Wednesday, October 17, 2018

Coders should be accountable for illegal smart contracts, says CFTC’s Quintenz

By Anne Sherry, J.D.

CFTC Commissioner Brian Quintenz said at the GITEX Technology Week Conference in Dubai that it would be reasonable to hold the developers of smart contract code accountable for unlawful activity, such as the unauthorized offering of event contracts. He allowed, however, that enforcement would be difficult, and posited that developers could engage with CFTC staff to determine ways to comply with CFTC regulations.

Quintenz posed a hypothetical scenario in which smart contracts are transacted on the blockchain—specifically, binary options that qualify as event contracts. The CFTC only allows off-exchange trading of event contracts in limited circumstances. This scenario, where event contracts are being executed for profit between retail customers, raises multiple CFTC concerns, not least of which is who should be held accountable for the regulatory violations.

The commissioner said that it would not be reasonable to look to the developers of the underlying blockchain, who invented a code upon which individual applications can run. Similarly, miners and general users of the blockchain cannot know and asses the legality of each particular application. It is reasonable, though, to hold the coders of the smart contracts themselves responsible. If you loan your car to someone because they want to rob a bank, it is reasonable for the government to prosecute you for the robbery, but it would be unreasonable to go after the car manufacturer, Quintenz said.

Quintenz conceded that it would be difficult to stop this activity entirely. On an anonymized, global blockchain, determined users will find a way to gain access and execute their own event contracts. Regulations also vary by jurisdiction; event contracts are permitted as a form of wagering in the U.K., for example, and certain binary options allowed in the U.S. are banned in the E.U.

Instead of enforcement, the commissioner continued, developers could engage with the CFTC to be sure their products comply with regulations. He assured the audience that Commission staff is open to engaging with innovators. Chairman Giancarlo created LabCFTC at the agency with a goal of working with innovators to deepen the agency’s understanding of technological innovations and provide guidance about how regulations may affect new developments.

Finally, Quintenz said that he disagrees with the adage that the code is law, meaning that anything permitted by software is fair game. Case law, statutes, and regulations apply to the code just as they apply to other activities, he said. Although users of the blockchain may be aware of the risks of an exploit, such as a 51-percent attack or bug in the code, it does not necessarily follow that they have submitted to those risks. Instead, the law may find the existence of an implicit agreement among participants not to undermine the blockchain’s operability or integrity. Furthermore, the contracts themselves are subject to regulations. If market integrity is clearly threatened through widely adopted contract loopholes such as a manufactured default or 51-percent attack, the CFTC should consider investigating the conduct for fraud or manipulation, Quintenz concluded.