“All the regulation that is needed and not a drop more.”
That’s the approach New York’s top financial regulator said she’s taking toward the crypto sector, just under two years after first taking on the position.
Linda Lacewell, the Superintendent of the New York Department of Financial Services, hopes to guide the Empire State to a leading position overseeing regulated fintech entities, including crypto companies bringing services to market. Following her elevation to the department, she is seen as far more approachable than her predecessors, ramping up license approvals and bringing companies like PayPal into the crypto space.
NYDFS is no stranger to the cryptocurrency space. About as old as crypto itself, it was one of the first U.S. state agencies to investigate and create rules for the industry and remains one of the few to have a comprehensive regulatory framework. And while it isn’t the flashiest regulatory body, its reputation within the industry is still as a burdensome agency that drove some companies out of New York entirely (Kraken being one).
For all that, however, NYDFS appears to have been pivotal in bringing fresh money into the crypto space through regulatory approvals, to the point where some are ascribing the most recent bitcoin bull run to the introduction of PayPal (PYPL) to the crypto scene.
PayPal’s entry, arguably one of the most significant stories in the 2020 crypto space, opened the doors for each of its U.S. users to learn about or buy cryptocurrencies after it secured a conditional BitLicense.
“I genuinely believe that New York has helped move this industry forward,” she told CoinDesk.
This past year has been a banner one for cryptocurrency regulation. Wyoming awarded its debut special purpose depository institution charters to Kraken and Avanti, essentially creating the first crypto-native banks. At the federal level, former Coinbase general counsel and Acting Comptroller of the Currency Brian Brooks has taken a number of actions inconceivable a year ago. That includes giving federally regulated banks permission to provide cryptocurrency firms (and in particular, stablecoin issuers) with financial services and working to create a national regulatory framework for crypto startups that currently need to apply for money transmitter licenses in each U.S. state.
Lawmakers are likewise paying increasing attention to the crypto space, at least in part due to Facebook’s Libra announcement last year. But regulatory actions need time to take effect. Kraken and Avanti are just getting started, and neither banks nor crypto startups have begun taking advantage of the Office of the Comptroller of the Currency’s recent moves (at least publicly). In contrast, NYDFS has already ushered in a number of familiar names to the crypto space, opening the doors more widely to institutional and retail investors.
Lacewell took office in February 2019, initially on an interim basis, before being confirmed to serve a full term last summer. Over the past year or so the agency has granted trust charters to Fidelity Digital Asset Services, a crypto-focused division of one of the world’s largest asset managers, and Bakkt, a sister company to the New York Stock Exchange, reformed its own virtual currency licensing regime and helped one of the world’s oldest internet-native finance firms offer crypto services.
Over the course of her career, Lacewell has also been a prosecutor, investigator, policy and legal adviser, risk manager and system reformer, she told CoinDesk in November, skills from which she brings to the office. For all this, CoinDesk decided to name Lacewell to this year’s Most Influential list as an example of a regulator prepared to work along the grain of crypto rather than against it.
Lacewell is the third superintendent of NYDFS, following Maria Vullo and Benjamin Lawsky, the agency’s inaugural head after the New York State Insurance Department and New York State Banking Department were combined in 2011.
One of three sisters, Lacewell is a first-generation college and law school graduate.
Prior to her role at NYDFS, Lacewell was a counselor and chief of staff to New York Gov. Andrew Cuomo, as well as his chief risk officer. She has also served as special counsel to Cuomo when he was New York's Attorney General.
Since coming to the financial regulator, she’s looked at how the agency should address emerging issues, ranging from climate change to social media.
Melissa DeRosa, Gov. Cuomo’s top aide, told the Wall Street Journal in 2019 during Lacewell's nomination that Lacewell’s experience and actions “led to nationwide systemic reform” that would help her in overseeing NYDFS.
NYDFS concluded that social media platforms may warrant closer scrutiny by governments and regulatory agencies, at least in terms of cybersecurity.
“The world changes at a fast frequency and it’s just critical for regulators to be open to new ideas, to assess them on their merits rather than just sort of have them as a reaction,” said Dan Burstein, general counsel and chief compliance officer at Paxos, which received its trust charter in 2015.
Burstein was an attorney with NYDFS between 2012 and 2016 (though he didn’t have a role with the agency’s virtual asset licensing team).
Lacewell has likewise moved quickly on crypto since first announcing changes a little over a year ago.
Let the chips fall
Crypto is effectively an emerging fintech area. Lacewell sees her job as looking out for other emerging technologies that can be used to expand financial services and products. Indeed, this mandate is codified in the 2011 law that defines the agency.
What is "also fascinating in the financial services law is it said you are supposed to further economic development, you are supposed to further the industries that you oversee, and that is very forward thinking,” she said. “I think the older statutes either in New York or around the country did not have that perspective.”
Lacewell is agnostic as far as the actual companies or innovative technologies go. In her view, NYDFS’ role is to set up a regulatory framework that lets the market decide which companies can succeed or fail.
She pointed to community banks as an example. Fintech platforms may have the potential to threaten these banks (which the banks probably wouldn’t like).
“That doesn't mean go strangle fintech, right? On the contrary, we need to facilitate and foster the innovation of entrepreneurs and forward thinkers that are seeding and germinating these companies, because we need innovation,” she said.
The question then becomes how might NYDFS approach financial technology that could threaten community banks. The answer could be drafting guidance around partnerships or joint ventures.
The crypto buy, sell and trading services virtual currency firms were offering in the early 2010s were similar to the financial products and services NYDFS already regulated, which necessitated that the agency create guide rails for the industry, Lacewell said.
But, referring to her work reforming the agency’s virtual currency license (more on that later), this doesn’t mean the guidance should be immune to criticism.
“We demand a lot of industry across the board in banking, insurance, fintech, virtual currency. I believe we have to demand a lot of ourselves internally,” she said.
Burstein of Paxos told CoinDesk that any regulatory agency like NYDFS would be staffed with a capable team, and many of its duties, such as insurance or depository bank regulation, could be done on “cruise control.”
How that agency responds to novel areas like fintech show how much attention its head is paying.
“It’s clear that she has full control of the agency and the team is speaking on her behalf,” Burstein said. “It’s clear she’s dialed into this space.”
The agency announced a techsprint earlier this year with the Conference of State Bank Supervisors (CSBS) and the Alliance for Innovative Regulation, where it is crowdsourcing a reporting mechanism for cryptocurrency firms.
State and federal regulators are both hoping to reduce frictions in addressing these types of issues, she said.
“Change and innovation ripple outward. It’s not just the change in innovation in the industries, it then ripples out to the regulators and the regulators have to adapt,” she said. “The manner in which that occurs is very important because transition is a period of risk, wherever that transition is occurring.”
Lacewell’s most significant action is reforming NYDFS’ BitLicense as it hits its fifth birthday. The regulator first announced she was reviewing the regime last year, eight months after she first arrived at the agency, though details weren’t released until this past January.
“The state of DFS with respect to virtual currency innovation, nurturing, supporting through action and through words was deficient,” she said. “There were backlogs and there wasn't dialogue. DFS across the board was a very closed institution ... And I don't believe that is the right approach. I believe government is almost a living organism, that we've got to interact with our environment.”
One of her first actions after being confirmed by the New York Senate was to spin up a research and innovation division within the agency to examine emerging issues and tools. She said she also increased the size of the team processing BitLicense applications and began soliciting feedback on the license.
In October 2019, she told a Washington, D.C., audience that she was looking at how the crypto industry has changed since the BitLicense’s implementation in 2015, and whether it made sense to change the framework to reflect the industry.
One public consultation period later, the final revamp was shared on June 24, 2020: NYDFS would issue conditional BitLicenses, which allowed already regulated entities to partner with new entrants to quickly launch crypto services; partner with the State University of New York to let entities experiment with use cases; and create a green list of cryptocurrencies for which newly regulated entities could immediately offer services.
That reformation led directly to PayPal, a 22-year-old payments firm licensed as a money transmitter in New York, securing the first conditional BitLicense and being able to offer millions of customers the opportunity buy and sell services for bitcoin, bitcoin cash, ether and litecoin. PayPal’s move into crypto was one of the industry’s biggest stories (in a year of big stories) and evidence that Lacewell’s most open regime was beginning to produce results.
The company worked with Paxos, a NYDFS-regulated trust company that powers PayPal’s new offering, which went live last month for all users.
“PayPal and Paxos said, ‘Wait a minute, we think this fits for us in New York.’ We put a lot of resources into that application to help expedite them on their business timeline. People respond to that,” Lacewell said. “We’re not a regulator sitting up on high saying ‘we’ll get back to you when we’re ready.’”
Burstein said he could not discuss specifics about Paxos’ work with PayPal, but the companies had approached NYDFS shortly after the conditional framework was finalized. (CoinDesk first reported PayPal was looking into offering crypto services two days before the final conditional license was announced.)
“PayPal was already a DFS-regulated entity and sort of a well-established, well-regulated financial company that was not yet authorized to engage in crypto financial services,” he said. “They saw this appropriate conditional license opportunity and they saw Paxos as a partner in this space.”
While the actual process of securing the license wasn’t easy – a licensing regime shouldn’t be easy, Burstein said – it was easier than starting from scratch.
NYDFS saw a lot of industry excitement around the PayPal announcement afterwards, Lacewell said.
Indeed, there is a school of thought that says PayPal’s entrance to the crypto space may have helped lead to the recent bull market. Dan Morehead, CEO and founder of Pantera Capital, wrote in a recent investor newsletter that the fintech firm is buying a significant amount of bitcoin to meet customer demand.
“If PayPal is in, maybe this is now real and lasting,” Lacewell said.
That’s not to say people don’t still criticize the BitLicense, but Lacewell noted that regulated companies also display the license in their marketing materials.
Not just crypto
NYDFS’ focus is on consumer protection, but this means the agency has to support industry as well, Lacewell said:
To that end, the regulator is looking outside just the straight financial or fintech spaces at some of the broader societal issues that interplay with these industries.
Community banks that support underprivileged groups are an example, and encouraging them to work together with fintech firms may benefit both.
This also means that NYDFS as an entity should be interacting with consumers, she said.
“We should be talking to the underserved about their needs and their advocates, we should be talking to small businesses, we should be talking to innovators,” she said.
This feedback is important to helping inform how regulation might be formulated.
“I do think my personal background, and the fact that, you know, some of my time growing up overseas has given me sensitivity to issues of diversity, and inclusion, it was something that I grew up with just naturally, and value and seek it out. And that's, I think, emblematic of New York,” she said.
These issues have existed for years, but the COVID-19 pandemic has thrown them into stark relief.
“How we broaden access and opportunity to the underserved communities of color ... into the great benefits and opportunities of our financial system and how we can reduce the horrific practice of marketing, the worst, ugliest, most garbage products to underserved communities that just drive them further into debt?” she asked.
The pandemic escalated the need for NYDFS to ensure it was working with consumers, she added.
NYDFS is looking beyond strictly financial products, eyeing how broader societal issues might impact the industries or businesses that fall under the regulator’s purview. This need for collaboration stretches across political lines, Lacewell said, and she emphasized that in her view, it’s an area where New York does well:
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