Circle’s Road to a Back-Door CBDC
Stablecoin issuer Circle could soon have access to the Fed through the central bank’s ON RRP facility. Such access could make Circle’s USDC stablecoins a back-door central bank digital currency or Fed account without federal oversight.
- Step back: Circle is moving many of the assets backing its USDC stablecoin from direct holdings of Treasuries to a government-only money market mutual fund created by BlackRock for Circle’s sole use. BlackRock plans to apply for the fund to access the Fed’s ON RRP facility.
- Why it matters: Access to the Fed facility, if granted, would pave the way for anyone in the world to buy USDC as a way to hold, essentially, the equivalent of Fed reserves. Such a back-door CBDC without federal oversight of Circle could generate destabilizing flights-to-safety in market stress and represent a striking regulatory arbitrage.
- The risks: USDC could attract cash inflows in stressful times, sap funding from businesses and bank lending, pressure emerging-market economies and exacerbate market turmoil. A stablecoin with ON RRP access would make it easier to expose the regulated financial system to crypto contagion.
- The outcome: It’s unclear whether the money fund will get access to the Fed facility at all. BlackRock would need to disclose during the application process the percentage of shareholders in the fund operating in high-risk industries as defined in the firm’s AML program. The high risk of the stablecoin industry could warrant a rejection.
- Big picture: The implications of Circle getting Fed access through a money fund linked to ON RRP demonstrate why the ON RRP facility needs to be temporary, rather than the large, growing and entrenched presence in the markets that it has become.
Five Key Things
1. Crypto Industry’s Go-To Bank Roiled by Run, Mass Layoffs
Silvergate Capital Corp., the favored bank of the crypto industry, has experienced chaos similar to the meltdown gripping its client base, according to the Wall Street Journal this week. The collapse of FTX sparked a run that forced Silvergate to sell assets at a steep loss to cover more than $8 billion in withdrawals. Silvergate’s crypto-related deposits dropped 68 percent in the fourth quarter of last year, according to the article. The bank has also laid off 40 percent of its staff. Silvergate fashioned its business model to focus on providing services to crypto exchanges and investors, selling off much of its traditional banking operations. Silvergate’s stock has plummeted 85 percent in the last three months, and the shares were down 48 percent midday on Thursday.
2. Regulators Highlight Crypto Risks to Banks in Joint Statement
The federal banking agencies this week issued a joint statement reiterating potential risks to banks from cryptoassets. “Given the significant risks highlighted by recent failures of several large crypto-asset companies, the agencies continue to take a careful and cautious approach related to current or proposed crypto-asset-related activities and exposures at each banking organization,” the agencies said in the statement. The agencies expressed concern about banks issuing cryptoassets or holding them as a principal, or engaging in business models concentrated around crypto. The statement did not include new details on crypto custody, although it did allude to “[l]egal uncertainties related to custody practices, redemptions, and ownership rights, some of which are currently the subject of legal processes and proceedings.”
3. Celsius Case Shows Danger of Crypto Savings Accounts’ Fine Print, False Promises
The Celsius Network bankruptcy case offers a cautionary tale of crypto firms’ marketing promises about their high-yield savings accounts, which some firms have pitched as superior alternatives to bank accounts. Customer deposits in Celsius interest-bearing accounts are now part of the company’s bankruptcy estate, a federal judge ruled this week. This distinction differs from the strong legal protections that safeguard bank customers and their deposits. Crypto firms like Celsius are right when they argue their accounts are different from bank accounts: they’re less safe.
- Fraud lawsuit: Celsius founder Alex Mashinsky faces a civil lawsuit from the New York attorney general accusing him of defrauding hundreds of thousands of investors and flouting state securities laws. The lawsuit alleges that Mashinsky promoted Celsius as a “safe alternative to banks while concealing that [it] was actually engaged in risky investment strategies.”
4. What’s on the Regulators’ Agenda This Year
The Biden Administration this week released its fall 2022 regulatory agenda, which previews many banking rules expected to be completed this year. The timing targets are non-binding, but the agenda reflects several financial regulatory priorities for this year.
- Basel III capital revisions: The FDIC and OCC expect to finalize the Basel III Endgame revision rulemaking by March 2023. While the rulemaking will be joint with the Federal Reserve, the rule did not appear on the Fed’s agenda.
- Other capital requirements: The OCC expects a rulemaking on capital requirements for market risk and the fundamental review of the trading book by March 2023.
- CRA: The Federal Reserve expects further action on the Community Reinvestment Act joint rulemaking by March 2023. The FDIC and OCC expect a final rule by that time.
- Bank Secrecy Act: The Fed expects further action on procedures for monitoring BSA compliance by March 2023, and the FDIC and OCC expect a notice of proposed rulemaking by that time.
- Other rules on the horizon: Regulators also expect movement this year on policies regarding financial institution fees, personal financial data rights, small business lending data collection, SAR sharing, customer due diligence requirement revisions and climate disclosure.
5. The Crypto Ledger
The FTX fallout has continued to develop, with Sam Bankman-Fried pleading not guilty to criminal charges this week. Bankman-Fried now faces a trial in October.
- Binance-Voyager snag: Binance.US’s plan to buy bankrupt crypto lender Voyager Digital may face scrutiny from the Committee on Foreign Investment in the U.S. (CFIUS), which evaluates foreign investments in U.S. companies and can block deals that present national security threats. The planned acquisition faces objections from the SEC, Texas financial regulators and Alameda Research.
- Coinbase settlement: Coinbase reached a $100 million settlement with New York regulators over anti-money laundering violations. The exchange allowed customers to open accounts without conducting sufficient background checks, according to the Financial Times. The settlement with the New York State Department of Financial Services includes a $50 million fine and $50 million investment in improving its compliance processes.
- Alameda deep dive: The Wall Street Journal over the holidays published a deep dive into Sam Bankman-Fried’s Alameda Research, where troubles began brewing long before the crypto crash.
- Core Scientific: The wave of crypto bankruptcies is not limited to crypto lenders or exchanges – large crypto miner Core Scientific filed for bankruptcy in late December.
In Case You Missed It
Jamie Dimon: The West Needs America’s Leadership
In a Wall Street Journal op-ed this week, JPMorgan Chase CEO Jamie Dimon called for strong American leadership and cooperation with allies amid a strained geopolitical environment. The Russian invasion of Ukraine “should … lay to rest the idea that America can stand alone,” Dimon wrote. “U.S. leaders must always put America first, but global peace and order is a vital American interest.” Among other things, Dimon called for renewing focus on economic dynamism, bolstering global energy and food security through a new “Marshall Plan,” increasing military spending along with allies and engaging in tough and thoughtful negotiation with China.
SVB Hires Olson As Chief Risk Officer
SVB, the parent company of Silicon Valley Bank, this week announced the hiring of Kim Olson as chief risk officer. Olson, who previously served as chief risk officer in the Americas for Sumitomo Mitsui Banking Corporation, will develop and maintain SVB’s risk management framework.