Federal government shutters with implications for private capital ecosystem

Topline

• Government shutdown commences with no end in sight

• California’s new AI law could set blueprint for AI transparency

• SEC provides clarity on crypto custody for RIAs and funds

• Quick hits

Closed for business: Government shutdown and the impact on private capital

The U.S. government officially shut down at 12:01 a.m. on Oct. 1 after the Senate failed to advance a stopgap bill to keep the government open, as both parties remain locked in a standoff over expiring health care subsidies. Republicans have shown a willingness to discuss a solution, but not in conjunction with government funding. Senate Democrats have not been willing to yield their leverage yet. Meanwhile, the administration is making the shutdown as painful as possible for Democrats by canceling climate funding, withholding billions from infrastructure projects in New York, and threatening to lay off “thousands” of federal employees who work in programs more aligned with the left.

Why it matters: Shutdowns are inherently disruptive. Agencies must cease all regulatory functions that are not directly related to essential government functions, such as national security, health and safety, or financial market integrity, until funding is restored. For example, during a shutdown:

• The SEC is not processing IPOs and registration statements, which could dampen exits. Staff are also unable to move forward on rulemaking initiatives to expand access to private capital or create a crypto framework, which could delay these efforts.

• The Small Business Administration cannot approve loans or grants, slowing small business activity and funding for innovation.

• Visa approvals are halted, which could create added disruption in the startup workforce—on top of the new $100K H-1B fee. 

• Companies seeking regulatory product approvals will face delays, which could impact delivery timelines.

• Startups with government contracts may experience funding or procurement delays, which could impact their near-term revenue.

While the primary impacts of a shutdown are on federal agencies, congressional activity will also be affected until an agreement is reached and funding is restored. This means anticipated action to advance capital formation legislation could be delayed, potentially stalling momentum and jeopardizing bipartisan support. The administration’s posture on federal layoffs and funding cuts targeted at Democrats adds an additional wrinkle, which could drive further political divides and create uncertainty that could chill investment.

What’s next: All eyes are on the Senate. Majority Leader John Thune and other Republicans have suggested some willingness to find a solution to the expiring health care subsidies, but only after the government is reopened. Three Democratic senators have broken ranks in support of a clean extension, but at least five more need to flip to reopen the government. No votes are expected over the weekend, assuring the shutdown will drag into next week. The longer a shutdown drags on, the higher the political costs will be, and this is what will ultimately drive resolution.

California’s new AI law could set a blueprint for AI transparency

California Gov. Gavin Newsom signed a landmark AI law that establishes the first comprehensive framework for transparency, safety, and accountability in the development and deployment of advanced AI models. SB 53 requires frontier AI companies to publicly disclose safety protocols, report serious safety incidents, and provide whistleblower protections. The legislation also creates CalCompute, a public cloud infrastructure designed to provide researchers and startups with access to high-performance computing resources that are typically dominated by big tech.

At the federal level, the Trump administration has taken a far more permissive approach to AI development, prioritizing infrastructure build-out and international competitiveness over heavy regulatory guardrails. Its AI Action Plan focuses on accelerating innovation and scaling U.S. compute power rather than imposing mandatory safety or disclosure requirements. Congressional efforts to impose a 10-year moratorium on state AI regulation failed, reflecting bipartisan resistance to preempting state action.

Why it matters: With federal inaction, states are filling the policy vacuum. But a patchwork of state AI rules raises compliance burdens and costs that would weigh most heavily on startups, which lack the resources to navigate a patchwork of standards, compared to the AI powerhouses. That uncertainty could chill investment flows into early-stage AI firms, potentially slowing U.S. innovation at a time when global competition is intensifying. California’s AI framework sets a precedent that could become a de facto national standard, especially since it is home to most of the world’s leading AI companies.

SEC provides clarity on crypto custody for RIAs and funds

The SEC’s Division of Investment Management issued a no-action letter (NAL) confirming that registered investment advisers (RIAs) and registered funds may use certain state-chartered trust companies to custody crypto assets without enforcement risk, provided specific diligence and regulatory safeguards are in place. The NAL effectively treats state trust companies as banks for purposes of the custody rule, covering both native crypto assets and tokenized securities.

Why it matters: There are relatively few custodians who serve the crypto asset markets, due in part to the federal regulatory posture, which has prevented banks and other institutions from offering these services. State trust companies have stepped into that role, but uncertainty lingered over whether they would qualify as permissible custodians under SEC rules. The NAL does not change custody rule obligations or who qualifies as a permissible custodian, but it provides clarity for market participants that could drive more activity in the sector. We expect the SEC to take up a broader review of custody requirements and provide an opportunity to shape the rules not only for crypto, but also for private fund RIAs.

Quick hits

• SEC and CFTC hold joint roundtable on regulatory harmonization. Both agencies emphasized this as a new era of collaboration, pivoting from regulatory fragmentation to harmonized oversight, which will provide clarity, reduce costs, and promote innovation. Shortly thereafter, the White House withdrew its nominee for CFTC Chair after backlash from some in the crypto industry.

• Trump targets China’s tech sector by expanding trade blacklist. A new rule expands export restrictions to subsidiaries of companies on the Entity List to prevent evasion of export controls. The move signals a tougher U.S. stance on technology transfer, and could increase due diligence and compliance for cross-border investments and global supply chains, especially in semiconductor and AI sectors. 

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