Leading the Way for Lawyers on Crypto
In financial circles, summer 2022 will go down in history as the summer of the crypto crash – a moment of reckoning for a once high-flying industry when a toxic combination of overheated growth, speculation and risk resulted in crippling losses for thousands of investors.
Crypto naysayers are engaged in a series of “I told you so” conversations, insisting that the crash, coupled with the bankruptcy filing of experimental entities like Celsius Network, proves the digital currency bubble has burst. But supporters insist this moment is merely a temporary setback for a still-emerging and potentially revolutionary technology.
Jacqueline Jamin Drohan, a partner at Drohan Lee and a commodities and banking law expert, has become one of NYSBA’s foremost thought leaders on cryptocurrency and digital finance. She is co-chairing the Task Force on Emerging Digital Finance and Currency, established by NYSBA President Sherry Levin Wallach, to educate the legal community on issues related to the digital economy, to review existing and future regulations and to explore opportunities for NYSBA in the digital space.
Drohan sat down recently to share her thoughts about the task force, the current cryptocurrency landscape and what the future might hold for this important industry as well as for NYSBA in the digital space.
Q: How did you get into the crypto space, and – perhaps more importantly – how do you describe what that is?
A: Before I entered legal practice, I was a bank dealer in what we thought was real stuff – fiat currencies and swaps. I was approached early, around 2013, when blockchain companies were first emerging, as I was a well-known currency attorney, and I said, “This is nothing like I’ve ever seen.” The technical part of it is incredible, involving distributed ledger technology that has lots of applications beyond trading. It’s broader than just virtual currency at this point; a lot of the financial systems are now supported by blockchain.
Q: What is blockchain, for the uninitiated?
A: Virtual currency is a limited amount of a unitized digital asset that exists on something called the blockchain, which is a globally accessible, globally transparent distributed ledger – a record of people that used it and when they used it and what they used it for. Every modification is recorded and comes with a record of every prior transaction in history. Anyone can look at it. In many ways it’s an amazing thing, as it can track taxes, transfer securities, properties, settle trades in commodities and features an infinitely reliable record of everything that occurs. Of course, it can also hide the identity of the user, as the information is all recorded in numbers. It’s not owned or controlled by any one person; it’s a completely decentralized finance system.
Q: What are your thoughts on the current regulatory structure as it relates to digital currency?
A: At the state level, the regulation is clunky – at best. New York was the first to license bitcoin activity. Its BitLicense is the standard among states, perhaps even globally. But it only regulates New York, and that’s a problem because by their very nature virtual currencies are nongeographical. The state’s enforcement posture has been aggressive, and licensing has morphed into a six-to-12-month process that can cost up to $500,000 between attorney’s fees, first-year compliance compensation, bonding and other costs, as well as minimum capital requirements. That can be unmanageable for many early-stage startups.
There’s a lot of lobbying taking place in New York right now regarding changes to the existing law. Ultimately, some operators, even some larger ones, would like to see less or even no regulation at all in place, and for them, there’s a lot of money at stake. Some of them are willing to pay significant fines as a cost of doing business. Bitfinex (a crypto exchange), for example, paid a record fine to the SEC and then simply carried on. No regulation is, of course, not going to happen. But the state does need to find a happy medium, as it wants to grow its digital currency footprint and attract businesses – especially in New York City – and get them to headquarter here, even if they’re not marketing to New York residents.
Q: What is the future of digital currency? Do you see a time when it replaces traditional currency, despite the setbacks we have seen this summer?
A: What’s happening is sovereign countries are blockchaining their own currencies – called Central Bank Digital Currencies, or CBDCs. People were talking in ’08, ’09, when we crashed, that the government should digitize the currency – in other words, there would be one unique number for every dollar, which can be traced. That means no more fraud, tax evasion or black market. CBDCs started with Caribbean nations and are going to spread out from there. This past March, President Biden signed an executive order directing federal agencies to evaluate the risks digital assets might pose to the U.S. economy and financial system. At the same time, the Fed is considering establishing a CBDC – more commonly known as a digital dollar – that would be fully backed by the U.S. And in June, the House Committee on Financial Services held a hearing on the subject of digitizing the dollar. So, there’s a lot going on in this space.
There has been incredible speculation. People were sitting home during COVID-19, trading PPP money, not paying rent, and that fueled a lot of investment. And then there was the crash, and all the liquid virtual currencies went down together. But those who were in it early are still ahead of the game, and there’s an incredible runup in currencies like Ethereum, which is still doing well, though there are utility features to Ethereum that make it different. Just to be clear, we’re not merely talking about a currency. It’s a protocol, which gives you access to the metaverse, non-fungible tokens – it’s not just something to trade speculatively.
Q: What are some of the legal applications here? For example, we have heard about the possibility of blockchain wills – will these replace traditional wills someday, in your opinion?
A: So, that’s a version of a smart contract. It’s a protocol of a blockchain – basically, a set of digital code and instructions. You could theoretically program wills in there with contingencies and it would be self-enforcing. Until the contract provisions have been met, the money won’t transfer, so it’s sort of like a digital custodian.
But the digital applications are still limited. There’s a lot that’s far too complicated in paper contracts to put into smart contracts, and smart contracts are not tantamount to hundreds of thousands of words of actual writing. There also can be conflicts between smart and written provisions; they’re not as smart as you might think – yet. For example, some logic is self-executing only if there is a sufficient balance in a referenced digital wallet to sweep over. If not, some smart contracts I have seen have just frozen up due to the lack of default provision, for example.
Q: Can you talk a bit about the Task Force on Emerging Digital Finance and Currency and the work it is doing?
A: We’re really looking to do two things. First, to take a position on what New York law should be related to regulation of virtual currencies and digital assets. Second, we’re going to advise the association on what this new technology can do for its operations – in that way [President Levin Wallach] has really been very visionary. Non-fungible tokens, for example, can be linked to access an in-person or online community like NYSBA committees, task forces and Section meetings. This might appeal to younger attorneys in particular, which is important to grow our membership into the future. Global access might also appeal to non-U.S.-based members.
There’s a real value to having technology be part and parcel of the way the association and its membership and CLE offerings work. That can be intimidating, of course, but it will help give us a sense of community in a virtual or hybrid space. People exchanging information and documentation and, eventually, perhaps, even a utility token that would allow access to a specific space, would become intrinsically valuable.