Senate Standing Committee on Banking and Financial Institutions

Good morning, and welcome to everyone to our oversight hearing of the crypto market. I would like to start off this hearing, this joint hearing between Assembly and Senate, thanking Senate Chair Limon and her staff, as well as the Assembly banking staff, for helping organize today's hearing. It definitely isn't an easy task, and today, today would not have been possible at all without the help of both Senator Limon and staff.

I also want to note that there is a background paper published on the committee's website, and there are also copies that are available here in the room for you. The purpose of this hearing is to answer the following question: in light of continued turmoil and uncertainty in the crypto market, what can policymakers do to protect Californians from those who seek to defraud them, scam them, or misuse their hard-earned money?

Since I became chair of the Assembly Banking and Finance Committee two years ago and began examining this emerging and underregulated industry more closely, a few things stood out. First, the technology and the nature of the products and services offered to consumers are rapidly changing, and it can be difficult for regulators and policymakers to keep up. Second, people become interested in crypto for all kinds of reasons, and many investors do their research and know that crypto involves significant instability and investment risk.

But even savvy investors can be caught surprised by the lack of insurance that the treatment of their accounts during bankruptcy or the inadequate crypto security protocols that are out there. So these kinds of things we often are things that we take for granted in other areas of finance.

And even those investors who understood that all those risk exist, they realized too late that they were actually playing a rigged game because of insider trading or market manipulation or by the very nature of how tokens come to the market. The last notable thing is the passion. I have been impressed by the enthusiasm that industry innovators have for their work, and I love that.

And my goal is not to undermine that good work but to protect Californians and help bring regularity and clarity to the crypto market is my passion. Maybe we disagree on what the clarity may look like, but I think we can all agree that crypto's future is very uncertain unless the rules of the road are understood by all. So why are we having this hearing now? We are here because a lot has happened in this last year.

In February 2022, millions of Americans saw Super Bowl ads promoting crypto companies. These ads conveyed the idea that you were losing out by not buying or investing in crypto. Crypto, it seemed, had gone mainstream. In March, the Biden administration issued an executive order that acted as a call to action to protect consumers, investors, and businesses while promoting responsible development and use of digital assets. In April, the Newsom administration also issued an executive order to promote the development of crypto businesses and responsible innovation.

We will hear more about that executive order in just a little bit. And in May, the crypto industry experienced the first of many large-scale failures that would reverberate throughout the industry, causing significant harm to other businesses and retail investors. In this case, or at least in the first case, the collapse of Terra Luna stablecoin led to a 40 billion loss, disrupting the cryptocurrency market and highlighting the need to at least look critically at the safety and soundness of certain kinds of crypto tokens.

In June, crypto lender Celsius Network stops withdrawals, freezing the accounts of the platform's 1.7 million users. And in July, crypto broker Voyager froze customer funds and filed for bankruptcy. And just as it seemed like the crypto market was recovering from these events, in November, we saw the meltdown of prominent crypto exchange FTX, which led to the arrest of its CEO, Sam Bankman-Fried. The collapse of FTX seems to have been a watershed moment for crypto.

There's a lot to consider about the policy implications of FTX's complicated business activities and the risk the company reportedly took with its customer funds. But it seems to me that the larger effect is on crypto's reputation. FTX has convayed a message to the general public that crypto is nothing but scams and magic beans, financial products with no real value. I don't believe this is true.

For the record, I think that's a false narrative, but it's hard to argue against, given the magnitude of the alleged fraud at FTX. In summary, it is clear that something is not right in crypto, and people are getting hurt by these high-profile failures. They are left without access to their funds, and their money is gone. So many Californians have suffered real financial damage, and more still remain at risk of similar harm if we do not take action here in the legislature.

So what is to be done? Today, we will revisit the Newsom administration's executive order as well as the legislature's own efforts to provide necessary oversight over the crypto market. When Governor Newsom released his executive order last year, I expressed concerns about its scope and the role it could play in validating or otherwise promoting crypto's legitimacy before the hard work of establishing consumer protections had been completed.

Last year, in light of the market turmoil and the concern that the policies put forth by the executive order were insufficient, the legislature overwhelmingly supported and passed my bill, AB 2269, which would have established a licensing program that was paired with consumer protections tailored to the consumer and investor risk in crypto. That bill was vetoed, and the Governor expressed the administration's preference to let the executive order play out.

I have deep concerns about letting such an order dictate state policy moving forward. And other states, they're taking action. For example, a crypto licensing bill similar to my own was just introduced in Illinois with the support of the state's regulator. But I take the Governor at his word when he committed to work with the legislature on next steps, I am committed to working with his team as we take stock of where crypto is and where it may be going.

Which brings us to this point here today, in this hearing. Today, we're going to hear from the Department of Financial Protection and Innovation about their implementation of the executive order. I have tremendous respect for DFPI Commissioner Hewlett and her talented team, and I'm eager to hear from and learn from all of them. We will also be hearing from Brian Korn, an expert on federal policy, who will provide us an update on where things are with Congress and federal regulators.

We will then hear from Robert Herrell on behalf of the Consumer Federation of California and Sheila Warren on behalf of the Crypto Council for Innovation, who will also give us both of them will give us their views on how states should best regulate crypto. While Mr. Harrell and Ms. Warren have different perspectives, I do look forward to learning from both of them, and I think that we will all leave this room with plenty to think about. Finally, today is about learning.

Those of you watching or listening, you may hear some frustration from me or even my colleagues about the administration's approach over the last few years. That is because when it often feels tedious, actually process really does matter. And I remain frustrated that the administration's release of the executive order and its dismissal of the legislature's concerns, especially since those concerns have been proven correct time and again.

While I doubt the Newsom administration intended for its executive order to establish a permanent policy over the long term, the last year has proven that this cannot be the case. And I believe now more than ever that critical legislation is needed. I look forward to learning from all of our excellent guests today, and I am excited to find a pathway forward with that. I will turn it over to my very astute colleague: Chair and Senator Limon.

Thank you. Thank you, Assemblymember Grayson and members for all joining us. And thank you, Chair Grayson, for getting us started. This is an important hearing to shine light on where California is coming up short when it comes to protecting our people from promises that have been marketed by the crypto industry.

In the first half of last year, it was nearly impossible to escape the TV commercials and social media ads that sent a message of making money in crypto is easy: "Don't wait, or you will miss out on getting rich." That messaging really worried me. Practically speaking, I don't see how it's possible for everyone to get rich while doing no work.

That's not what I've experienced in my own life or how I have seen the world shake out for friends or family, and then looking at an industry and the messaging from my perspective as Chair of Banking, I had even more concerns.

If the industry were being fully transparent with consumers, we would see more of an emphasis on the reality that these products are very risky, that the prices of these tokens are often based on pure speculation rather than any underlying cash flows, and that these products and the companies offering them are not subject to the same regulations that apply to banking payments. Investment products in the traditional financial space.

But let's be real; those are not the messages that attract consumers, and let's also be real about the shared responsibility here. Industry has its role, but we, as lawmakers, we're also responsible to ensure that our financial markets are safe and sound for our constituents. Which brings us to today's hearings. The simple fact is, California has not lived up to our reputation as a leader, and we have failed to provide some basic consumer protections in this particular space. This is not a conversation that started last year.

In 2019, when I was the Chair of the Assembly Banking Committee, one of my colleagues introduced a bill that was very similar to the Bill that has been authored by Assemblymember Grayson last year. In fact, the language that our former head of the legislative council, Diane-Boyer Vine, had worked on, on her role as Commissioner on the Uniform Law Commission. We held an informational hearing in October of 2019 on the proposed model law, and we heard from various stakeholders, including the previous Commissioner of DFPI.

Some of the messages that we heard from the administration included the model law was untested. That the crypto industry posed risks that needed to be mitigated, including the risk of bad actors taking consumers' funds. And that the first step. In creating a sensible regulatory framework includes identifying the risks posed by various products in the industry and how those risks could be addressed through law and regulation and that existing laws and regulation could be optimized to leverage the work that DFPI was already doing.

As we convene today's hearing, it's abundantly clear that the approach we heard from three and a half years ago was not sufficient to protect Californians. As I think about the harm that has befallen Californians in this context, and from the messages of 2019, I arrive to the following conclusions: if our state government is unwilling to put a so-called untested regulatory framework into place, we will leave our constituents exposed to industry actors who do not hesitate at putting untested products into the market.

We heard in 2019 that the industry posed risk of bad actors taking customers' funds and that the industry in 2022 showed us how real and widespread that risk could be with the failures of major companies like Terra, Celsius, Voyager, Blockfly, Gemini and FTX that caused billions of dollars in lost funds. Although this administration has acknowledged in 2019 that California could benefit from better defining the products and risks within the industry and identifying how new laws and regulations could address those risks-

-the legislature has received no significant engagement on this topic, nor have we seen any crypto-specific regulations proposed. Lastly, we clearly see that any attempts to optimize the laws and regulations that existed in 2019 have been woefully inadequate to ensure that California enjoys some basic protection consumer protections when engaging with the industry. I'm providing this historical context so that our conversation does not narrowly focus on just the 2022 Executive Order.

I believe that understanding historical context of the conversations can help us better understand where we are today and what we need to change in order for the future of this product. But I also feel that last year's executive order deserves some review, especially due to the subsequent veto of a piece of reasonable legislation that would have given Californians clear legal protections when engaging with this industry.

I felt that the tone of the EO and how it was rolled out was off base by applauding an industry before it brought it under regulatory framework. And it was clear from the substance of the EO that not following through with the messages it delivered in 2019, California could be on the path of dragging its feet while consumers and retail investors fell victim and fall victim to bad actors who are taking advantage of this unregulated industry.

I was encouraged by actions taken by the legislature last year, led by efforts of Chair Grayson, and I was disappointed that the bill did not become law after receiving such broad bipartisan. More than two-thirds support in each house of this legislature. In light of the failures of 2022 and highlighted by the fall of FTX, clearly the status quo is not working, and the path that is leading us down, that we are leading down, will continue to leave Californians exposed to financial harm and criminal activity.

I want to acknowledge that the staff of DFPI are also working diligently on a wide breadth of issues, and I believe that many of them share the concerns about risk to consumers posed by the industry. I applaud the department's work, and I hope that we can support their continued efforts. I'd also like to thank all of the witnesses who will share their feedback with us today. Everyone's participation is greatly appreciated.

While I would have liked to have seen the Governor's office participate in this conversation, we will do our best to understand the administration's support and approach and learn how we can improve our efforts to protect California consumers and retail investors. Thank you.

And now, with that, we would like to welcome our first panel, where we will hear from Avy Malik, General Counselor of the Department of Financial and Protection Innovation, and Brian Korn, who is the lead of the Fintech blockchain and cryptocurrency practices at Manatt, Phelps, and Phillips. Mr. Malik, once you are settled, you can begin when you are ready.

Thank you. Good morning, Chair Grayson, Chair Limon, and committee members. I appreciate the opportunity to speak with you today about the state's approach to regulating digital financial asset business activity. My name is Avy Malik, and I am the General Counsel for the Department of Financial Protection and Innovation, California's financial regulator. I previously served as Director of Fintech Policy for the Financial Services Committee at the US. House of Representatives, where I led the committee's efforts on crypto policy.

Prior to that role, I was an Assistant Attorney General for the Consumer Protection Division of the Office of the Maryland Attorney General. It is great to be back in my home state. I am joined today by DFPI Senior Counsel Adam Wright, who has been working on crypto oversight at DFPI and will assist with questions.

Since joining DFPI, under the leadership of Commissioner Chloe Hewlett, I have helped lead the department's approach to oversight of crypto-related financial products, including oversight of crypto-related financial products, enhancement of our review and response to consumer complaints, deepening our examination and supervision of crypto companies, and strengthening our enforcement efforts against crypto companies that have broken the laws we administer. Importantly, we have also ramped up our work to educate the public on crypto and ensure that Californians understand these products.

I am proud to help lead these comprehensive efforts, working with a team of public servants, including several recent hires with crypto experience who are dedicated to protecting consumers. I want to also express my appreciation to you and your staff for working in collaboration with DFPI to advance our shared goals to protecting consumers over the years.

I've been invited today to share the department's overall approach to overseeing digital financial asset business activity, our crypto complaints, our role in the Governor's executive order on crypto assets and Blockchain technology, how our depository institutions engage with crypto services, our licensing implementation process, and consumer protection in the crypto context. I would like to take each of these in turn, touching on them briefly in the expectation that you will have questions that will allow further discussion.

As you know, DFPI provides oversight over all parts of California's financial system, including licensing lenders, supervising banks and credit unions, and administering the state's securities laws. Crypto financial products and their rapid consumer interest have been a unique challenge to financial regulators globally. Crypto products span across many laws and jurisdictions and are being used by an increasing number of Californians over the last year.

Under Commissioner Hewlett's leadership, DFPI has prioritized oversight of the crypto industry, making sure that the Department is effectively exercising its existing authority to oversee companies that are licensed by the department. We are conducting examinations of our licensees with crypto exposure, including companies that make crypto loans or investment advisors that invest client funds in crypto. DFPI has sent out surveys to over 10,000 licensees to understand whether they are offering crypto products, and importantly, we have centralized decision-making on crypto matters across the department -

- under a new crypto asset support unit. DFPI has used its extensive enforcement authority to shine a light on crypto financial products and companies that break the laws we administer. In just the past year, DFPI has issued 13 orders stopping the practices of companies who broke our laws, including against such crypto companies as Voyager and BlockFi.

DFPI has an ongoing enforcement effort into the failure of FTX, which was one of the largest crypto exchanges, and the department continues to be proactive about taking actions against crypto companies that violate our laws. Let me now discuss our efforts to enhance the review and response of crypto complaints we receive. In 2022, the FBI received just under 700 crypto-related complaints, which ranks amongst the highest for financial products and, unsurprisingly -

- DFPI received more crypto complaints in 2022 than it did in each preceding year dating back to 2020. What were those crypto complaints in 2022 about? Well, about half of the crypto-related complaints were about scammers. In other words, situations where victims were tricked into sending funds to impostors, pretending to be someone else, such as a known crypto company. The other half of the complaints DFPI received related to products and services provided by actual companies.

The most common situation for these complaints involved consumers who were unable to withdraw crypto being held by that company because the funds were no longer there, possibly due to the impending failure of that company. As a result, DFPI issued 65 consumer alerts in the past year to warn Californians about crypto-related scams. DFPI has also released a web-based searchable database of crypto scams available to the public.

This database is key for making the public more aware of crypto trends and mechanics, with the goal of helping consumers identify scams earlier. I will now turn to the Governor's executive order on Crypto. The EO directed DFPI to conduct work with the goal of protecting consumers, fostering responsible innovation, and bolstering California's innovation economy. As directed by the EO, DFPI sought feedback from hundreds of stakeholders, including consumer groups, academics, companies, investors, and environmentalists on crypto regulatory approaches.

DFPI convened a series of roundtables and co-hosted a summit on responsible innovation with UC Berkeley. DFPI also received feedback from the public at large in an invitation for comments. Key themes in the feedback included the need to provide regulatory clarity for crypto services harmonization with federal guidelines prioritization of consumer protection, which includes disclosures, consumer education and enforcement, cybersecurity diversity, equity, and inclusion measures to attain fair access to new technologies and the climate impact.

Let me now turn to depository institutions and other licensees involved in crypto. Banks throughout the country are grappling over whether to offer crypto products or services. A recent DFPI survey found that approximately 20% of the 200 banks and credit unions we heard from were offering or considering to offer crypto-related products or services. DFPI supervision and examination process of financial institutions is robust and long-standing. This approach also applies to crypto offerings, and we remain in constant communication with our federal regulatory and state counterparts.

Let me be clear. Any depository institution considering crypto services must ensure that they have appropriate bank secrecy, act compliance, due diligence practices, risk assessments, capital analysis, audit coverage, third-party vendor management, cybersecurity controls, and management expertise. Outside of banking, DFPI is also conducting a comprehensive internal review of its other licensees that offer or have exposure to crypto-related products and services and has already moved to revoke the lending license of several non-compliant companies.

In the next month, as required by the executive order, DFPI will release best practices and principles for the crypto industry, as well as publish guidance to state-chartered banks and credit unions that may be offering or plan to offer crypto products and services directly or in partnership with third parties. We will also continue our work on a crypto market monitoring survey. Finally, I would like to speak about how California can best protect consumers, a central priority under Commissioner Hewlett.

Having worked on crypto policy in Congress, I can say that financial regulators throughout the country are working hard to assess how best to protect the public while fostering responsible innovation. DFPI will continue to use its authority to regulate crypto financial products through existing laws, including the California Consumer Financial Protection Law, which provides us with new tools to better protect consumers from unlawful, unfair, deceptive, and abusive practices, including in the crypto context.

Additionally, DFPI will continue to use its powers as California's securities regulator to protect consumers and investors from harm. DFPI will continue to coordinate with state partners as well as federal market regulators such as the Consumer Financial Protection Bureau and the Securities and Exchange Commission, alongside our prudential partners such as the Federal Reserve, FDIC, and the Office of the Comptroller of the Currency to make sure that the state is working in tandem with the federal government to best protect the public.

Rest assured, DFPI will continue to use the full extent of our law to protect Californian consumers and investors. In closing, I would like to thank Chair Limone, Chair Grayson, and members of both committees for the opportunity to share this update with you about our department's approach to overseeing digital financial asset business activity. My colleague Adam, who recently joined as part of our crypto asset support unit, and I are happy to answer any further questions. Thank you.

Thank you very much, Mr. Malik. Next, we will move on to Mr. Korn.

Thanks very much. I have slides. Looks like they are loading good. It's great to be here. It's an honor and a privilege to speak before this committee. I'd like to thank Chair Limone, Chair Grayson, and the other members for hosting this panel. I think it's an extremely important endeavor to discuss and investigate exactly what's happening in the world of cryptocurrency and how it relates to what's happening with other states and on the federal level. My name is Brian Korn.

I'm a partner at the law firm and at Phillips and Phillips. I'm based in the New York office. I am a native Californian. I'm a proud graduate of the Los Angeles Unified School District and UC Berkeley. I'm admitted to the bar in both California and New York, and Manatt does have at least five or six offices up and down the state of California, and we primarily practice in California before California regulators such as the DFPI.

I'm here to give you a very brief overview on what's happening on the federal level. You can really divide the federal activity into two phases: the regulatory agencies and the legislature, the Congress. If we go to the next slide, brief outline. And the next slide, please. So the Securities and Exchange Commission, in the past six to twelve months, has really taken the lead on regulation at the federal level.

For a while, there had been a little bit of a vacuum as to whose coverage area belonged to which parts of cryptocurrency. And cryptocurrency is not homogeneous. As you know, cryptocurrency involves Bitcoin and Ethereum. It involves tokens, which are issued by token protocols. It also involves stablecoin, which is supposedly a proxy for fiat currencies such as US dollars.

Stablecoin can either be levered or unleveled. Levered stablecoin would involve stablecoin that is not backed one-to-one with fiat currency, and unleveled is fully backed one-to-one with the US. Currency.

It's important to remember, though, that even in stablecoins such as USDC, which is offered by the Circle Company, that you are still taking the risk that the company itself does indeed back its stablecoin with fiat, that it stores it in a secure way, that it does not invest it or lend it away, and that it's readily available when it's needed. It is not regulated in the traditional banking sense that we think about where we have regulations that govern how these are stored.

The SEC primarily uses the 1946 Supreme Court case SEC v. SJ. Howie. This was about an orange grove cooperative in which the Members, because they were working in a common enterprise, was not deemed to be a security. But it did proffer the securities test, which is an investment of money in a common enterprise with a profit expectation, where the profits are derived from the efforts of others.

The Howie test, even though it's nearly 80 years old, is still good law and is still used by the Commission in evaluating whether tokens in any cryptocurrencies are indeed securities. There is another test, the Reeves test, which came through the Reeves versus Ernst & Young case in 1990, which primarily governs debt activities and adopted something called the "family resemblance" test, where if something resembles a security similar to the duck test, then it is deemed to be a security.

The SEC also regulates broker-dealers and oversees the actions of FINRA, which is the broker-dealer regulatory agency. And so, in many cases, exchanges that allow for trading of cryptocurrencies are deemed to be allowing trading of securities, and therefore those exchanges often get called to register as broker-dealers.

And finally, the SEC also oversees the registered investment advisory tests and rules and proposes rules and recently proposed a rule less than two weeks ago to encompass custodian of custody of tokens if they are securities: in order to hold a security, you must have them custody with a qualified custodian under the broker-dealer and RAA tests. And many cryptocurrency companies, as you can imagine, do not do that. If we go to the next slide.

The CFTC also does regulate some cryptocurrency, particularly those that are not securities. It has been the primary regulator of Bitcoin if we can say there is one. There's a technical issue with the Commodities Exchange Act, which enables all of the actions of the CFTC, and it's not clear that it's able to regulate the spot market. Most cryptocurrency trading is done in the spot market, not in the futures or options market.

And so, there have been efforts to modify the CEA to allow for spot trading regulation by the CFTC. Those have not been successful to date. A similar theme that you'll find with respect to what's happened in Congress is that numerous proposals have been made over the past few terms to regulate cryptocurrency or to modify certain rules and actions to allow for agencies to more easily fit into these boxes. And most of those have not gone forward. I think just generally commenting on the federal environment.

The FTX situation is obviously startling, as are the number of others that have been mentioned. But we still need something that has enough national attention to allow the parties to put it into a piece of legislation. Standalone legislation does not seem to be likely. We have a Republican house now, which is Financial Services Committee led by Patrick McHenry of North Carolina, who is very up-to-date on Blockchain and cryptocurrency issues.

He's gone to numerous events on Blockchain and spoken, and he has appointed a Digital Assets Financial Technology and Inclusion Committee which is chaired by French Hill of Arkansas. It is unclear whether this subcommittee is going to have an active agenda or not. The website for the Subcommittee is not yet up, and it's just not clear what the Congressional Republican Caucus conference's plans are with respect to digital assets in this particular Congress.

There are a number of congresspeople on both sides of the aisle who are very focused on cryptocurrency. Greg Meeks of New York. Maxine Waters, of course, is the chair of the committee in the last Congress, and Tom Emmer, who's the chair of the Congressional Blockchain Caucus, which is a bipartisan group of people who want to both foster innovation in the industry but also allow for adequate consumer protections and those are often at odds with each other.

The Biden executive order, which you are all familiar with, called for a number of reports to be submitted to the White House with respect to each of the different areas that could govern and regulate cryptocurrency. Sorry if we go to the next slide. And that resulted in a lot of reporting but not a real there hasn't been a lot of action so far with respect to the outcomes of the executive order, similar to the California executive order.

It was a little bit more complementary to the industry than protective of investors. As an aside, when I was in House Counsel at Citigroup, I was on the Equity Commitments Committee, and we would have long discussions around what the suitability requirements would be for a particular transaction and what level of investor or institutional retail-

-within retail, there are subcategories that are sophisticated enough to invest and buy this particular product, and very often, we would restrict something to different levels of retail because we didn't think that it was meeting that suitability guideline. There is no such committee within the Blockchain world, and I think the access that consumers have to highly risky and speculative financial products is kind of what's gotten everyone in trouble with respect to this industry, and that's promoted a lot of the risk.

Obviously, some people have made quite a bit of money, but it's an asset that's very hard to ascertain as an investment advisor. There's no financial statements, there's no management team, there's none of the traditional disclosure that the SEC would require in an offering statement. There's no research. The research community is largely silent on these products, and so a lot of it comes down to technical data and speculation, and that's not a good recipe for people investing their life savings obviously.

If we go to the next slide? Other agencies involved in regulating cryptocurrency, the Treasury and the Office of Control of the Currency, have both announced that they are going to come out with joint stablecoin resolutions. It's an interesting situation because the SEC took actions to shut down a stablecoin issuer, Paxos, and Paxos has pledged that it is going to vigorously contest the SEC's investigation and enforcement case into its offering of the Binance stablecoin. We talked about the SEC with respect to staking.

So, staking is a transaction where an account holder will park their crypto for a certain period of time in exchange for a rate of return. Similar to a CD product in a bank where you have your money tied. Up for a certain period of time, and at the end, you have a higher interest rate than if it was in a liquid savings account. The SEC has brought enforcement cases against Kraken for staking activities.

Kraken famously left New York because it did not obtain a bit license from the state and was one of the first Wyoming crypto companies and DAOs. And so staking now seems to be on the radar of the SEC. The Department of Justice and the Financial Crimes Enforcement Network obviously regulate the Bank Secrecy Act, the Patriot Act, and they are actively enforcing overt acts of fraud. Fraud obviously is nothing new, but it's very difficult to control and police in the crypto market.

There's an estimated 10,000 tokens that are available for purchase through different exchanges. Many of these are tokens that none of us have heard of. We know little about what drives their value. Their trading might be up or down 30% to 50% in a single day. The crypto markets are open 24 hours a day. They don't take off for weekends or holidays, and you could wake up one morning and simply have lost everything in your account.

Also, as you're aware, states proper money transmitter licenses, which are also a form of regulating the industry. If we go to the next slide. So FTX, we put that in the category of garden variety fraud. This was a company that's based in the Bahamas, still accessible to US. persons, which is a question. The terms of use of FTX claimed that they were not going to use customer assets for anything other than holding for safeguarding, and they seem to have violated their own terms of use.

Now, if terms of use are not necessarily contracts with investors, and they probably don't have the same weight as violating a bank regulation where you have to segregate capital, but it is concerning that we do agree to these terms of use very often when we're signing up for things. And for a company to overtly violate its terms of use is troubling. BlockFi is another company where they offered investment accounts and they were giving customers interest or time value tokens for their staking.

They were fined $100 million for failure to register with the SEC. The SEC found that this was an investment contract. Nothing that resembles that type of contract had ever been deemed a security before, and yet they were fined $100 million for that. And then we talked about Celsius, Voyager, and Gemini. One of the things that happens in this industry is that the parties tend to settle, which creates the implication of a victory for the regulators.

So Kim Kardashian and Paul Pierce, recently they were both fined for pushing Ethereum Max tokens without disclosing that they had a conflict, namely that they were paid a certain amount of money for their endorsement by immediately settling the case. It creates the impression that Ethereum Max was indeed a security and that the SEC indeed had authority to pursue an enforcement case against those parties.

And very often the industry is stuck with these cases where we have settlements that create the impression that certain bars have been passed. We found that with BlockFi, with respect to other types of defining the security and the definition of security under Chair Gensler of the SEC has gotten wider and wider in the past several months, and it now looks like the SEC is going to be the primary regulator.

I have one more slide where we talk a little bit about - if we go to the next one - regulatory certainty, I think, would benefit the industry. One thing I'll remind this panel, this is a highly nationalized and international industry and that California is obviously extremely important and influential, probably the most influential state with respect to financial regulation in addition to New York.

But this could very easily be something where you push down on one side of a balloon, and something else develops in other states where they've developed more opportunistic laws like Wyoming to help the crypto industry or to other countries, in fact. And we've seen clients of ours that have gone from different international jurisdictions because their restrictions have become too onerous. And so, there does seem to be a need for a comprehensive national and international standard.

But at the very least, what I think we can do is protect our own people from themselves. Essentially, in putting a suitability standard that resembles those that banks and securities firms have to deal with and also enforcing custody requirements with respect to these assets. Thank you.

Thank you very much. Members, we will now open it up to questions. Senator Min?

Here we go. Different than the Senate. First of all, I wanted to thank the chairs for holding this hearing. I think it's critically important. I think cryptocurrency seems like it's fairly clear at this point, falls into these regulatory gaps, and I think it's important that we start to really aggressively visit this issue. That being said, I'm curious about a couple of things. First, in the federal versus state divide, what do you see is the role of the state here, Director?

And then, I think, relatedly, and I think this is to both know, we know there's an ongoing battle between the SEC and CFTC over jurisdiction. Does it matter from our perspective as a state, whether or not the SEC or CFDC ultimately claims primary jurisdiction over cryptocurrency? Should that affect our regulatory approach? And if so, how?

Thank you so much for that question, Senator. I'll go first to the first part of your question. We are always working in collaboration with our state partners as well as our federal partners. We have standing meetings, we work with their staff and assess the various activities, products and services. In California, we have a very robust consumer protection and investor protection structure that we operate in, including such statutes as CSL for our securities laws, as well as CCFPL for a lot of consumer protection violations.

So we don't see any challenges in leading. I would look at California as very much the leader at the state level working on crypto oversight, and very much a good partner working with other state regulators, as well as some of the federal agencies you mentioned. For the second part of your question, I'm not here to opine on policy prescriptions. I will say that we are the securities regulator, we are the commodities regulator. We are the consumer protection minded agency as well.

So we will use all of our available resources in protecting consumers, supporting responsible innovation, and the SEC and the CFTC will have an open and collaborative dialogue with them as they move forward with their actions and other activities in this space. Go ahead.

Yeah, I think you need both. I think the federal and the state need to work together. The states can be much better at certain things. I mentioned the Block Five settlement for $100 million. That was actually 50 million state and 50 million federal. I believe California was involved in that. So when you have that kind of collaboration, it can be very powerful. Whether the SEC versus CFTC matters, I think that you're going to see under Chair Gensler more authority coming from the SEC.

He's certainly looking to expand and enforce the agenda of the Commission in Consumer Protection and Investor Protection. I think that you're going to have certain pockets of the industry that don't neatly fit into the securities test. Bitcoin ethereum, for example. They're not really part of a common enterprise anymore because they're more or less run by code. There's no CEO of bitcoin, you can call and tell them to shut the thing down. Right.

We have a machine now that can't be turned off because it's alive on thousands and thousands of computers. And so, as scary as that is to think about, it's not a common enterprise like a token that's offered by a protocol where you have a white paper and founders who are touting how well their management skills are, what schools they went to that looks like a company that's a business. I think you need both of them as well.

But you're going to see, certainly for the remainder of this Administration a very active SEC. They've hired, I think, 200 enforcement lawyers and staff focused on blockchain and they've diverted other resources to this area. And I think that I was reading in an interview that Gensler has even taken umbrage, that the industry seems to still be very glib with respect to securities enforcement and compliance.

I appreciate that. And just a quick follow up, Mr. Malik. You mentioned in your testimony that you have a lot of existing authority under some of the laws that we passed in recent years. And I guess I'm curious, what do you think that you need as far as additional authority to protect consumers here in California?

Well, thank you for that question. You're right. We have existing authority and we've used it judiciously and when needed, aggressively and always accurately, including CSL, which provides us the ability to go after certain securities activities that are non compliant. Some of the cases that we've looked at, Brian, mentioned BlockFi. We've also worked on Celsius Voyager. To the extent that CCFPL is something we can use, we've explored that in some of our enforcement actions.

I will say, and this is speaking as a former legislative person, I want to be a good partner, our Department certainly does and continue the conversations with you and your staff and will implement any new authorities if needed. But rest assured, we are using everything that we can and the team that we've built is very active in oversight of crypto as things stand today.

Thank you. Next, I have Assembly Member Bauer Cahan, followed by Assembly Member Dixon.

Well, this is actually a follow up to Senator Min's question. So you mentioned CCFPL and CSL as two of the tools you've used. And you mentioned that you went after four unregistered security users, 13 unlawful investment schemes, and you referred two crypto issues to law enforcement. So you're enforcing what other tools are you using? Are those the two?

So I would like to point to a couple of more broader tools. One we think is very important is education to the public. So I pointed out that we have this crypto scam tracker that is searchable and is something that will hopefully prevent future scams. So that is part of our approach as well as examination.

So the Crypto Asset Support Unit has been prioritizing looking at all of our companies that are providing some crypto services, seeing whether they're compliant with our laws, continuing our examinations of those, and to the extent banks and credit unions are in this space, we have a lot of authority as a Prudential regulator to do those examinations. And we'll continue to do that as well as explore future enforcement actions both as a Department and in a multistate manner and alongside our federal partners.

So you said you were doing those enforcement actions as you were speaking at the beginning under our laws, right? You just weren't specifying what laws those were. So I was trying to figure out if there were others.

So that's a great question. The corporate securities law is the one that you mentioned, CSL, CCFPL, you certainly mentioned as well. We have the CFL license process of the California financing law that allows for non banks to provide certain lending services. So we have used the authority there to examine those licensees and have taken actions including stopping the activities of certain companies that are there so that they can no longer act in this space.

We also have investment companies under our broker dealer regime and our investment advisor regime that allows us to look at those companies if they're providing any crypto advice. And that's another area that we are able to look at in this space.

And I look at CCFPL as a floor that we can always go to if we see something that is in conflict with our UDAP mission, so that if there's something that is in fact unfair deceptive or abusive an act of practice under that we can always use our.

Mean. I appreciate that you have this patchwork of laws that you're trying to shove crypto into and enforce to protect Californians, but I guess my concern and as mr. Corn's presentation showed, I feel like there's a little bit of a round hole, square peg situation here where you've got laws on the books and you're trying to use them to enforce.

But we don't have a situation where you have a tool or a law that can go after these actors if they don't fit under the tests created under those others laws which were not written for cryptocurrency. And so I guess I'm curious as we see what the Administration is intending to do in the future, give you more authority.

It was the only thing I saw you asking for the Legislature when we do not have an enforcement law on the books that will allow you to encompass cryptocurrency writ large when we know consumers are hurting. And I guess that's really perplexing to me. I don't know if mr. Korn.

No. And also, I think what you're alluding to is that the public needs to know what the law is. And having a comprehensive law that does encompass crypto on its face and that makes clear what operators, what's expected of them, or at least makes it clear that these existing statutes that are on the books are at least going to be enforced in this way. I think that that would be tremendously helpful.

And then so the other thing that I think, and I really want to applaud our chairs here who have done incredible work in this space and I think really held Californians and consumers at the front of every piece of work that they have done. In the governor's veto message, he really focused on the licensing scheme as I read the message. But the Bill did more than that, right? I mean, it protected consumers with other tools, right?

Ensuring there wasn't a segregation, that they were segregating assets, that there was a bond, that there was no unbacked stablecoins. I don't see the agency moving to put any of those protections in place, but maybe I'm wrong. So I just wanted to give you an opportunity.

Well, again, thank you for that question. I want to make clear that the FPI will do whatever it can with the authority that it has. If there is legislation providing us with some of those authorities, then absolutely we'll go that way. CCFPL provides us with certain powerful tools, including our UDAP authority. It isn't a licensing regime, it is a registration process and is again, more of a ground floor to look at some of these activities in the securities context.

As you know, we have been very active and will absolutely continue to be active, but we stand ready to work with you and your staff if there's further things you want to explore in terms of future authorities through legislation.

Well, that's exciting. I hear them saying they want those protections that were in the Bill last year, so I look forward to voting them into law. So my last question was for Mr. Corn to elaborate a little bit further on the suitability standard. You had mentioned that that was something you thought would be very protective. If you could just elaborate further on that and then I will seed the floor.

Yeah. So in the securities and banking regime, you have broker dealer licensing. Every broker is required to make an assessment of suitability for all of their clients at least annually. And you've probably gotten questionnaires or when you open an account, you'll get a questionnaire on your investment experience, your time horizon, your net worth, how much you're looking to put into different types of asset categories. There is no assessment of the suitability of crypto right now.

There is no regime to regulate and prevent people who should not be taking paycheck risk on very, very speculative investments from doing so. And so I think that where you have a lot of constituent disappointment is that they've put money into something, they read about it from somewhere, or they just had a hunch and bet a lot of money on a particular token going up. Last year, I read over a trillion dollars of value in the crypto market across the board was completely wiped out.

Most tokens, including bitcoin ethereum, were down over 50%. And if you have somebody who has really put their life savings or money that they can't afford to lose into this type of product, and it's very easy to open an account, you can do it on your phone. You don't need to go through very many tests at all just accepting terms of use, agreeing to be texted, and a few other things. You can link your bank account straight to the protocol and start buying right away.

And there's nobody at Coinbase who's going to call you and say, no, you really shouldn't buy that, or gee, I think you have too much exposure in this one asset and maybe think about something else. And so that's where you have a lot of people who had FOMO fear of missing out try and jump in. A lot of them jumped in at exactly the wrong moment and the bottom fell out.

And if you open an account at a registered broker dealer, even a discount broker, they'll go through a suitability analysis and somebody will put the brakes on you, taking too much risk or putting too much into certain positions. So I think that something like that can be very useful in this context. And part of the reason the industry, I think, is against this is because none of their tokens would really pass much of the suitability analysis.

We talk to companies all the time that there is a way to register your tokens with the SEC or to do an exempt offering under regulation D in California's 25 102 F, and many of them are not attracted to that option because you have to really only sell to accredited investors. And we have a lot of people in the crypto industry, in their twenty s and thirty s, who are trying to appeal to more of a TikTok type investor.

And that's a recipe for disaster in many cases.

Thank you. I appreciate that. And I just want to, as I pass it over to the chairs again, say I think it's important that we continue to work on ensuring there's proper regulation for California as much as the 65 consumer alerts. And I don't know that I've ever seen one, and I imagine the average Californian hasn't. We need to do more than that. Thank you.

Thank you. Next Assembly Member Dixon.

Thank you very much, Chair. This is really an important discussion today. I commend you for bringing us all together. A few questions, just to follow up on the previous questions. There was a Bill that you introduced, assemblyman you introduced, or you both introduced in the last session, and it was vetoed by the Governor. Now, we have an Executive order. Clarify, if you would, please. Is the Executive Order still in effect?

Yes, the Executive Order provide for DFPI a series of activities that we needed to do, including using CCFPL authority putting up principles, guidance and market monitoring, working with stakeholders, doing enforcement, working on complaints and consumer education. We are implementing all of that.

In fact, next month we will release a banking guidance to our banks and credit unions, something that is in many ways a continuation of what we've seen with the prudential regulators in Washington, with the Federal Reserve, the FDIC and the OCC putting out a joint statement so that'll come out next month. We'll also put out principles that will really point to the need for the crypto industry to abide by our consumer protection and our banking laws. And that again will be coming out next month.

So curiously, I know this is not a hearing on FTX, but given that all that type of activity was going on under the existing executive order, did any red flags, I'm just curious, did any red flags surface? So, it's an indicator that clearly the state needs to clearly strengthen or create a regulatory framework around this. But just curiously, were there any red flags, did anybody write anything on the enforcement and 700 complaints.

Did you follow up and try to understand what's the nature of those complaints and the enforcement action against those? Was anything surfaced or was this just a big surprise when it all blew up?

Well, thank you for that question. I will say first of all, the complaints we've received, as indicated, are some of the highest in terms of categories. We prioritize all complaints, but crypto has been an area that we've been very much focused on and we use those complaints to inform our own enforcement actions when appropriate, as well as making consumers aware so that they can prevent, hopefully future scams. With FTX, I'm not able to go into much detail because I shared we have an open investigation there.

But look, this is a very catastrophic event for lots of people who were harmed. This was one of the largest crypto companies, one of the largest crypto exchanges, lots of retail investors and others were harmed.

We've worked and continue to work with our federal and our state counterparts to make sure that we are looking at the space and the goal here is to protect folks from future activities and collapses that could happen as well as do our utmost to work on behalf of the Californians who were using FTX. We've continued to have open dialogue, as I said, with our regulators and are always looking at the market and doing what we can.

But this is, as Brian mentioned, a place where there's just a lot of activity, a lot of volatility, a lot of these companies. FTX was one example, having an offshore place where they were based out of, which makes it challenging, but we are doing everything we can.

I appreciate that. Mr. Korn, you were asked about state or federal. According to the reports that we were reading here in preparation, Congress doesn't seem to be moving with a sense of urgency on the regulatory front on this?

That's my impression. Correct.

So even though what you were talking about, certainly, in my opinion anyway, requires the role of the state, would you define the situation we are in in California? Given the number of complaints and the damages that have been created, the losses that have been created, do you think we need to have a sense of urgency about creating some licensing regulatory structure for people who the residents and consumers in the state?

Yeah. So it's really interesting. It's important to isolate two different risks here. The first risk is I invested in a token. The token value dropped, but the platform did everything right, and I was able to take my money out and put in something else. Right. So that's one risk, that's investment risk. Most people don't think about platform risk. Right. I'm putting my money into a custodian that may not exist, and there's no safeguard for my assets not being commingled with the assets of the custodian.

So failure of a custodian and the complete inability for clients to withdraw funds that maybe didn't lose value or maybe gain money is a different thing altogether. And that's, I think, a little bit more frightening in terms of risk that people are looking at, I think that we have regulatory agencies on the federal level that are always playing catch up. They're doing as diligent a job as they can, but they bring enforcement cases.

There is very little in terms of rulemaking that they can do because they are bound by the Howey test, which is a Supreme Court case. There'd have to be another case that effectively modifies it or overturns it, or there could be an act of Congress that puts forth comprehensive cryptocurrency regulation. Even if that happened, though, you still have actors outside the US. Who are acting under Regulation S of the securities act that are selling tokens to non US. Persons.

Somehow they get listed onto these exchanges, which are available within the states anyway, and people get their hands on them.

So even if we had a licensing structure framework, we may not even get these bad actors.

Correct.

That's interesting, dude, when you talk about the consumer impact in the state of California, is there any way to quantify their financial losses?

I don't know. I don't have that data for California.

We've looked into it. I would say a lot of the numbers are elementary, but we're talking, as a General matter, less than, well, I would say almost 700 companies or so that offer some crypto services that are based in California. If memory serves me correctly, some analysis showing almost 4 million Californians using these products. In terms of harm, I think the data is, as I said, pretty elementary at this stage.

But we're talking about perhaps hundreds of millions of dollars that are at stake here that have been held up through collapses, through pauses and withdrawals through money being lost.

And then one final question. The education aspect, which I commend, I mean your hands are pretty much tied until we have some enabling regulatory actions here, but I haven't seen any education. And after those Super Bowl ads, did you step up the education?

We certainly did. And this is something well, we want to be clear, education is a part of it. It's a central pillar, but we're going to do our enforcement activities and others as well. But I'm happy to share that earlier this month we released that crypto scam tracker, which I encourage everyone to take a look at. It's searchable.

It shows different types of scams, rug, pools, romance, scams, others that are very common, as well as just us doing our utmost to share through our consumer alerts issues that we're seeing that hopefully can prevent future harm.

How does the average person see that?

It's hosted on our website. We have engaged with media. The crypto scam tracker, as I said, was just released this month. But we're always trying to be innovative here and finding ways to reach the users of these products. As Brian mentioned, some folks here, we want to make sure that we're protecting vulnerable populations who fall prey to scams and especially in the crypto context and are doing everything that we can.

Okay, very good. Thank you so much.

Thank you Members. Any other questions? So I do have a question. You have referenced Mr. Malek a few times, the fact that there are certain pieces of authority that you have. So I'm actually curious about the authority you don't have. And with the authorities that you have now, are you able to tell a company before they start doing business in California you comply? You can do business with Californians if you find that they are not in compliance.

Do you have the authority to say you got to stop?

Thank you for that question. I will say it is a somewhat complicated answer, but I will do my best here. It really depends on the type of company we're talking about and the type of product. For instance, we have examination authority, which we use all the time for our banks and our credit unions. We are always talking to them, they're always discussing certain products and our examination team has the authority to communicate with them things that are concerns prior to them entering the market.

You may be also pointing to non banks that are really proliferating and are the big part of this crypto economy. If they're providing lending activity, they would have to abide by our lending regime, including the California financing law. If they don't have a license, we can go after them. If they do have a license, but they provide something that is in non compliance with the CFL requirements, then we'll be able to go after them. Same thing with securities.

So if we look at a product BlockFi is an example and this happened prior to the FTX scam. If we see that they're offering a security, but they're doing it in a non compliant manner, we are able to go after them. That being said, I want to be clear, we don't have a specific sort of bespoke crypto law that allows us to do activities like I'm hearing licensing. That is a different type of oversight authority.

That is not something that we are using or have the ability to use.

So what about for crypto exchange platforms? What authorities do you have specifically for Coinbase?

So crypto exchanges? And we have to bear in mind that some of these companies wear many hats. They'll be providing the exchange services, they may offer some sort of digital wallet, they may also provide some lending activity. We will look at the activity, despite what they're calling it, and we'll say, well, that is a financing product that you're offering. You have to abide by our financing regime. And same thing with digital wallets.

We may look at it, we may see it has a nexus on consumer transactions and really absolutely would need to abide by CCFPL and other authority for the classic exchange where we're seeing crypto being bought and sold. If it is in fact being used in a way that constitutes the security, then we have the security hook. And that is something that we have used in activities and we'll continue to look at it. But as Brian mentioned, a lot of these products and these exchanges are new.

And the courts and the federal regulators and us are all trying to assess the approach that makes the most sense. But that is not an excuse for them not to comply by our existing laws. It is on them to make sure that they are abiding by our securities law if they have consumer transactions or consumer protection.

You know, what I'm hearing is similar to, I think, what Assembly Member Bauer-Kahan brought up. If you can catch them under existing laws, then you do. But you are recognizing that not all of the laws cover all of the crypto products or exchanges out there. I'd like a yes or no.

Well Senator, as I mentioned, this is a very diverse space. There's lots of activities, there are things that are popping up. I can't speak to our existing enforcement, investigative work that is not announced, but we're doing everything that we can. But surely, as we all know, we are talking about thousands of companies, lots of them maybe fly by night, that may be causing scams on consumers, but we're doing the best that we can.

Fair? I don't think I heard a yes or a no. So let me reframe the question. So do you have every single law and authority that you need to go after? Every single 700 complaint that you've seen?

That is very difficult for me to assess. I will say we will use all of our authority and use it to its utmost extent. If you all, as the legislative branch, give us more authority, we will use that, certainly. And it will be something that we will take seriously, because crypto is a priority for our commissioner and for our Administration. But I leave it to you.

Do you need more authority to meet?

It's a good question. And all I will say is I don't have the ability to make sort of a policy prescriptive and answer, but it's something that I can speak with the commissioner about and the Administration to make sure that we can sort of work with your staff to give you an answer.

Okay, well, you're in the position you're in, and I get you can't give me a yes or no. But, I mean, I think for us, it's really helpful. What I have heard is that we certainly don't have any agency in this state that has full authority to go after these 700 complaints or at least to fully do the due diligence that these 700 complaints and growing require. I don't think it's because of a lack of a will. I just think that there's real authority.

I also recognize that a licensing regime would actually be helpful. That is, from my perspective, what gives an authority to cover an umbrella particular sector, the ability to say, hey, I think something came up. Well, will a licensing regime stop all complaints? Maybe not, but you will have greater authority to say you can't do business in California with these pieces that you have in place and that I think does have the ability to impact. So that is what I'm hearing.

If that's incorrect, you're welcome to correct me, but that is what I'm hearing, and I think that that's what we're trying to get at. Certainly a licensing Bill was introduced last year. There's another one introduced this year, and so far, I'm hearing a need for it and not hearing that we actually don't need a licensing regime in this state. So with that, Assembly Member Grayson, would you like to close us on this panel?

Yes. Thank you, Senator Limone, and chair as well. For the sake of time, I want to thank the panelists. Thank you so much for your presentation, Mr. Malik. Thank you for helping us understand better where DFPI obviously is. And I also want to go on record as stating it's my estimation or understanding that registration helps us gather and glean data, and it's an informational tool. We at least know what's out there.

But when you go to a licensure regime that takes you across the threshold into an area where you can better enforce what you know and would that be a correct assessment, the difference between the two?

I think that a licensing regime, depending on how it's drafted, would allow for more direct and constant contact with the licensees and provides, again, speaking very General here, because it all will be in the. Details a way for us to be more impactful with the activities of our licensees. The registration regime, which we also have, is something that we're very familiar with.

We're very familiar with both and again, sort of reiterating our hope that we'll continue to communicate with you and your staff on any of your priorities.

I take that as yes. That would kind of be the difference between registration and licensure. One is gathering data. One is also data with enforcement powers.

We do have enforcement powers under our UDAP authority. And all the other statutes, they're just apples and oranges. Okay, right.

Well, I really appreciate that, and thank you. I will definitely be leaning on DFPI and your help and partnership to be able to come up with the right ingredients needed to be able to help address the 700 complaints. Mr. Corden, thank you so much for your presentation as well.

I want you to know that at least my ears took note of the last page of your slide presentation, where it called for a very well, strategic, balanced approach to make sure that if we push down on one side, it doesn't pop up on another. So thank you very much.

Thank you.

Thank you. We are going to turn to our next panel, and time is pressing us, but we do want to invite up to the the table Robert Harrell, Executive Director, California Federation of Consumers, as well as Sheila Warren, chief Executive Officer, Crypto Council for Innovation. And Mr. Harrell, whenever you're ready, please go ahead and begin your presentation. Thank you very much.

I'd also like to praise the concise yet comprehensive background paper accompanying this hearing. I'll begin by sharing some consumer stories, because I think it's important to put a face on some of the things that we've been talking about thus far this morning, then pivot to some analysis and recommendations on how California can act. I have three stories for you this morning. My first story is about a 74 year old widowed Asian Filipino woman in Alameda County.

Her story came to CFC via the East Bay Community Law Center. A retiree, she lives on a fixed income of Social Security and a pension. In mid 2020, she joined what she thought was the fan club of an individual named Sam. After a month, Sam introduced our victim to his manager, Mark, who supposedly knew everything about crypto. The manager convinced our consumer to invest $100,000 in crypto with promises of huge increases in a very short time period.

Our victim had $58,000 and borrowed the other $42,000 from friends. Within weeks, she saw the promised increases via what we now know to be a bogus website and asked to get her money out. Five times, she paid $2,500 in crypto to get her money released. In total, she contributed $112,500 over six months. The money was never released. She's reached out to various entities, including the AG's office and the FBI. As a result of this scam, she has had thoughts of harming herself.

My second story, also thanks to the East Bay Community Law Center, is about a Contra Costa County man in his early 50s who's disabled and on a fixed income of disability and a work pension. In the fall of 2021, he began to follow somebody on instagram known as Airplane Jane Galena. We now know she's a Canadian who advises on how to trade but is not licensed, and our victim didn't know that at the time.

Ms. Galena approached this man, claiming to be a day trader from Ohio. Our victim created an account on tradex.com where he invested $38,000 using Moon and was told that Ms. Galena would manage his investment and make him $100,000. After purchasing bitcoin from an ATM, the victim got a text message, ironically from Coinbase, suggesting something might be wrong. Our victim reached out to various consumer protection organizations, including the FBI, Federal Trade Commission, Better Business Bureau.

Around the same time, our victim invested another $12,500 on a different platform, Trade1960.com that also proved to be fraudulent. Our victim is out $50,000, and we'll never see that money again. My final story this morning comes from a letter written to the judge overseeing the Celsius bankruptcy. I'm going to quote from a former Celsius ambassador from Rancho Cucamonga whose account got frozen. Quote the unexpected freeze of my accounts and subsequent filing of bankruptcy has disrupted both my and my family's life.

The stress of this event on both myself and my family is beyond words. I don't know how to express the guilt, the frustration, the shame, self doubt and absolute anger that I am feeling regarding the burden I have caused and placed on my family because of the anxiety I am feeling over this event. I have become depressed, moody, and have even been drinking in an attempt to decrease my stress.

Last week, my wife of 17 years asked me to leave our home due to my emotional turmoil and unpredictability. How do I explain to my daughters that the financial nest egg that would have been their start to a better future is now frozen and we may never see those assets again? How do I possibly rebuild that nest egg now? Most importantly, how do I begin the healing process with my wife and my daughters over this? End quote.

There are countless more stories beyond these three that I've told this morning. By the way, with all due respect to the previous panel, if this was your money, calling it garden variety fraud doesn't help you one bit. While scams and frauds are not unique to crypto, the seemingly innovative and relatively new nature of crypto, as well as the largely unregulated way in which it operates, has let people be taken advantage of, led astray, and filled with FOMO fear of missing out.

Add hundreds of millions of dollars of advertising without a fact based counter, and it's a recipe for disaster for many small and medium sized investors who simply didn't deserve this. Sam Bankman Fried, known as SBF, the founder of FTX, has been charged by the federal government with a range of crimes and is under house arrests.

In his parents' home in Palo Alto, John J. Ray III, the person now running FTX, who previously ran Enron after it's collapsed, called what he found, quote, a complete failure of corporate controls and such a complete absence of trustworthy financial information, unquote. Noting that FTX was managed by, and I quote again, a very small group of inexperienced, unsophisticated and potentially compromised individuals. End quote. Some crypto industry representatives have spent the past few months talking about FTX as the exception to the rule.

They suggest that we should focus less on the proper way to regulate this industry and that the real problem is bad apples like SBF. This approach is wrong headed and ignores the fundamental lack of adequate oversight for crypto overall because of action taken by the State of New York in their Bit license going back a few years when FTX collapsed last November, a mere month after Governor Newsom unfortunately, vetoed the overwhelmingly bipartisan AB 2269.

Authored by Chair Grayson, coauthored by Chair Limon New York consumers were far better protected against the fallout of the FTX bankruptcy than California consumers. Now, in fairness, had the Governor signed the Bill, a crypto license would not have been in place just a month later. But at least California would be on a strong path towards adequate protection of consumers in the crypto space, which we are decidedly not right now. One leads from the front, not the back.

I applaud DFPI's recent listing of crypto scams and creation of a tracker. And I know there are many, many good people at DFPI who care deeply about protecting consumers. But let us not delude ourselves into thinking that the reach of DFPI's website comes even remotely close to the number of viewers of a large number of 2022 Super Bowl ads costing $40 million for that one day, because they're simply not comparable.

I should also note that while banking guidance forthcoming from DFPI is good, guidance uses words like should as opposed to words like shall or must. Crypto has argued to historically underserved communities that they have been ignored and taken advantage of by traditional financial institutions. Crypto is then posited as the panacea to these problems. The data simply doesn't back this up, especially when it comes to underserved and minority communities.

In fact, entities such as the Virgins Institution recently published reports stating that the data shows the opposite of what the crypto industry has asserted about financial inclusion. It's no accident that crypto ATMs are disproportionately located in poor neighborhoods, nor that their physical locations correlate very strongly to payday lender locations. A new report this week shows that following the Terra Luna collapse and FTX's bankruptcy, crypto trading activity increased markedly, with, according to the authors quote, large and sophisticated investors selling, and smaller retail investors buying. Unquote.

That sounds more to me like the little guys left holding the bag than decentralized finance. I'd like to separate what's happening in crypto from potential use cases for blockchain. CFC, for example, has been working with one of the main opponents of last year's Bill to explore blockchain's potential use in title insurance, an industry in dire need of reform. If this interests any of you, let me know. So what should the proper path be for California?

First, the main element, as discussed already in this hearing, is licensing. We license doctors, nurses, those who cut our hair, fix our cars and homes, sell us insurance and other investments. Shouldn't we license an industry this large and complex? States like New York, Illinois and New Jersey have either said yes or are moving swiftly down that path.

I should note that the brand new Illinois Bill that was already referenced earlier in this hearing is sponsored by that state's equivalent of DFPI, so it's been blessed by Governor Pritzker and his Administration. With Congress unlikely to act, it is up to the states to put together a multi state coalition. Federal regulators recently reinvigorated are also stepping up. Second is a vigorous pre licensing application review process. This is one of the main benefits of licensure. Let's take the SEC, for example, discussed earlier today.

The SEC doesn't exist to make sure that you profit from your investments. Rather, it exists to make sure that the investment itself isn't fundamentally fraudulent or built on a house of cards. This is where DFPI and a rigorous due diligence process of checking potential crypto licensees would come into play. And licensees should pay for the cost of their licensing and regulatory oversight. This is common. The crypto industry last year attempted to argue that this shouldn't be the case for crypto.

That's an argument contrary to history and common sense, let alone consumer protection. Third, licensing sets clear markers about acceptable and unacceptable behavior. A big problem in the crypto space has been the lack of consumer protections. Similar to those exist, albeit imperfectly, with banks and other financial institutions. The list includes things like deposit insurance, much like that of the FDIC, and in the credit union space in case a bank goes under protections against conflicts of interest. A massive problem in crypto customer service standards.

Given frozen accounts in the crypto space, basic customer service standards are a must. In fairness, I must point out that DFPI's record on this is a bit mixed, as it has recently weakened pending rules about complaint standards and customer service for other products and services currently under DFPI's. Jurisdiction protections against hacking and related threats. Hacking in crypto is commonplace, opportunistic and very effective without adequate protections. The list goes on and includes some high junk fees on consumers.

With licensing, a regulator can require improvements prior to a license being granted, making a license confirmation that at least minimal standards have been met. It also allows the regulator to go back to their licensees to ensure standards are met as the marketplace evolves. Fourth, licensing might actually help the industry shed its Wild West reputation. Crypto has a massive public relations problem because the product is viewed as more akin to casino gambling as opposed to smart strategic investing. Finally, a comment about stablecoins.

In my opinion, the most misnamed word of the past decade. Stablecoins must have sufficient reserves to protect consumers and investors, period. Just because a stablecoin says it is pegged to the US dollar or Euro or Yen doesn't mean it is truly tied to those things. We saw that firsthand with the Terra Luna collapse last year. In closing, the path forward is clear.

The question is whether California will meet that challenge or whether we will continue to be near the back of the pack in consumer protection when it comes to crispo crypto. Thank you very much and I'm happy to answer any questions.

Thank you so much for your presentation, Mr. Herell. And now we'll turn to Ms. Warren.

Please.

Chair Grayson, Chair Limone and Members of both the Assembly and Senate banking committees. Thank you for the opportunity to testify today on the significant benefits and opportunities associated with the adoption of digital assets in the State of California. I'm grateful for the engagement and leadership already shown by the chairs and by so many on these committees. I'm pleased today to represent the Crypto Council for Innovation, a global alliance of industry leaders across the digital assets and Web Three spaces.

We use an evidencebased approach work to educate on the advances of this technology, and believe that partnership between government and business stakeholders is key to crafting inclusive regulation that benefits consumers, investors and industry participants. We're proud to have many California based Members from across the ecosystem. On a personal note, my family's ties to the Golden State are deep. I was born and raised in Huntington Beach, and I've lived and worked in San Francisco for nearly 20 years.

My three children, one of whom is here today, call SF home. Over the past two decades, I've held roles as an attorney, an entrepreneur, a product builder, and an NGO Executive. Throughout, my focus has been clear and consistent the intersection of technology, law, diversity, equity and inclusion, and civil rights. This journey ultimately led me to Web Three and crypto. While focused in these spaces, I've worked with the public, private and nonprofit sectors. I founded the Digital Assets team at the World Economic Forum.

I cofounded the Crypto Research and Design Lab, which uses Ethnography to investigate consumer needs. I was an advisor for the OECD and the World Bank, and I was honored to be part of California's very own Govops. Blockchain working group. Now, disruptive technological change takes time and patience to reach its peak. The foundations of the Internet were laid in the 1960s. The first browser was launched in 1990, and the App Store was launched in 2008.

It took many, many decades, for we saw the explosion of social media, fintech and ecommerce applications that power our lives today. More than 50 years of history, crypto and blockchain technology are at the beginning of a similar journey. But whether this innovation reaches its potential depends on decisions that we make today.

And just as California has been the hub of innovation for the Internet and its applications, whether in Silicon Valley, Hollywood or beyond, it can remain the center of its next generation, which we call Web Three. As we all know, California is the fifth largest economy, almost the fourth in the world, and has no ethnic majority. The opportunities here can impact the rest of the world. There is no question that our previous policies have helped the US. Become a global leader in myriad areas.

Before we talk about potential applications, I'd like to do some scene setting. In my view, crypto and Web Three represent a once in a generation opportunity to rethink foundational systems. Our current financial system was developed and evolved in a paper based economy, but to state the obvious the world is going digital and at an ever accelerating pace. 41% of Americans do not use cash for purchases in a typical week.

About 7500 bank branches in the United States closed between 2017 and 2021, and we've been using checks since the 18 hundreds, but have only recently moved into the world of sending rent digitally, paying for coffee with tablets, and filing taxes online. It is time to focus on what is next. Despite the stats I just laid out, I regret to say the US. Is steadily falling behind.

We have been overdue for an update to our financial rails, and crypto demonstrably can improve efficiency and reduce costs, meaning better services and choices for the user. I'm sometimes asked what the breakout application is for the Web Three ecosystem, and my response is I think we need to think about scale differently. Instead of building one thing to serve everyone, we've seen the problems with that approach.

Maybe we should be thinking about building different instances of services that are designed by communities to meet their specific and even sometimes temporary needs. Indeed, research shows there has been an increased focus on hyperlocal efforts and community empowerment that is moving from a model that extracts from communities to a model that invests long term in communities on terms the communities themselves deem relevant. The best models, in my opinion, build with, not for communities.

Community based research shows that the average person in the United States encounters significant barriers to financial security and well being, particularly for people who are poor. Financial institutions have had decades to bring those who've been historically excluded into the system, but they have not. Almost 20% one in five Americans remain unorved by current options. It is time to rethink our society's relationship to money and generational wealth. Building from the ground up. So where do digital assets fit into this picture?

Well, first, California has been a hub for leveraging crypto's benefits for historically underserved communities, especially minorities, migrants and small businesses who may not be the priority for legacy systems. As an example, City Three is an Oakland based project working on crypto education, community directed funding, and a more affordable payments network for local businesses. It onboarded over 1000 individuals to Web Three wallets with 60% representation by people of color. There's also been a lot of activity around remittances, which play an important role in California's economy.

In 2021, California accounted for over one third of all remittances sent from the United States to Mexico. Crypto can be transferred almost instantly and can cut remittance payment fees from an exorbitant 5% to a mere 1% for the average remittance sender a migrant worker who sends two to three of these payments per month. These savings add up fast. There are also digital collectibles, which are an emerging area of importance for our state, being as we are the capital of media entertainment.

We know that Non-Fungible Tokens, also called NFTs, have already opened doors for creators, especially underrepresented groups like Women and People of Color and for digital forward artists. But we're also beginning to see myriad different ways in which NFTs can and will be used in the future, including for land titles, access to events like concerts, or for non transferable purposes like academic credentialing. Even our very own California DMV is piloting a program right now to roll out NFT car titles.

Blockchain technology and digital assets can thus be an important tool for record keeping. As another example, a partnership between USD and Stanford uses complicated cryptographic techniques and a blockchain to capture, store and verify testimony from survivors and witnesses of 14 genocides and episodes of mass violence so far. Finally, we're seeing the ways in which crypto and blockchain technology can help advance efforts to tackle the climate crisis. On the investment side, there is a growing regenerative finance or refi movement focused on the $207,000,000,000 carbon market.

On the infrastructure side, data centers are increasingly focused on investing in new renewable energy sources and energy technology, capturing standard renewables and using harmful byproducts like methane to power operations. These are just a few examples of the value crypto and digital assets are already providing today. Now, it's of course important to note that while there is tremendous promise for crypto and blockchain technology to revolutionize not only finance but also so many of our legacy systems, there are also risks.

As Governor Newsom's Executive order suggested, it is critical that legislation and regulation enable responsible innovation while mitigating risks for consumers and investors. Noting that in some cases, these two groups are the same in the past year, in 2022, we saw failures of legitimate projects as well as outright and outrageous fraud committed against customers, transacting in digital assets, resulting in significant losses for consumers and harm to real people.

It is critical that we establish regulatory, guardrails and consistent consumer protection requirements as this industry continues to grow and develop, and it is critical that these requirements are not performative, but actually serve to empower users of these new systems, leveraging the capabilities of the systems themselves. Currently, as we've heard, there is no comprehensive federal regulation digital assets.

Instead, companies are subject to a patchwork of state laws like the New York Bit license, its limited purpose trust charter, as well as regulation by enforcement from federal agencies, which often fails to protect investors because it happens after. The fact blanket enforcement, harms innovation and investor protection because it does not allow for a thoughtful, compliant way for companies to bring to market the innovative products and services that are clearly in demand.

The lack of clear, consistent and transparent regulation continues to bring significant uncertainty to all stakeholders across the ecosystem. As California undertakes the important work needed to establish a formal licensing framework, policymakers can and should look to lessons learned from other state regimes.

For example, the New York DFS has established a bespoke regulatory framework for digital assets as we know, the DFS early on recognized the potential of these assets and the need to regulate them in a way that protects consumers while promoting innovation in line with order in this state. Now, DFS has focused on requirements relating to capital reserves, preventing money laundering, and cybersecurity goals that we applaud, all of which are subject to regular examination, reporting and supervision.

And under current leadership at DFS, we've seen renewed momentum in improving the agency's ability to regulate effectively in this space. However, as the industry is continuing to grow and evolve over the past seven years in New York and elsewhere, we have encountered some challenges that can help inform California's development of a similar regulatory regime. It is important for state regimes to continue to lead in fostering product development that serves consumer needs and promotes safety and security in the marketplace.

A state regime should establish clear and transparent expectations for the timing of application approvals in New York. It's unfortunately not uncommon for the timeline from application to approval to be significant, sometimes taking years. This is both due to the ever changing complexity of this industry and the historical lack of crypto expertise and staffing. But without a clear deadline, many innovators are left simply unable to operate in New York.

To ensure a consistent consumer protection standard, California should seek to coordinate with other states to combat cases of fraud and market manipulation. Additionally, standards and best practices regarding useful disclosures in the custody of digital assets should be developed. California, in our view, should lead when it comes to reciprocity and harmonization of state regimes with similar requirements and standards. This could include, for example, coordination of regulated entity exams with other state regulators, similar to the way that state MTL frameworks coordinate with one another for examination purposes.

In addition, reciprocity with other states would avoid redundancy and create a streamlined set of standards and requirements. It is critically important and very challenging for regulation to keep pace with innovation. I recognize that digital assets are built on a technological underpinning distinct from that of traditional financial markets, and accordingly, it is essential that any regulatory framework should properly account for such distinctions. There should be a clear and reasonable timeframe for any companies to transition into any new state framework.

As part of all of this, I would strongly encourage and I applaud California for continuing to seek input from market participants. The Crypto Council looks forward to working with you over the course of this session to advance these important issues. I thank you again for the opportunity to testify before your committees this morning, and I'm happy to answer any questions you may have.

Thank you, Ms. Warren, and also to Mr. Morelli once again, and I will quickly take it to committee Members for questions. Assembly Member Dixon.

Ms. Warren, just a quick question, and I respect your positive impressions or beliefs in the crypto industry. Can you cite examples of a successful financial performance? I mean, how does one, the average consumer evaluate financial performance? Is there a financial report of any of these funds? How do we evaluate their performance?

Thank you for the question. We have a number of indices and exchanges that reflect the current market conditions around any individual opportunity or offering. But I think it's critical to note that not all digital assets are financially motivated. Not all of them are issued for financial purposes. Some are simply around the Credentialing that I mentioned or around proof of ownership or things like this.

And that makes this space complicated because some of the issuers of these different kinds of opportunities look the same, and the activity might even resemble traditional financial activity, but the purpose is very different. But in terms of evaluating any given moment where something stands and where the relative price might be, there is an entire industry that's grown around that analysis and evaluation.

Okay. I don't know if that existed around FTX, for example. That a consumer. And Mr. Harold's examples of the widespread losses, financial impacts to people innocently who should have been able to determine, possibly with available information, if this was a solid financial investment. So how can one make the decision?

And maybe it's just a rhetorical question, but I think in your example, there's many decades to go here to find the best framework to manage digital, but it's managing Air, and I don't know if we could put a box around Air.

Part of what I think we're calling for, and we're looking for as an industry, is a robust consumer disclosure framework that's actually going to educate consumers. And right now, it's very scattered. It's falling upon different actors to do that in different ways. So many exchanges, which are the places where you can convert from fiat into crypto and vice versa, they do actually have markers for what they have deemed using their own evaluative framework, a riskier opportunity or something that is less potentially risky.

And I do think the General understanding is this is a very new space and a new industry, and therefore it does carry higher relative risk than an industry that's been around for hundreds of years. What we'd like to see is consistency in what that should look like. There are many good actors in this space who have zero interest in promoting or supporting any of the scam artists who also exist in this space.

What we're looking for is guidance around how we might do that effectively in a way that is actually meaningful and useful to a consumer, but also will be useful and important and relevant to a regulator.

Okay.

Thank you, Senator Caballero.

So I'm sitting here listening to this today, and I'm really moved by the stories that you told in regards to consumer fraud. And I guess I'm trying to figure out what is the value of cryptocurrency? I don't see any value to it at all. And if you don't see any value to it, then why do we allow it at all? And maybe I'm just really naive. You asked me to invest a $1,000 with you just on a Facebook page or any other methodology.

I'm going to say no, I'm cheap. Okay? But I'm trying to figure out in terms of our society and our economy and how we handle money, why would we want to allow this at all? And maybe it's just a rhetorical question, but maybe I should ask the other panel.

Sandra? This is one of the fundamental challenges. Let me just kind of repeat in summary some of the criticisms of people like Warren Buffett. Warren Buffett and a few others. Jamie Dimon, ironically one of the heads of the largest financial institutions in the world, has been very critical of crypto for the very reasons that you state it's. This notion of is there something behind it? It's price is based on the perception of value as opposed to actual value. Right. And that's an oversimplification.

And of course, whenever Warren Buffett would criticize crypto, the crypto world would say, he's a non engineerian. He doesn't know what he's talking about. And I think the last year, I mean, bankruptcy after bankruptcy after bankruptcy and I'm not disagreeing with Ms.. Warren that there are some noble players who are trying to do the right thing, but this is a big problem. And Assembly Member Dixon earlier pointed out Super Bowl ads, which was in my presentation, the scale is massive.

I love DFPI and what they're trying to do, don't get me wrong, but you can't tell me that the number of people looking at their website even comes one 100th of 1% as close as the hundreds of millions of people that saw those Super Bowl ads. I would note that this year there were no Super Bowl ads on crypto. And a lot of the VC money has actually moved into AI, which is a whole nother topic for other series of hearings. So it's a challenge.

It really is.

The reason I asked the question is because I'm trying to figure out what are the guardrails and I'm trying to think through all these things. But the ultimate question is what is the public benefit?

Yes, anybody can tell me. I'd love the chance to answer that question because this is in fact why I co founded the Crypto Research and Design Lab Cradle. And I'd be happy to share those reports with you around concepts like generational wealth building and around the use by the block community of Bitcoin specifically, but also more broadly of crypto. And what we found is you can't separate the demand signal we get from the same communities that are exploited by payday lenders.

It's the same communities that have demand signal for these assets and this opportunity. I don't think you can separate that from intergenerational trauma around experiences with the banking system. So we had countless stories of people who. Talked about redlining experiences walking into a bank and getting denied a mortgage that was in their personal history, their family's personal history going back generations including in our state. And so you have to understand, I think, a little bit.

And it was really aye opening for me as somebody who comes from a civic, tech and social justice background, but is still very compelled by the opportunity here. And I think the responsibility we all have is to think about how can we make sure that people are moving into the right opportunities? Because there are scam artists. I agree with my colleague here that's certainly the case and I think you'd be delusional to deny that that's the case.

However, the opportunity is very real and I'd love to just give you some statistics. I think there's this narrative that the people investing in this and exploiting people are these crypto bros who are kind of this Silicon Valley. They look a certain way, a certain demographic but in fact purchase of digital assets. In the United States the average cryptocurrency buyer is under 40. The mean age is 38.

55% do not have a college degree 44% of crypto traders are not white 41% are women and 35% have household incomes of less than 60K annually. Now my colleague looks at that and says all those people must be subject to predation and they must be foolish and they must be just seeing some celebrity doing a thing or whatnot. What I see is a demand signal for people to finally say this is a more inclusive opportunity that I have access to, I am not excluded from.

I find that very powerful and what I really want to see in regulation that comes down from anybody including the FBI, including from this body is an opportunity space that remains open for these people. It makes it safer, it makes it more secure. It provides them accurate and appropriate education around what it is they're getting into. But my personal belief is that everybody should have the right to determine for themselves and their families what to do with their hard earned paychecks.

And if that means that they want to move into an asset class that has proven over time here I'll speak about bitcoin over the past 14 years to make tremendous to be a tremendous investment opportunity. My view is let's enable that to happen in a safer structured way.

I appreciate that response because it speaks to me. The problem that I have is is it at the expense of some other schlup that ended up putting in money and didn't know that it was like a Ponzi scheme? What I get concerned about is everybody is enticed by easy money and I guess my upbringing and training was if it's easy then it's at the expense of someone else and so you got to be careful. So that's just my concern.

I think that the jury's out on whether people actually end up with generational wealth from it that didn't come from somebody getting defrauded down the road, and you can't trace it because it's a currency that doesn't have any fingerprints.

Sandra, you've hit on a really important point, because scale is part of the challenge here for these companies to grow from being more of a niche to larger scale adoption. That's why you saw the hundreds of millions of dollars being spent on advertising campaigns, 40 million in one day in the Super Bowl, many, many others. That was about creating that demand for scale.

If I may interrupt, I do have to leave. And so, yes, so Chair Grayson will lead it, but I apologize for the disruption and I thank everyone for participating.

And I apologize for starting the food fight and having to run, too, but I appreciate this discussion.

I would like to hear more very quickly, which is just to say the user experience around onboarding into Crypto has been extraordinarily challenging. And so I think and I'm happy to share more about this after this hearing. So the fact that these kinds of folks have been able to engage this opportunity, despite the UX being, until very recently, extraordinarily complicated, I think, speaks to the commitment that many of them have to avail themselves of these opportunities.

Thank you very much. We do have two other questions, and then we'll take it to public comment. Assembly Member Petrie Norris.

Thank you. Thank you, Chair. So I think what you've heard just in the last, I guess, ten minutes of questions, I think is a good deal of skepticism about this industry. So in the 16 hundreds, there was the tulip bubble, there was tulip mania, and for three years, the price of tulips went up 1000% and the bubble burst. It's one of the most famous collapses of all time. And the reason that that burst so spectacularly is there was nothing real behind it.

And I think I've heard some of my colleagues say people are asking the same questions about this kind of at a really big picture level, which is why, I think, from the industry perspective and I'll just say, Ms.. Warren, I appreciate your comments. And you're saying that you do want to see regulation, that you do want to see.

A framework to protect consumers in this space. I think that's a really important step for the industry, for folks that are listening to take and to engage in, because I do think failing that, you are going to see a huge backlash that says, you know what, none of this makes sense and there are too many scammers. This is too much like a Ponzi scheme, and so we're just not going to allow it at all.

So I would urge you and others in the industry to engage in a really productive way around regulation because it has also felt over the course of the last two years that there's been kind of this game of, oh no, we're not a financial asset, so we shouldn't be regulated by these guys. Oh no, we're not actually this, so we shouldn't be regulated by these guys.

And it's resulted in a total lack of regulation and therefore a lack of consumer protection, leading to some of the just the tragic stories that we've heard today. So I guess two questions help us understand why this isn't Tulip Mania 2023.

And if you could speak a little bit about not just kind of big picture, a willingness for the industry to engage in a conversation around regulation, but from your perspective, some concrete steps that we should collectively take here in California to ensure that we're doing everything we can to protect California consumers.

I appreciate that. I think that this is an industry that, as I mentioned in my opening remarks, we have to think about use cases a bit differently. And so I think when people see, oh, where's the Google? Or where's the sort of breakthrough household kind of thing? If we don't have that, what's the point of any of it?

And I find that a little bit challenging because I testified in front of the Senate committee last year, and I spoke about a couple of things that moved me tremendously, one of which was the immediate outpouring of crypto donations at the request of Vladimir Zelensky into Ukraine.

And we know from the Ukrainian government that that movement of that money into areas that were very challenging to fund because of sanctions and other kinds of legitimate things that happened in those spaces was the reason that Ukraine was actually able to stave off the Russian invasion while the bulk of foreign aid came a month later. That was a critical that quick timing of that response was really important.

Remittances, which I mentioned, are a 630 billion industry that has been known and chastised repeatedly for being predatory in nature. It exploits vulnerable people and populations. It exploits migrants. It exploits people that can't complain because perhaps of their status or documentation or whatever it might be. That's a problem that has been alleviated to a great degree, not just in the US to Mexico corridor or US to El Salvador, US to Guatemala, but to the Philippines. From Thailand to the Philippines. From South Korea to the Philippines.

There's all these examples of this. But then I get people telling me, oh, well, that's not a scalable thing. It's not at scale. It's a tiny solution to a tiny problem. It's a very real problem. And just as I am heartbroken by the stories that were shared, there are stories of this kind of thing happening where the amount of money that was able to be sent home significantly increased overnight.

Which meant that the money was getting there in time to pay the bills, to pay the rent, to keep the lights on, to go to the grocery store. I find these stories equally powerful. So I think the value we have to look at this holistically, and I think that the value of what you see is not just about financial price or monetary.

It's about what it means to have a more inclusive space, a more inclusive openness to access systems that have historically been relegated to the corners of our financial system. And that's where this thing has started. I've been in this space full time for five years, and what I said when I first joined was based on a lot of work I'd done in development aid was an observation.

We were going to see adoption in places that felt these challenges most acutely, places with hyperinflation, which we've seen in Venezuela and other parts of sub Saharan Africa, places that had authoritarian regimes, places where there were legitimate activists and others I'll wrap up that were looking to get money. Women in Iran who were looking activists were looking to get money under sanctioned regimes that couldn't otherwise do that safely in any way. And we have seen that.

Whether this emerges to become something that envelops a larger part of our economy remains to be seen. But our hope is that the actions taken by this committee and by others in the state of California will ensure that these opportunities remain available to the many Californians who already avail themselves of them and that we will have a safe and secure rail system that can be used by many others.

Thank you very much, Assembly Member Petrie Norris. Anymore? Okay, Senator Min.

Thank you, Chair Grayson. I just wanted to follow up on the Assemblywoman's excellent questions, and I wanted to welcome my former law school classmate, Sheila Warren. Once upon a time, we were three L's, and it feels like not so long ago. So before coming to state Senate, I actually studied money.

And I'll tell you that those of us who study money have always been a little skeptical of cryptocurrency as a replacement for money just because it doesn't have a lot of the attributes we think about with money. It's not sovereign. It's not backed by a sovereign. It doesn't have recourse to any asset, such as asset backed securities do. And it's very volatile, which makes it if your dollar inflated 1000% one year and then deflated 1000% the next year doesn't make it very useful.

But that all being said, that is not my problem. I think my problem is thinking about this in the context of asset bubbles, which Assemblywoman Petrie-Norris referred to. We had an economist, Robert Schiller, who won the Nobel Prize not so long ago for his work on asset bubbles.

And regardless of what you think of the merits of cryptocurrency, bitcoin, et cetera, and by the way, I think that crypto and blockchain have some incredible applications and I think you referred to some of them, Ms. Warren, but I think that it's undeniable that we are experiencing massive asset bubbles and deflations right now. And they seem to very much fit what Robert Schiller and others have described.

As far as asset bubbles, I remember a cabbie telling me like, five years, years ago, you got to invest in this thing called bitcoin. And I thought, okay, that's the point at which this is going to go over the top. This is peaking out. No, it kept going up for another five years. So this is an unusual asset bubble, but I think it's very clear it's an asset bubble.

And I think the question I have is as this recedes, I suspect we'll see a lot more instances of fraud. How do you regulate that? And I think that's a core question that we all have to address here, because you can think of this and I think the analogy of the tulips is a good one. Tulips are beautiful. They have some value, right? People like bitcoin. Bitcoin is a beautiful and elegant piece of code. Or I'm not a coder, but as I'm told, it's very elegant.

Even if it's very high transaction costs and intensity of energy. It's a beautiful thing. People may want it, but how do you regulate people buying something that many of them just may want to buy? And I think that's the answer we have to deal with. But I think earlier Assemblywoman Bauer Kahan hit the nail on the head when she described this as a round peg and a square hole.

I don't know that our current regulatory structures and systems really are equipped to deal with some of the challenges to consumers, investors that we face. So this isn't really a question, it's just an editorial comment, but I invite both of you to respond. How should we regulate this? Because I do think something is needed here. This does present new challenges, which at the same time are very familiar. They're challenges we faced for millennia now, and I think the tulip crisis is an example of that.

Senator, thank you very much. I appreciate your comments both today and I know when the Bill last year moved, you made some very thoughtful comments about work that you'd previously done. We really appreciate that. There is nothing inconsistent with all the things that Ms.. Warren has been saying about the good things that could come from crypto and whatnot. And again, I made it very clear I separated out crypto from blockchain.

I think there's some interesting use cases for some industries that are in dire need of disruption. I pointed out title insurance for those kinds of public documents or things like that you can find online. I think the use case is much clearer in my mind. And we're willing to work with folks, roll up our sleeves and work with folks on that. But there is nothing inconsistent with all the praise that Ms.. Warren gave from a licensing regime.

Now, I'm not saying a licensing regime is some sort of magical panacea. You will never completely eliminate fraud. Fraud, no matter what industry you look at. Having said that, if you can and DFPI is uniquely positioned, this is literally one of the reasons why the former Department of Business Oversight was modified into DFPI three years ago. For exactly these kinds of situations, you have their developing expertise. There was some criticism of the New York bit license.

The New York will be the first to admit that they were underresourced. And now that they're adequately resourced, it's in a much better place, and they are taking the lead. And that shows you the benefit. Look, FTX, famously, by their own admission, not by New York DFS's admission, because they're not allowed to say that. Just like DFPI can't say someone's applied for a license and it's pending. FTX did not get a New York bit license.

Now, I don't have a magic wand to know exactly why or why not, but that's not an accident. Generally speaking, the 35 or so companies, give or take, that have a New York bit license are not the ones that are going under. They're not the ones that are freezing accounts. They're not the ones that we associate with scandal. That is not an accident. And so there's nothing inconsistent with Ms.. Warren's, I think, to a certain extent, overly rosy future scenario. Hope she's right, but skeptical.

Let's make sure it's checked with licensing. I think that is the way that you begin to harness and get a better feel for how to protect consumers who've been left behind. You're never going to level out that education gap between hundreds of millions of dollars being spent and the relatively few people, with all due respect to DFPI that make their way to their website for the Scam tracker, which is great, I have no problem with that. I think that's fantastic.

You got to put your thumb on the scale a little bit to try to level that out. Licensing helps you do that. And most importantly, that pre licensing application process where DFPI is able to review all these systems, all these checks and balances, so that while it doesn't guarantee any result, it makes a consumer, I think, feel more confident that, okay, this isn't just money going down a rabbit hole. I think that's a partial answer to your very thoughtful question.

Thank you, Chair Grayson. And I will surprise myself by agreeing with most of what was just said. Apart from the characterization of my view as rosy, I think it is objective. Regardless, I agree. I think that there is a tremendous amount of room here. I do think that one of the challenges about this innovative space and this technology is it does not fall neatly into any existing category. It is not purely banking, financial services oriented. It's not purely technology. It's really both.

And the nature of digital assets is myriad. These are not just intended to be used, I think, to your point, Senator Min, as money or payments. There are other uses for digital collectibles, digital assets, tokens. This is a giant category that's still evolving. It's evolving today, and the technology is evolving today. And so I think it's important that that be taken into strong consideration in any regulatory licensing regime.

Now, all that being said, there is tremendous interest from industry actors when I say, in preventing these kinds of scams from occurring. They don't benefit the industry. These human actors who go in and to exploit and go in to take advantage of an emerging nascent area are not folks anybody wants to support.

And so there's a lot of interest in differentiating the wheat from the chaff, recognizing, however, that this technology, the transparency it creates, which can lead under the right scheme to accountability, is of value itself. And so I do think that what we've observed and what we've kind of seen in New York is a myriad challenges. So it's called a Bit license for a reason, right? It came into being shortly. Ethereum had just launched when the Bit license came into existence. There really was only bitcoin.

We're now facing a very different environment, and we have to think about any sort of licensing scheme in light of what's actually happening today on the ground.

So all of that is to say, I think partnership and collaboration between the private sector and public sector and with all of you is going to be of critical importance to ensure that whatever comes down is going to be relevant, meaningful and actually protective of the folks that we want to protect, as opposed to just performative so that we can all kind of feel good when nothing actually happens.

Thank you so much, Mr. Warren, for your testimony. And as the Senator exits, I can now applaud you both for being the panel that whittled the entire committee down to just the chair. So with that great testimony for all the information, we were able to learn from two different perspectives.

Mr. Harrell, just the stories that you started off with really were very touching, deeply, and also the information you were able to provide, Ms.. Warren, how you began your testimony with all the potential and all the good intentions and all the things that we could really move forward with creativity and innovative ideas such as crypto. So I appreciate that also the statistics you gave and how that it does meet the vision, I believe, of California in being very inclusive and including everybody.

So the potentials that are there are real. I just think that the case that you made with your statistics proves even more why we need consumer protections. And I appreciate you acknowledging that as well as we move forward. So with that, I do believe we will go to a public comment at this time. Thank you to the panel for your presentations. Just a reminder that you state your name and your organization, and please keep your very thoughtful, meaningful comments to about 1 second.

No, just 30 seconds would be good. A half a minute, please. If you have a public comment, come right up this aisle. The microphone is right there. And go ahead and state your name and organization.

Thank you. I'm Ken Anderson. I have a small business here, Launch Badge LLC in Citrus Heights. Chair Grayson, thank you for having me here and all the Assembly Members that were here earlier. I'd like to just add my testimony to Ms.. Warren. I spent the last four years building what is currently the most active public network and most green public network in the blockchain industry. I've personally worked on use cases for remittance from finance from Korea to South Africa, worked on ESG Tokenization.

I worked with the Inner Work Alliance in defining the token taxonomy around ESG token definition that companies like Microsoft are using as part of their ESG strategy. So I consider myself an expert on the technical side of distributed ledger technology. I think I would in addition to what Ms.. Warren was talking about, I've seen use cases where we were tracking vaccine temperatures in Europe during COVID early days in COVID.

We've used use cases for tracking, ad tracking, and remittance early warning systems in Syria for bombings and stuff like that. These are things that are happening today. My concern is that with a lot of the doomsday style storytelling that has been going on, we might threaten a lot of those real innovative use cases that are going to have incredible impacts going forward. Do you mind if I just finish this one thought and I'll get out of here?

One thought.

The way that we resolve this cryptocurrency, the base of this is cryptography. The way that we resolve and regulate this space is that we build protocols that are based on cryptographic mathematic and programmable patterns and protocols and frameworks. We can't do this the way, as Ms.. Warren talked about, with the way we've done it historically with paper. This is a very programmatic, fast moving, evolving space that needs that type of framework and collaboration between the private industry and the regulators.

Thank you so very much. Thank you.

Good afternoon, I think almost Jamie Minor on behalf of the Blockchain Advocacy Coalition. Our association was founded on a desire from our Members to work with government on establishing common sense regulations that both protect consumers while still allowing web three companies to innovate and call California home. We believe there are numerous use cases that can empower local communities and share California and the Legislature's values, and we look forward to further discussions on that front.

When looking at a regulatory framework for us, it is our hope to work with the Legislature to create a licensing regime that is tailored to specific products and don't go after the technology itself, which, as we heard and discussed today, provides a lot of consumer benefits, including, but not limited to, transparency, consumer empowerment. And we believe it's critical that we recognize cryptocurrency is not the technology.

As a California based organization, we believe California values have a unique opportunity to lead that balance of strong innovation and consumer protection and economic opportunity. We look forward to working with the Legislature, with the chair and other stakeholders to strike that right balance.

Thank you.

Thank you very much.

Good afternoon, Danielle Cando Kaiser, on behalf of the California Low Income Consumer Coalition, want to thank the Chair, the Senator, and all the Members for this very important discussion. So as of last year, as we know, there were more than 18,000 different cryptocurrencies being test driven by consumers, and we saw more than our share of really grisly accidents, so to speak. What we desperately need are more safety features specifically for the kinds of individuals that are served by Click Members, by our legal aid providers.

We need California to retain its leadership role and again provide clear rules for the road for these products which are increasingly used. Thank you so much.

Thank you.

Thank you, Mr. Chairman. Thank you for holding today's meeting. My name is Joe Cicolo. I'm the founder of a company called Bitaml, and we provide regulatory compliance consulting to crypto companies and have done so for almost eight years now. In that time, we've worked with hundreds of crypto innovators, and I'm excited by the energy and the passion here today where California can certainly lead the way on consumer protection. Something near and dear and close to my heart. I think AB 39 provides a great framework. Indeed.

There's a lot of holistic approach here to risk management. Nothing unreasonable, in my opinion. I would caution that if we did a one size fits all approach, we may be setting ourselves up for what we're seeing in New York. Earlier this week, it was announced that Etoro was granted the 33rd Bit license. So by my math, that's 4.125 licenses per year. And I don't think that's where we want to have diversity, equity, inclusion.

I think that that says to us that it's a big players game and that we don't have an opportunity for innovation. The majority of our clients that we work with provide some sort of direct wallet to wallet and non custodial service, which I think facilitates introduction into the crypto space, but does not have all of the risks that we've seen with FTX, where you're entrusting your funds to another party.

So it is my hope that we have a registration and a permission based license on the one hand, based on that custodial versus noncustodial business model. Thank you, Mr. Chairman.

Thank you.

Good afternoon, Mr. Chair. My name is Kevin Tromer. I'm a longtime cryptocurrency investor and consumer. In fact, I initially started investing in this market in late 2013. Like many of my fellow investors, I've experienced the ups and downs of this tumultuous market. First hand, I'd like to applaud you and the both committees for championing consumers like myself and taking the time to focus on this important issue. This morning, there has been much discussion about how this sector could be detrimental to consumers.

However, I would like to offer an alternative viewpoint. I believe that this sector has a large amount of potential and promise for consumers like myself. And I think the largest risk to consumers has come from inaction at the state and federal level. And I think it's important to that. We need straightforward guidelines and rules to weed out bad actors while helping good actors flourish. And that's why I applaud you for introducing our AB 39.

We do disagree with some of the criticisms of consumers in the space today. We believe that consumers can make smart and intelligent decisions if given the proper tools and knowledge. And that's one of the reasons why I founded the Digital Currency Traders Alliance. We are a nonprofit coalition of traders, investors, and thought leaders across the space. And since our inception, we've been really proactive in trying to educate Members like yourself and your staff.

I would like to acknowledge Luke and Michael for being so receptive to some of our messaging, and we really appreciate all that. I do believe it is important to stress a few points. What happened at FTX was straight fraud. It is not indicative of the wider space. Most of the crypto actors are good people, good actors, and they want to play by the rules. We shouldn't be painting with a wide brush. It's on the actions of a few.

However, at the same time, it's very important to prioritize consumer protections. Some of the Low hanging fruit that I believe we should be addressing, both as a state and federal government, should include restrictions on cross collateralization. We should have restrictions on the amount of leverage that consumers can access without education, and we should have prohibitions on commingling funds. And I would like to close by saying California has an opportunity to serve as a leader in the digital currency space. We're the bedrock of the tech sector.

We're a hub of innovation, and we are a leader embracing future technologies and should make sure we keep on doing that.

Thank you for your testimony.

Good afternoon, Chair Grayson. My name is Sam Dreyman. I cover U s policy for a company called Ripple. Ripple is a San Francisco headquartered company focused on leveraging crypto and blockchain technology that allows banks, payment companies, and financial institutions to send money globally, instantly reliably and for fractions of a penny. Having been founded over ten years ago, we're one of the oldest companies in the space and have global presence with offices in Toronto, London, Dubai, Singapore, and Sao Paulo.

At Ripple, we've built a network that allows for bi directional messaging, which is separate as distinct from the unidirectional messaging that currently exists in the traditional financing system. And we use a digital asset called XRP as a bridge currency between fiat currencies so parties can conduct transactions near instantaneously with fractional transaction fees, all done on a secure, public decentralized ledger. Another key aspect of Ripple is our commitment to sustainability.

We've made a public commitment to being carbon net zero by 2030 compared to Bitcoin, for example, where it can take up to eight minutes to settle a transaction. XRP transactions are settled in approximately 3 seconds. We understand that recent events have cast doubts regarding long term viability. Ripple is a prime example of a company that has developed a real use case, delivering real value to customers every day, thanks to the digital asset technological innovation.

We understand that through legislative proposals like AB 39, you're seeking to strengthen customer and investor protections while simultaneously not handcuffing the innovation that we and other California companies are developing. Ripple supports that framework that strikes that balance, and we look forward to working with you and the rest of the committee. Thank you.

Thank you.

I'm the last one holding us up. I will be brief. Good morning, and thank you for the opportunity to speak, Chair Grayson. My name is Daphne Paquado, speaking on behalf of the Chamber of Progress, a tech industry association working to ensure that all Americans benefit from technological leaps. This past year was a turning point for the digital asset industry.

It's clear after these major collapses, this industry needs thoughtful regulation that gives companies clear rules of the road and gives consumers more confidence using a combination of legislation, regulation, education, and enforcement. As we heard from Ms.. Warren about the potential and actual benefits of cryptocurrency, I want to speak and recognize that banks are currently recognizing the promise of blockchain technology and investing in digital asset. Particularly Morgan Chase created their own cryptocurrency that allows customers to save money to move money between their accounts.

Although it is true that people in the United States currently use digital financial assets primarily as a speculative activity, how California regulates today will shape the way crypto industry evolves over the next few years. Regulations such as those that require appropriate record keeping, risk mitigation, anti money laundering standards, disclosures requirements requiring segregated assets, and adequate reserves will be important as the industry moves from speculation to utilization. While cryptocurrencies are not without their challenges and drawbacks, as we heard today.

They do offer a number of potential benefits that have the potential to transform the way we think about and interact with digital assets. Thank you.

Thank you so much for your testimony. Seeing no other public testimony, I do want to say that I wholeheartedly believe that California can succeed in lifting up innovation and continuing to be the leader in innovation while protecting consumers at the same time that both can be achieved. I do want to thank everybody who participated in today's hearing. You can find the materials for today's topic on the committee's website, and I look forward to continue our work on this issue.

So thank you very much again for attending the hearing we had today. Thank you.