BPInsights: August 11, 2023

Moody’s Downgrades Midsized Banks, Puts Others on Watch

Moody’s Investors Service this week announced ratings downgrades for 10 midsized banks, put several more on notice for potential downgrades and indicated negative outlooks for others. The ratings firm cited rising funding costs (such as the banks paying higher rates for deposits), potential capital pressures and risks around commercial real estate lending.

Five Key Things

1. Fed Gives New Details on Supervision of Stablecoin, Novel Activities

The Federal Reserve this week released new details on its oversight of “novel activities” among banks it supervises and outlined steps that Fed-supervised state banks must follow before engaging in certain activities related to crypto-assets. The Fed’s novel activities supervision program focuses on banks’ “complex, technology-driven partnerships” with nonbanks; crypto asset-related activities like crypto asset custody service; projects using blockchain technology “with the potential for significant impact on the financial system”; and concentrated provision of banking services to crypto-related firms and fintechs.

  • Safe and sound: A state bank that is a Federal Reserve member must demonstrate that it can manage certain risks – and receive a “supervisory nonobjection” signoff from the Fed – before engaging in certain activities. These activities include issuing dollar tokens to facilitate payments, and other digital-related activities permitted for national banks under an OCC interpretive letter. Banks seeking to conduct these activities must show that they can manage operational risks, cybersecurity risks, liquidity risks, illicit finance risks and consumer compliance risks, according to the Fed.
  • Cautionary note: The Fed’s letter regarding state member banks and “dollar token” activities – a term that the agency said is using interchangeably with the term “stablecoin” as used by the OCC in a related interpretive letter – refers to a policy document that signals caution on stablecoin issuance. “[T]he agencies believe that issuing or holding as principal crypto-assets (referring generally to any digital asset implemented using cryptographic techniques) that are issued, stored, or transferred on an open, public, and/or decentralized network, or similar system is highly likely to be inconsistent with safe and sound banking practices,” that document states.

2. PayPal Launches Stablecoin

PayPal is launching a U.S. dollar stablecoin, the payments firm announced this week. The token, PayPal USD, will be issued by Paxos Trust Co., a NY-state chartered trust company, and backed by U.S. dollar deposits, short-term Treasuries and similar cash equivalents, according to the company. Paxos secured preliminary conditional approval for a national trust charter in 2021, but that conditional approval expired in March of this year.

  • Regulatory context: The announcement comes amid Congressional and regulatory efforts to oversee stablecoins and other digital tokens, from the SEC to the prudential regulators. The Federal Reserve this week unveiled new details on its oversight of “novel activities” among banks that it supervises, and provided new information on the process for Fed-supervised state banks to follow before engaging in certain activities related to crypto-assets.
  • Remember Diem? The PayPal stablecoin launch calls to mind another tech giant’s stablecoin plans that ultimately failed to get off the ground – Diem (formerly Libra), the stablecoin project spearheaded by Meta (formerly Facebook). That project sparked alarm and scrutiny by global regulators who were concerned about a Big Tech company’s reach into payments.
  • Not so stable: The news also evokes caution based on the events of the “crypto winter”, including the collapse of stablecoin TerraUSD.

3. Proposed Changes to Auditing Standards Cast an Unreasonably Wide Net

BPI and a broad coalition of trades this week expressed opposition to the Public Company Accounting Oversight Board’s proposed changes to auditing standards. The PCAOB’s proposal on Company’s Noncompliance with Laws and Regulations, a measure known as NOCLAR, raises significant concerns for the business community, including:

  • Transformative: The draft proposal transforms the nature and scope of auditor responsibilities by turning financial statement audits into wide-ranging probes of potential instances of noncompliance. This would fundamentally alter the audit function and would insert auditors into core legal and management decisions.
  • Cost-benefit considerations: The expanded scope of auditing under the proposal would significantly raise audit costs for already highly regulated companies without a clear benefit.
  • Bottom line: “Auditors have rightly played a role in identifying illegal acts by clients, and indeed have existing standards for responsibilities toward identified illegal acts and NOCLAR, but auditors should not be expected to do the combined work of lawyers, management, and regulatory and law enforcement authorities in rooting out noncompliance related to all laws and regulations,” the letter states.

4. Discount Window Stigma: It Was the Least They Could Do. No, Literally, It Was the Least They Could Do.

The U.S. banking agencies issued additional guidance on liquidity risks and contingency planning in late July. The agencies “encourage[d] depository institutions to incorporate the discount window as part of their contingency funding arrangements.” They also noted that if the discount window was part of the institution’s contingency funding plan, the DI should be operationally ready to borrow. Even though being unable to borrow from the discount window contributed significantly to the disorderly failures of SVB and Signature Bank (see “Improving The Government’s Lender of Last Resort Function: Lessons From SVB and Signature Bank”), the banking agency announcement simply repeats what was already included in guidance and examination manuals.

  • Bottom lineThe agencies should have taken modest but still important steps to encourage banks to be willing and ready to borrow from the discount window but chose, instead, to do essentially nothing almost five months after the bank failures.

5. BPI Hires Haelim Anderson as SVP in Research

BPI this week announced the hiring of Haelim Anderson as a Senior Vice President to join the research team. Haelim previously served as a senior financial economist at the Federal Deposit Insurance Corporation where she conducted research on deposit insurance, liquidity risk and systemic risk. She started the position on Aug. 7.

In her new role at BPI, Haelim will work on a range of bank capital and bank liquidity topics.

“Haelim brings extraordinary empirical skills and expertise in bank regulation to BPI,” said Francisco Covas, BPI Executive Vice President and Head of Research. “Her profound knowledge of banking and financial economics, as evidenced by her publications in top academic journals like the American Economic Review, elevates the reputation of BPI’s research team. We are thrilled to welcome her aboard.”

In Case You Missed It

The Crypto Ledger

The Federal Reserve’s release of new details on stablecoin supervision and PayPal’s stablecoin launch announcement made this week a big week in crypto. Here’s what else is new.

  • ‘Unbanked’ and uninsured: The FDIC ordered crypto firm Unbanked Inc. to remove misleading statements about deposit insurance from its website and social media materials. The action is the latest in a string of FDIC crackdowns on misleading claims by fintech firms about deposit insurance coverage.
  • Still on the hook: A New York state judge denied an attempt by former CEO Alex Mashinsky of bankrupt crypto lender Celsius Network to have a fraud lawsuit against him dismissed. The New York attorney general has adequately alleged that Mashinsky defrauded investors, Judge Margaret Chan said.
  • Digital yuan’s future: A recent MIT Technology Review article explores what’s next for China’s digital yuan. The CBDC “was seemingly born out of a desire to centralize a payment system dominated by the tech companies Alibaba and Tencent,” the article says. “Almost three years into the pilot, though it seems the government is still struggling to find compelling applications for it, and adoption has been minimal. Now the goal may be shifting, or at least broadening. China appears to be charging ahead with plans to use the e-CNY outside its borders, for international trade.”
  • A bridge to global currency dominance: The mBridge digital currency platform, a project under development by China, Thailand, Hong Kong and the UAE partnering with the BIS, could expand the reach of China’s digital yuan and become a challenger to dollar-denominated payments, according to Bloomberg. The project could have a basic working product ready by the end of this year. The mBridge platform could make it easier for China’s yuan to be used as a dollar alternative by enabling the digital version to settle large corporate transactions – raising concerns among some U.S. and European officials, the article states.

Fifth Third Continues Scholarship Tradition

The Fifth Third Foundation recently announced this year’s recipients in the Fifth Third Scholarship Program, which awards scholarships annually to children of Fifth Third employees. The program continues the bank’s longstanding tradition of supporting access to affordable higher education.


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The views expressed do not necessarily reflect those of the Bank Policy Institute’s member banks, and are not intended to be, and should not be construed as, legal advice of any kind.