Now, I'm recording this intro from my home office, but where the interview took place is by far the coolest location I've ever done an interview at. No offense to any of my prior guests, but this interview takes place on the 10th floor in the ceremonial room of the offices of the Securities and Exchange Commission. Can you imagine saying that in 2021? I'm so grateful for SEC Commissioner Hester Peirce and to Chief Counsel of the Crypto Task Force, Taylor Linman. In this episode, we talk about the rulemaking process within an agency like the Securities and Exchange Commission, how they're coordinating on joint rulemaking with the CFTC, as well as what other processes they have ongoing. Welcome to the Law of Code podcast. My mission with this podcast is to help everyone understand the rules that shape our world so we can create better ones. I'm Jacob Robinson. I'm a former securities regulatory lawyer and really my goal with this interview is to help you understand what goes on inside the agency. Commissioner Peirce and Taylor Linman are both so generous with their time. Now, we don't just cover the rulemaking process in this episode. Commissioner Peirce also shares her personal philosophy to approaching work in capital markets. I don't think anyone's really asked her that before. Taylor shares how the team at the crypto task force approaches answering the tough questions that shape our industry. Starting with a conversation about their personal philosophy towards the capital markets. Let's start with why each of you joined the Securities and Exchange Commission and what I'd love to hear you answer if you're willing is how you think about morality and the philosophy of how you approach the work that you do and especially you Hester just because I've spoken to a lot of your colleagues and people who used to work with you, people who work with you now. No one has anything but great things to say about you and the same thing is true in private industry and I think the world needs more people like you. So I'd just love to hear you talk about how you think about those things.
Well, first I can introduce you to some people who definitely do not feel that way. So there are a lot of them who could say some very negative things, but I will say that I have to give you my disclaimer, which is that my views are my own views as a commissioner, not necessarily those of the SEC or my fellow commissioners. And I think what drew me to the SEC was a little bit accident. I worked, I was drawn to securities law, was working in the private sector and met a lot of people who had worked at the SEC and said good things about it and so found myself here many years ago as a staff attorney and it was a great place to learn. You really being inside the agency really opens things up in a way that you don't get so much from the outside as kind of a mystery looking in from the outside. And then when I got a chance to come back in a policymaking role, again, not something I would have sought out, but there were a lot of really interesting policy issues and I had some pretty strong feelings about a lot of them. And so I wanted to jump back in. In terms of just the moral question, which I think is an interesting one, the reason I love capital markets and the reason I think good regulation is so important is that it really can affect people's lives for the good if you get the rules right. The goal of the capital markets is to bring together people who have money with people who have ideas. And that marriage is great, especially if you don't have to have wealthy friends to get money. That's what distinguishes the capital markets is like merit-based. And so you can dramatically improve the lives of the investors, the lives of the entrepreneurs that are getting money, and then the lives of the communities that they live in and serve. And so that's what really makes me enthusiastic.
Thanks for sharing that. And Taylor, I'd love to hear for you. You've joined. It's been, I think, four months now since you've been with the SEC and the crypto task force. What drew you to the SEC?
Sure. And as Hester was saying, these are my own views. They don't necessarily represent the staff of the commission. So I would say like my journey was a little different than most because it started through working in crypto more than 10 years ago and I was being exposed to these securities laws issues in various different ways. This was 33 act stuff with investment contracts. It was brokers asking questions and each of these topics were different little puzzles that I was trying to fit together myself while I was in private practice and then more when I was in house and just trying to figure out what would I do if I had the ability to try to get a sensible rule in place or try to solve this problem definitively for folks in the market, what would that look like? And I spent a ton of time doing that in my personal life outside of work just trying to figure out how to solve these puzzles because it's like a game. Regulation is like a puzzle that has to fit together like a mechanism that has to fit together really well in order for it to work for society. And that was what drew me, that idea being able to go and do that kind of thing at a level that can help society and help this industry as well because this industry has a lot of these pernicious questions that need to have thoughtful governance brought to them and regulation brought to them.
Yeah, it's such an exciting time to be working in the capital markets and I'm so excited with what we're seeing and with clarity obviously is a big thing that we're seeing move forward and something that I flagged in the podcast that I did with the rulemaking process and the rules that will come next and I know this is something that is being worked on and so not completed as we're recording now but what does the rulemaking process look like when we hear things like rulemaking and we see dates 180 days a year? There's a lot of questions that I could ask there. But I'd love to turn to you Hester and just talk about what does that look like when we talk about rulemaking and how does an agency like the SEC tackle that.
It's a complicated and long process. The 100 days, 180 days stresses me out a little bit because it's very hard to get stuff done quickly, as you might imagine, and there's a reason for that. So what we typically do if we get a directive, so say the Clarity Act passes and it has a number of directives for different agencies including the SEC, we'll take those directives. We parcel them out to the right people in the building. They start with a proposal and the proposal will go out for comment. It includes an economic analysis to try to understand what this is going to look like in practice. We'll get comments and that process can last. The comments can be 60 days, typically would be 60 days for people to comment, and then we take all that in and we'll look at that and then we'll formulate a final rule and give people some time to comply and then there'll be an implementation process where people are coming in and they're asking us questions and we're helping with the implementation process.
And so when you say we take that all in, what does that look like at a more granular level in terms of is it different divisions? Is it the crypto task force? Like who is it that's taking all this information in?
So maybe just to give you a picture of what the SEC is, how it's made up. It's made up of a number of different divisions. We have our economists in our division of economic and risk analysis. They're involved in every rulemaking because they have to do an economic analysis. We have our office of general counsel also involved in every rulemaking because they're checking to make sure we're doing things consistent with the law. But then you have different divisions. So you have division of trading and markets. They deal with things like broker dealers, exchanges, and they also deal with customer relationships, those kinds of things. But it's really the exchanges and brokers and market infrastructure division. So if it's a rule that relates to that area, they're the ones who will be working on that. And then we have our division of investment management, which deals with investment advisors and mutual funds and exchange traded funds. And then you have our division of corporation finance which deals with public companies and the filings that they make. So depending on what the rule relates to, it'll be parcelled out to one of those. Sometimes you have multiple divisions working on one rule because they have different pieces. And the rule will get prepared by that division. I was a rule writer. So part of my job was when the comments came in, I would read them and they sometimes help you think of things in a different way or think of an issue that you might not have included. And so you modify the proposal based on those kinds of things. And so it's really a project that takes everyone in the commission. Now with respect to crypto rulemaking specifically, we have a crypto task force now which is made up of people mostly drawn from within the building from different divisions. We've taken people from each of the different divisions and then we've brought in a few people from the outside. Taylor is one of those people. So he has particular expertise which we really needed to have. And so we will be involved and I would imagine we would be spearheading the rulemaking that comes out of the Clarity Act. There's a lot of it. It needs to be sequenced and thought about what makes sense to do and how to do it. So I think that will be a project that we take on but we will be working closely with people across the commission and a lot of the work will be done by people in the divisions with the help of the task force. So I probably will not be here by the time that project starts, but I think we're gearing up to be able to be helpful there.
Yeah. Just on that point, we're heading to Virginia Beach after recording this. I have my future home.
Yeah. So that's where you'll be heading. You'll be heading to be a professor there and teach securities.
Yep. And probably some other classes as well.
Congratulations. That's an exciting step. Yeah. And I think everyone I know is like, I wonder if we can just go audit those classes, you know, maybe sit in, maybe we could put a wire on you and turn it into a podcast.
That could be fun. I want to just talk about some prior rulemaking experiences coming out of Dodd-Frank because that and Taylor and I were talking before we hit record about just this time in history is very interesting because we're getting all the rulemaking and we haven't really seen that too often. And I think the next closest period was Dodd-Frank and I wasn't involved in that. But I'm kind of not really involved anymore either, but I'm talking to you about it anyways.
Well, there was also the JOBS Act. So that was another big one that gave us a lot on the capital formation side.
So those are two good examples. Could you talk a little bit about what you learned from those processes and then how what you've learned from those experiences has been applied to this rulemaking process?
So I was not here in 2010, but I was working on the Senate Banking Committee. So we were involved. My senator that I work for did not support Dodd-Frank. But we were certainly involved in the process. And then once the statute was done and the implementation period had begun, we did a lot of oversight of the regulators as they were trying to implement. So one thing I think that came through is that it is really important for Congress to continue to be involved because when there's so many rulemakings that are being considered, it's just quite overwhelming for the agencies and so Congress I think will certainly stay involved. I think we learned that it can take a very long time. So a lot of those Dodd-Frank rulemakings had very short trigger dates but still were being worked on many, many years later. So I came back to the SEC in 2018 and the Dodd-Frank rulemakings weren't done. So 2010 to 2018 they weren't done. There was still more to do. And so I think having the benefit with respect to the crypto legislation is that we do have the task force in place. And so I think that will help to play a coordinating function. And then we also have been working closely with the CFTC and one of the issues with Dodd-Frank was that like Clarity was trying to divide responsibility between two agencies. There are other regulatory agencies involved as well. But on our areas, there was a lot of close work with the CFTC, some joint rulemaking, which can be difficult because then you've got two commissions, two staffs, and so I think having this already a coordinating function set up, the chairman of both the agencies have been working hard on cooperating and coordinating now and I think that work will be a good basis for joint rulemaking down the road. I think that will be helpful, but it's just really an enormous undertaking. And so I think that we're kind of prepared to take that on and to try to even now I think Taylor's, we don't have the final legislation, but I think Taylor's in the process of trying to figure out what will need to be done and how that should be staged.
Yeah. Just to speak to it a little bit generally. So I actually sit down with the staff every day and I've been there since I started just because that was an important part of trying to be really directly involved in some of the rulemaking and some of the day-to-day processes with the staff. And what I've seen with the rulemaking process even before Clarity is kicked off is that the rulemaking process is a lot different than how an agreement comes together in a law firm environment. There's a lot of artisans. There's people who are like craftsmen. They've been owning a specific area of the law and they've been thinking about that area of the law with a lot of ownership for a tremendous amount of time. And so their mastery of it really is key to getting things done right. And they each kind of have a role to play in assembling what can ultimately be one of these major rules. And so I've been able to see that just in the last four months. And also because what the task force enables us to do is we can see across the divisions. We can see how this rule is being received and thought about within a different division and then ensure that those issues whatever those issues are can be addressed or come up with novel solutions to help cut things off at the pass before they impede progress.
Yeah. Well, these are some hard questions that the task force, that the SEC, that the divisions are grappling with and it's certainly not an easy thing to do. Let me just add one other point which is so Congress has a very difficult job. Writing legislation is really, really hard. You're working on a not a blank slate because you're dealing with the existing securities laws and you're trying to slot things in there. But it's just really difficult. And so we do provide technical assistance. We and other regulatory agencies do that. And part of that is with an eye toward okay we are now imagining what it will be like if we have to implement this and so let's talk to you about maybe what that will look like and where we'll run into challenges and so that the process of us providing that technical assistance now can make life easier later when we have the rulemaking agenda in front of us.
I'm so glad you said that because I was blanking on my question and I was trying to stall for time. So thank you Hester for jumping in there. That actually worked out really well. What I wanted to ask was about prioritizing the different areas because like I said this is such a hard thing to do. There's so many different things. There's 180-day deadlines. Like how do you individually think about what to prioritize in terms of how you're going to tackle this rulemaking?
Yeah. I mean I would say that ultimately the chairman is setting the agenda for the agency and so a lot of this rests on him but again the crypto task force will advise him as does the staff. I think the thing that has really impressed me now that I've been at the agency so long as a commissioner and I've had a chance to work with people from across the agency is people are very hardworking here and you can have a lot of parallel work streams going on at the same time and so it's not like we're going to be working on one rulemaking and then we'll take the next one up. It's nope you've got people firing on all cylinders and so I think that will happen with the crypto rulemaking as well. There'll be a lot of work for our division of corporation finance. And again they're thinking about that already. We have some rules that are in the works. We have an authority already where we can do things. So we have things that are in the works already and those will slot very nicely into what's happening with Clarity. And then trading and markets I think again they have been thinking about these issues. Crypto has the virtue and maybe also the vice of bringing us to a place where we have to consider a lot of different foundational definitions whether that's exchange or transfer agent or broker and clearing agency. So all of these things are sort of being opened up and considered. And so I liked Taylor's formulation of or description of these folks as artisans because they really do know the law in such a deep way. They have the historical background. And so working with them and bringing to them Taylor's knowledge of the technology and of some of the challenges that folks in the crypto space trying to commercialize things have. I think that is something that we're starting now and will help us then go to work and be working all the divisions working at the same time.
Yeah. Well, I think if I would add anything, I would echo that I think it's more like trying to play, like there's a lot of different instruments in front of you and there's an orchestra and you can have all the instruments playing at once so that you can get a lot done that way. There can be just a whole wall of sound, so to speak. And that's going to be, I think, a big part of how things move quickly is ensuring that when one group is finished with one area, they've got the next thing. There's a logical building progression there, and that each of these builds upon the next. There's going to be foundational rules. I think those are going to be the things that are like the big chunks that are within the draft. And then there's going to be some stuff that's going to be kind of added on later. Now that you've got the foundation built, you're putting up the rest around the scaffolding. And then I'd also say that in addition to being able to hit it from many different divisions at once, there's also just the translation function that needs to be performed. So much of the existing securities markets and securities rules were designed with a very specific view towards a specific type of market structure and regulation around kind of this new market activity requires a lot of translation. And it requires that engagement with industry, which we've done a ton of in the last year, as well as just a lot of grappling with some of the nuances there about what the technology does and doesn't do, and ensuring that we're still matching things up appropriately towards our mandate and towards the relevant risks that still exist.
Yeah. No, it's an interesting paradigm shift in terms of how we think about these markets because I mean the 33 act, the 34 act, the creation of the SEC came after the roaring 20s, right? Trading on margin speculation, there was counterparty credit risk that sort of wasn't realized at the time. And now we live in this world where it's possible to build tools where you're not exposed to those same risks, those intermediary risks. And sometimes you are, right? It's sometimes it's like it seems like it's a decentralized project. I'm not going to name any but it's not right. And then so how do you guys think about navigating the not even just the rulemaking process but like the taxonomy and all the other work that you're doing given how I don't even want to say quickly the technology is changing though. Better way to say it is like how different it all is in terms of how we've traditionally thought about securities rules and capital markets.
Yeah. I mean, I think that that's an area that we've spent a lot of time sort of trying to sort through. We're not trying to take a position on whether or not something needs to be centralized or decentralized. We're just trying to deal with the reality of what things actually are. And so, there are a lot of reasons why you might want to remove intermediaries and why that could address some of the risks that we've traditionally confronted. But you're right, there may be new risks that are introduced there and we need to confront those risks. And so I think we are trying to design a regulatory framework that recognizes there will be different ways that people want to do things and allows us to calibrate the regulation for that. I'm a big believer that if people want to engage in peer-to-peer transactions, they should be able to do that. But we also have to recognize that, as you say, some things may purport to be peer-to-peer when in reality you're actually relying on some third party and we better know that and that's probably where a point of regulation is going to come in.
I've got a slightly different approach towards this question because I've been thinking a lot just in the broader context of rulemaking and how good regulation happens and around technology. Prescriptive regulation can get really outdated very quick and it can become really problematic when you use the prescriptive tool but they come with predictability. And then on the other end of the spectrum you've got principles based regulation which is highly flexible and amenable to a lot of different circumstances but you end up in a world where interpretation can get harder and harder without touching grass so to speak on the reality of the situation. Principles approach I think has a lot of merit in it because it allows for the flexibility afforded to the different ways in which people build tech. But there's also a place for prescriptive rulemaking and that's I think an example that I could think of that's not necessarily just crypto related but offering exemptions. You've got a facts and circumstances approach with the investment contract test which I know you've spoken about at length and then you've got safe harbors. You've got things like the proposed reg crypto. The idea there is to try to provide a bright line test something that is a little bit more prescriptive that you can follow and have predictability around. Having both I think is the best way to address emerging technologies also find ways for predictability in the market.
Yeah. No, that was great. You guys really are coming for my job with this podcast stuff. That was going to be one of my questions, Taylor, about how you view your role to provide the market with practical guidance versus overly prescriptive guidance. So, great job. I'm getting a little nervous now with the Law of Code. I better hit the gas on that.
No, you guys are great. Thank you. Can we just talk quickly and Hester, you did a great job sort of outlining the agency divisions and how it works. Could we just get a sense of like how they would come into play when it comes to rulemaking for Clarity and just like what aspects they would maybe tackle?
Yeah, I mean I think when we talk about what is a security and where the disclosure around the digital assets that will be corporation finance thing. To the extent it deals with the actual structure of the market that will be a trading and markets project. And then our investment management division is very much deep in the weeds on crypto issues. It's money market funds that are trying to go on chain. It's the different exchange traded funds as opposed to the broader category of exchange traded products. Exchange traded funds are regulated under the Investment Company Act of 1940. So those that's not really a Clarity issue, but they're definitely engaged as well. Issues around custody, if they're broker dealer, custody would be in the trading and markets division. If they're investment advisor, custody would be in investment management.
Well, I would just say like you could almost run through the titles and say kind of where these are going to fall. Like title one's probably going to fall a lot with Corp Fin and title three is probably going to fall a lot with trading and markets. And then some of these are going to be across the board.
And then you know there's also CFTC. We can't forget them because there's a lot of joint rulemaking. Shout out to Mike Celic who is a former alum of the CTF.
Yep. And the last time I think the last time we did a podcast it was you and Mike too which is pretty cool. One thing I want to say is just like commend the work that the crypto task force has done and the policy divisions as well too. I mean over the past well since inception really I mean the work has been incredible and I think it's done a great job not only in United States but also showing the rest of the world like how policymaking could be done which is talk to experts in the industry figure out how the rule how the things work figure out rules to make those things work and you use the analogy earlier Taylor of the puzzle and like I think of it like when you're playing a board game if you're playing the game of Monopoly and someone can manipulate the rules or if the rules don't make sense and you're disincentivized from building or something, it's going to lead to some very perverse outcomes. So when you think about rulemaking, when you think about just the taxonomy and all those things, what are some of the steps that go into tackling these hard problems in crypto internally? If you can speak on that because I know like we've seen the public roundtables and stuff, but like what does it look like internally?
I mean for us, you know, starting out it was really compiling the questions that we had which I put out an initial pretty long set of questions. Those have been supplemented over time. And then pouring through the responses, meeting with people to try to figure out what other questions or concerns they had and how they were thinking about the questions we had raised and then really trying to speak with people internally, the artisans internally who know the areas of the law so well to figure out where does this work already. I mean, sometimes we'll talk to someone in Corp Fin, for example, and he'll say, "You can do this already. There's a way. There's a way to do it. You actually can come in and register. So, let's just talk to folks about how they could come in and register their products." And at other times, there's a recognition, okay, you know, there's something new here. The staff put out an interface statement recently to recognize the fact that, okay, there's something new here. Let's think about how this fits with our existing rules and some of this is really a process so that we can get to rulemaking. So this is a temporary state of being and we'll get to a rulemaking but we need some more time to think about it and so it's a bit of a mix of how this works.
Yeah. No I was going to give a couple more tactical things. So I benefited from there being 200 plus task force meetings, all of these roundtables, hundreds of written submissions. I have this trove of data for purposes of getting signal regarding where are the kind of most important areas of focus and a tremendous amount of those have already a path for those have been charted which was so helpful. But I was also interested in understanding especially as we're starting to move more towards these intermediary questions, questions around brokers and transfer agents and others, what were the questions that were being asked the most frequently. And so one of the tools that we had at our disposal there was just to crunch some of this with AI tools. So pull chunks from all of the submissions, bring those in to take a look at how these issues were being addressed and stack rank, think about them from a holistic standpoint based on maybe a dozen submissions that were all of a similar style and similar type to really try to get to the heart of some of those specific issues. That was a tactic that I think has been pretty successful to date. The other thing that I would think about is just as you just mentioned it too, which is there's a translation function that goes the other way, which is the staff often knows how things work and how it could work, but they may not have told anybody. They be like, "Oh, why are they doing it this way? They're just running up against the wall. They don't need to. They can just go around the wall this way." And sometimes that's the most useful thing that we can do is not change anything, just enable the market by providing transparency around a solution that may not just be obvious to a market like this that hasn't grown up around the securities laws as long as folks in this building and as long as traditional firms and participants have.
Are there any examples you can give of that?
Well, sometimes you just need to actually just need to come in and register your thing as a security. And I feel like that the answer that we give to people or the answers that we give may not be ones they like. Like well you know actually yeah you are a broker so come in and register or you what you want to do is it sounds like is run an ATS so let's think about what that looks like in this area. So I think we will see more and more people recognizing okay we can deal with the SEC and if you're dealing with tokenized securities for example there are going to be people who have to register and that's okay we can figure out how to do that.
I was thinking exactly the same lane as I was which was there are existing ways for you to bring securities into the market. These people who are thinking about tokenizing should be thinking about those because there are other very sophisticated organizations who've been using these same tools for a lot of years and those tools are well-developed and functional regardless of the technology. So running in those lanes, just finding the lane and going and running down it is a really I think a powerful thing.
But it's a little bit rewiring people's minds out in the industry because there had been this period where you couldn't do anything in this space. The only way you were going to get to some sort of registration was through the door of an enforcement action which was going to force you into some regime that didn't work. Whereas now we're saying no actually come through the front door. You may well have to fit within an existing regime, but we will be willing to work with you to figure out if there are areas where an exemption makes sense or if we can just work with you to sort of help you think through the issues you need to register just the normal way everyone else does.
Yeah, that's something I want to touch on quickly because it's a phrase the industry's heard for years, the come and register. What do you mean when you say that? And let's just talk in the context, let's say, of an issuer or a token related project, not an ATS. Like what does that mean when it's come in and registered?
Well, so if you're trying to sell a security in the US, you have to either register it or you have to rely on an exemption. And there are a number of exemptions that are out there already. And so sometimes people really do want to register the security so they can sell it to everyone. And it may seem a daunting project, but actually it can be done. You just need to think about what this looks like and we will not give you legal advice here, but again, we have the people who know the laws really well and they can help you think.
Through what that might actually functionally look like, and then you go back and do the work, and we'll respond to the work that you do. Again, I don't know if you have...
The only other thing I would add is that there's just a really broad range of securities that exist. And I think when a lot of people say come in and register, they're thinking this is an S1 and this is going to be an equity. You know, I'm about to IPO. It's not the only way to register a security. And there are a lot of different types of securities that are out there that come with a lot of different features. And so, as this technology encounters those different types of securities that are out there, the different paths that are available to them are the same as the conventional path. It's just with a technology wrapper a lot of the time.
I guess and what I'd add too is that I think people need to realize, you know, whether you're providing investment advice, for example, with respect to securities, we have a registration. We have a whole regime that governs that actually. And so don't run away from thinking about whether what you're doing is securities activity. Come and talk to us about what it would look like to have that come within the regulatory fold, because I think it really is important for people to understand that our desire is to work with people so they can do things that are commercially viable, but it also is to grapple with the reality that we have statutes Congress gave us to administer, and if people are operating in a way that's not consistent with those statutes, there can be enforcement consequences. So, this is not like an enforcement free zone. It's a zone where we're engaging in good faith. We're expecting people to engage in good faith with us. And when there is something that falls within a statutory requirement, we expect people to adhere to that.
Yeah. And as they should. I mean, I got into golf last year for the first time and I play with some friends of mine who I won't name, but they know who they are who like to move their ball sometimes if it's not in an optimal spot or they want to maybe move it back a little bit. And I tell them, "Guys," and I'm maybe I'm a pain in the ass, but I say, "Guys, if we don't follow the rules, we're not playing golf anymore." Like, and the same is true in the capital markets where these rules are made and you, I don't need to say to you guys, but you have to follow these rules and they exist for a reason. It's not that some regulator just arbitrarily made up these rules. A lot of them came after something bad happened.
Yeah. And sometimes they're, you know, I may not agree. I worked to implement Dodd-Frank when I came back here. As I said, we weren't done. And I worked closely actually with the CFTC with Brian Quintenz from the CFTC on implementing some of those. And there were things that, you know, if I had been writing the law it would have been different, but that doesn't matter because the law is a representation of what the people have spoken through their members of Congress. And so it's really important for us to administer that. And so I think it's just a really important message for people to get, which is we exist within the statutory framework that we have. If you want to change it, be my guest, but you got to go to Congress to change it, but we will implement it and we are implementing it, and so work with us.
Yeah. I don't know if there's anything.
