BPInsights: July 23, 2022

Stories Driving the Week

How Stable Will Stablecoins Be Under New Legislation?

An emerging House bill being negotiated by Financial Services Committee leaders would draw new boundaries for the digital asset class at a moment of historic instability. A draft cited by Bloomberg this week would allow stablecoin issuance by banks, as well as nonbanks supervised by the Federal Reserve. Other sources indicate banks would be prohibited from issuing “stablecoins,” but would be permitted to issue “tokenized deposits.” While an effort to subject nonbank stablecoin issuers to oversight would provide some restrictions, it would not necessarily subject them to the full federal scrutiny banks face through rigorous examination and supervision. The bill, as reported by Bloomberg and CoinDesk, would require stablecoin issuers to back their coins 100 percent with safe assets and adhere to capital and liquidity requirements and supervision. It would ban commercial firms such as Big Tech firms from issuing stablecoins.

The bill is still under negotiation and it is unclear as of publication time what final form it will take and when it will be considered.

  • Open questions: The devil is in the details when it comes to stabilizing stablecoins, some of which have already crashed and wreaked destruction among investors. Supervision would be paramount, but it’s necessary to determine which agencies do the supervising, whether or not it’s comprehensive and consolidated, whether there is full-scope examination along with it, and what precise requirements (reserves, capital, liquidity) stablecoin issuers would follow. Nonbanks issuing stablecoins could pose significant risks, even with some Federal Reserve supervision. The concept of “reserves” backing stablecoins has already proven slippery among stablecoin issuers in the market, in contrast to the clear, stringent definition of the word among banks. The bill as described so far would diverge from the President’s Working Group recommendation that only insured depository institutions issue stablecoins.
  • Fed accounts: Some nonbank stablecoin firms have also sought to open master accounts at the Federal Reserve, but these accounts should only be available to firms subject to comprehensive federal supervision and regulation. Otherwise, such firms put the payments system at risk.
  • What community banks say: Marking up the stablecoin bill would be premature without considering comments from stakeholders, the Independent Community Bankers of America wrote in a recent letter to Chairwoman Maxine Waters (D-CA) and Ranking Member Patrick McHenry (R-NC). The proposed framework could leave the financial system vulnerable and the proposed Fed oversight may not be sufficient, ICBA wrote. The letter also highlights the potential run risk of stablecoins and recommends that “any regulatory regime applied to stablecoins should be comparable to regulations applicable to traditional, functionally similar payments products and services offered by the banking system.”
  • Meanwhile, in the Senate: Sen. Cynthia Lummis (R-WY), co-sponsor of another stablecoin bill, said the legislation likely won’t get a vote in the upper chamber until next year.
  • Treasury perspective: Senior Treasury official Nellie Liang said this week that any stablecoin issuer should be affiliated with a bank. The token just wouldn’t have to be issued by a retail bank subsidiary with deposit insurance, she said, according to POLITICO. Liang, the under secretary for domestic finance at Treasury, said a stablecoin regulatory framework would be simpler if the U.S. had a federal payments overseer with a view of the whole network of issuers and wallets.
  • Bottom line: Stablecoins issued by nonbanks pose run risk, illicit finance risk, and cyber risk, just for starters. If nonbank stablecoin issuers are not regulated in the same way banks are regulated, consumers and our economy could be at risk of another financial crisis. 

WSJ: CFPB to Push Banks to Cover More Payment-Services Scams

The CFPB is preparing to release new guidance that would heighten banks’ requirements to reimburse customers for peer-to-peer payment scams, according to a recent Wall Street Journal article.

BPI released a primer this year on fraud on payment apps such as bank-owned Zelle and fintech services like Venmo and Cash App. One key fact noted in the primer: if customers send money but then regret it, that payment is irrevocable. It’s helpful to think of P2P payments as cash-like. Banks have invested significant resources in educating consumers on how to use these services and protect themselves from both fraud and scams.

The Crypto Ledger

Chaos continued in the crypto market this week as Asian exchange Zipmex halted withdrawals amid exposure to troubled lenders Babel Finance and Celsius Network. Federal prosecutors and the SEC accused a former Coinbase Global product manager of insider trading. Here’s what’s new in crypto this week.

  • Illusion of stability: Crypto firms touting the stability of FDIC insurance may face scrutiny from the FDIC, and potentially the CFPB, according to an American Banker article. Bankrupt crypto firm Voyager Digital faces an FDIC probe over its reference to FDIC insurance in its marketing.
  • A math problem: The way people talk about crypto market cap can distort the reality of the market and make the crypto ecosystem look bigger or more legitimate than it is, according to an explainer piece by Molly White. A straightforward characterization of crypto market cap in dollars may not be accurate, she wrote. “Crypto exchanges and trackers should be clear about how market caps are being calculated—namely, which are being extrapolated only from trades against other cryptos, and essentially double-counted,” she said. “They also need to be clearer about the enormous margins of error in their calculations: the entire market cap of crypto is represented on CoinMarketCap down to a tenth of a cent, but that level of precision is nowhere near possible.”
  • Bogus trading firms: Fake crypto trading apps have defrauded customers of $42.7 million over the last two years, according to the FBI.

Apple Faces Antitrust Suit Over Mobile Wallet Dominance 

Apple could face a class-action lawsuit over allegedly blocking competition in the “tap and pay” mobile wallet market for its own devices. The proposed antitrust class-action lawsuit was filed by Affinity Credit Union on behalf of banks, credit unions and other financial institutions offering payment cards enabled for Apple Pay. The credit union accused Apple of excluding rival wallets from its iOS devices such as iPhones and then charging payment card issuers high fees whenever an Apple Pay transaction is completed on a U.S. issuer’s payment card.

Fed Unveils LIBOR Transition Proposal

The Federal Reserve this week released a proposal laying out U.S. dollar LIBOR replacements for legacy contracts, the latest step in implementing LIBOR legislation passed this year LIBOR legislation passed this year. The legislation provided clarity for tough-legacy LIBOR contracts that are not easily moved to a new reference rate. The Fed’s chosen alternatives are all based on the Secured Overnight Financing Rate, or SOFR, as required by the legislation. The transition legislation was meant to address LIBOR contracts without adequate fallback provisions, but in some contracts that do have fallback language, they would not be triggered if a “synthetic” LIBOR rate continues to exist after June 2023. The Fed is considering whether to add language in its final rules to ensure these fallbacks are activated next June. Additionally, the Fed declined to propose any conforming changes to LIBOR contracts covered by the legislation.

In Case You Missed It

Parachute Pants, Panic Button and Policy: Quarles on Macro Musings Podcast

Former Federal Reserve Vice Chair for Supervision Randal Quarles joined a recent episode of David Beckworth’s Macro Musings podcast. Here are some key takeaways from their discussion, which also included the behind-the-scenes stories of Quarles pressing the panic button under his desk at the Fed, and the editing process of his “parachute pants” speeches.

  • Leverage ratio: The constraining effects of binding leverage ratios are “driving deposits out of the banking system,” Quarles said. “They do not want the assets that they would keep in order to hold that level of deposits, because of the capital costs that we put on those liquid assets that would be required to back those deposits. So we’re pushing deposits out of what is now the most resilient part of the financial system, the banking system, and pushing it into a much less resilient part of the system, money market funds.”
  • ‘Thumb on the scale’: The repo market turmoil in 2019 was partly driven by liquidity supervisory policy, “which put a pretty heavy thumb on the side of the scale of preferring reserves over Treasury securities in satisfying your liquidity obligations. And with that heavy of a demand for reserves, it meant that people weren’t going to jump into the Treasury repo market in the way that we expected that they would in order to kind of equalize that quickly, because they valued reserves much more heavily than they valued Treasuries,” he said.
  • Stress tests: Banks weathered intensive stress tests that assumed no federal fiscal support during the COVID pandemic, Quarles said. “I think it’s inarguable that the resiliency of the banking system was sufficient.”
  • Climate: “The likelihood that climate change is a stability-threatening event for the financial system seems quite small, even if you accept, as I partially accept, that it is a serious issue that we should be taking reasonable measures to address,” he said. The Fed should evaluate it, he said, but a climate stress test with resulting capital requirements “doesn’t make any sense.”

BPI Member Executives Featured in Savoy’s ‘Most Influential Black Executives’

Several executives from BPI member banks were featured among Savoy magazine’s “Most Influential Black Executives in Corporate America” for 2022. The executives included Regions’ Leroy Abrahams, Comerica’s Irvin Ashford, Bank of America’s D. Steve Boland and PNC’s Carole L. Brown and Richard Bynum, among others.

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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.