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Federal lawmakers on Wednesday debated the regulation of tokenization, the process of placing real-world assets like stocks and bank deposits on blockchain, during a House hearing. The discussion highlighted similarities to the regulation of cryptocurrencies, focusing on balancing potential efficiencies against threats to privacy and consumer protection.

French Hill, R-Ark., chairman of the subcommittee on financial technology, emphasized the intention to separate tokenization discussions from ongoing digital assets regulation efforts. However, dialogue about recently passed crypto bills and their implications on tokenized assets was unavoidable, given the technology’s close ties to the crypto industry.

"Unlike cryptocurrencies, which are generally assets that exist in novel markets, tokenization refers to the use of distributed ledger technology to improve the delivery of real-world assets such as bank deposits, bonds, and other regulated financial instruments," said Robert Morgan, CEO of the USDF Consortium.

House Republicans touted tokenization as a means to streamline traditional financial transactions, offering benefits such as faster settlement processes, lower transaction costs, and automated, secure records of ownership. In contrast, several Democrats voiced concerns about risks such as fraud, cybersecurity, and illicit finance, which are prevalent in the crypto industry.

"The [crypto and tokenization industries] have become so interwoven and synonymous that I'm cautious about the risks such as fraud, cybersecurity, and illicit finance," stated Rep. Stephen Lynch, D-Mass.

Hilary Allen, a professor at American University's Washington College of Law, testified that public, permissionless blockchains pose significant risks to the financial system. She suggested that token ownership be recorded on private, centralized ledgers to mitigate these risks.

"This is important because public permissionless blockchains suffer from insuperable inefficiencies and operational fragilities that render them unsuitable supporting infrastructure for real-world financial markets," Allen argued.

Democrats also expressed concerns about the impact of recently passed crypto bills on tokenizing real-world assets. They cited the crypto market structure proposal, FIT 21, which creates an exemption for tokenized securities. Critics argue this could allow institutions to avoid oversight by the U.S. Securities and Exchange Commission (SEC). Lynch further worried that banks might use blockchain to avoid compliance costs.