency world. You can put a lot of money into an exchange. You can put almost no money into an exchange. You can basically buy off the shelf software, fire it up and call yourself an exchange and attract money from people. You may be the worst exchange on the planet, but you can do that. There are no real standards for even how an exchange should operate. That's a problem. And that is what they're trying to set up. Some kind of. This VCA is trying to set up some rules and regulations that would sort of not determine but would be a guideline for how these exchanges are supposed to operate. If you want to be a responsible, if you want to be a good financial business, this is what you would need to do is what they're trying to say.

[A]

Basically you write the VCA within the vca, members can share practices and methods with an eye toward cleaning up the industry and protecting customers. This is how they're going to set standards by basically, basically sharing information that

[B]

goes back to what you were saying about transparency and fraud. If you tell people what you're doing, if you tell people what your processes are, if you tell people that we are going to vet you before we allow you to trade on our exchange, then you will probably have less fraud on that exchange. Some exchanges do that, some exchanges want to do that, some exchanges don't want to do that.

[A]

Well, what about enforcement? How will rules within this organization be enforced? What about penalties?

[B]

That is going to be a big issue. And that's a big issue with even they call them self regulatory organizations, these SROs, even in the traditional markets, the question of penalties for breaking any of the organization's rules, thatI mean we don't know what the answer is to that question yet, but that's going to be a big part of whether this organization has anywhether it's effective at all. It's got to have some teeth to it. The problem with these organizations historically has been it's nice to say that we want to have standards, but are you really going to hold each other's feet to the fire? And when it comes down to it, we don't know yet. I mean, we just don't know yet. But that's going to be an important part of this. Are there going to be any penalties for breaking whatever rules they set up?

[A]

What about exchanges that are not members? Isn't it another problem that bad actors might just remain outside the regulatory bubble?

[B]

Well, yeah, they will and they will and they are now and they want to. So I think assuming, look, there are three tracks you're looking at here. One is the industry itself trying to police itself. Another is regulatory bodies trying to police this industry. And then the third are all the people within the industry that want to have nothing to do with the other two. So I think what you're going to end up with, let's look, 18 months, two years down the road and assuming that this VCA works, you would end up with a situation where you would have some amount of self regulation, some amount of government oversight and regulation which would kind of hopefully lend or result in an effective policing of this industry. And then you would have, on the other side of it, all the exchanges, all the sort of black market gray market operators that don't want to be part of this. You would have those two camps competing against each other. Basically what you would hope is that most of the volume, most of the traffic, most of the energy and effort and money is all going into this regulated, policed side of the industry. That's where you're going to get mainstream excitement. That's where you're going to have this become a responsible, mature asset class. You would hope that most of the volume, most of the action is going in over there as opposed to the black market. You can't shut down the black market, especially in cryptocurrencies. You will never be able to shut that down. What you would hope to do is to minimize it as much as possible.

[A]

Wall Street Journal reporter Paul Vanya. Thanks a lot, Paul.

[B]

Absolutely happy to be here.

[A]

And that's your money briefing. I'm Charlie Turner at the Wall Street Journal. Access to affordable credit helps me pay my employees, but I don't really need it. Inflation is killing me, but who cares? Big retailers are making record profits. That's why we support the Durbin Marshall credit card bill. See, banks and credit unions help small businesses make payroll. This bill would cut the vital resources they need while increasing megastore profits. They deserve it, don't they? Tell Congress stop the Durbin Marshall money grab for corporate megastores paid for by the Electronic Payments Coalition.