During a hearing before the House Agricultural Committee Thursday, U.S. lawmakers took an inquisitive and at times skeptical view on a proposal for an automated collateral system to be used for crypto and other digital assets in futures markets.
The proposal made by cryptocurrency exchange FTX would require customers to deposit collateral and have enough funds to cover margin requirements that would be calculated automatically. If the margin fell too low, an automatic selling process for the investment would start.
FTX CEO Sam Bankman-Fried testified that the proposal would promote healthy markets and fair and equitable access to platforms, while trying to solve for the mismatch of speed for crypto derivatives versus the current clearing house model.
“It would bring competition and innovation,” Bankman-Fried testified. “It would bring liquidity to the U.S. marketplace and options to U.S. consumers. It would bring competition in futures market where all of volume is created by just two exchanges and would bring competition to U.S. with regard to the rest of the world.”
Bankman-Fried maintains that FTX’s model, which would require directly holding collateral at clearing houses with direct oversight from the Commodity Futures Trading Commission (CFTC), would provide an extra guarantee of assets and would be more appropriate given how crypto trades.
“Rather than choosing between liquidating a position too early over fear of what could happen over the next two days or exposing one’s self to systemic risk, there can be a real-time, more precise judgement about the health of the position,” Bankman-Fried said.
Bankman-Fried said he thinks FTX’s application is consistent with existing rules at the CFTC and should CFTC deem the proposal appropriate, it would not require rule changes.
But Terry Duffy, CEO of the CME Group, another witness on the panel, panned the proposal. Duffy called the automated clearing house idea a false claim of innovation that is little more than cost-cutting measures and warned about the impact on markets. He said that the FTX model would come at the expense of proven risk mitigation practices, market integrity, and ultimately financial stability.
According to Duffy, the FTX proposal would potentially remove up to $170 billion of loss-absorbing capital from the clearing derivatives market.
“Automatic liquidation could exacerbate volatility and create dramatic price moves during times of turbulence—with the potential to build losses on top of losses and destabilize markets for all participants,” Duffy said.
The CFTC is reviewing FTX’s proposal and is expected to hold a roundtable May 25 on this proposal. A comment period ended May 11. CFTC Chair Rostin Behnam hasn’t decided whether to support it, but has said the proposal could end up leading to more efficient trading execution and less risk in the system.
Many on Capitol Hill, the CFTC, and on Wall Street are also looking at this and other models as whether this could be a potential new model for future markets where the middleman is removed and the process of posting collateral for margin calls on crypto derivatives is automated.
This hearing comes as crypto markets continue to tank and a run on stablecoin, TerraUSD, once the 10th largest cryptocurrency, is rippling through crypto markets, causing another stablecoin, Tether, to drop temporarily below its dollar peg.
Jennifer Schonberger covers cryptocurrencies and policy for Yahoo Finance. Follow her at @Jenniferisms.