Banks face a tough choice over crypto

When First Citizens Bank agreed over the weekend to buy most of what is left of Silicon Valley Bank, there was one thing it absolutely did not want.

Though SVB, whose March 10 failure shook the global banking sector, was best known for serving venture capitalists and techies, First Citizens’ purchase agreement went out of its way to exclude cryptocurrencies and loans backed by crypto from the deal.

The North Carolina lender is not alone in its aversion to digital assets. New York Community Bank, which snapped up the remnants of Signature, the lender that failed right after SVB, refused to touch Signature’s substantial digital banking arm. The US Federal Deposit Insurance Corporation is having to return $4bn in deposits directly to those customers.

Former US congressman Barney Frank, who was on Signature’s board, argued to me that the banks were responding to growing regulatory hostility to cryptocurrencies in the wake of last November’s implosion of digital exchange FTX. He even went so far as to blame concerns about crypto for what he thought was a hasty government takeover of Signature.

“I cannot think of any other reason for the New York regulator shutting us down,” he said. “They shoot one man to discourage the others [and say] stay away from crypto.”

Boosters of bitcoin and other digital assets agree. Online chats and Twitter are full of speculation about what they see as a concerted effort by the US government to ban crypto completely. Dubbed “operation chokepoint 2.0”, the theory includes the collapses of Signature and Silvergate, a smaller lender that also did a lot of digital assets business, and a string of regulatory actions.

Regulators insist that they are just trying to ensure that banks are stable and cryptocurrencies do not enable money laundering and other crime. Signature’s shut down “was not crypto related”, said the New York Department of Financial Services. The bank lost 20 per cent of its total deposits within hours of SVB’s collapse, depleting its cash, and withdrawal requests were continuing, the FDIC said.

“We have not lost sight of the potential transformative effect that these technologies could have on our financial system,” Michael Barr, the US Federal Reserve’s vice-chair, said in a recent speech about crypto. “But the benefits of innovation can only be realised if appropriate guardrails are in place.”

However, the crypto bros have a point: official attitudes have hardened since FTX’s collapse. They had to. In the years while US regulators engaged in endless consultation and hand-wringing, massive risks had built up.

FTX, once valued at $40bn, was considered the crypto industry’s responsible player. Yet it turned out to be so lacking in basic financial controls that millions of customers’ assets were allegedly plundered by its executives. The scandal and falling cryptocurrency prices undermined Silvergate: depositors pulled out $8bn in the fourth quarter, forcing it to sell securities at a steep loss. That prompted a further run and ultimately liquidation.

Now US watchdogs are clamping down. The Fed and other regulators officially warned banks in January to be careful of “fraud and scams” and “significant safety and soundness concerns” when working with crypto companies.

The enforcement cases are also coming thick and fast. US-listed crypto exchange Coinbase has been warned that it might be charged with securities violations. On Monday, the Commodity Futures Trading Commission sued Binance, alleging that it illegally allows Americans to trade crypto derivatives. The watchdog contends that Binance also facilitates illegal activities. “Like come on. They are here for crime,” its chief compliance officer is quoted as saying of some customers. (Coinbase and Binance reject the allegations.)

Jeremy Allaire, chief executive of stablecoin issuer Circle, which had parked $3bn in reserves at SVB, has warned that the crackdown is driving crypto enthusiasts on to “platforms with no oversight, totally opaque bank and risk exposures . . . this doesn’t end well”.

That’s a little overdone. Some banks are still serving digital asset companies in limited ways. Circle has big deposits at custody bank BNY Mellon and a partnership with New Jersey bank Cross River.

But no one is openly bidding to replace Signature and Silvergate as the main crypto-focused banks. The time has come for the industry to make tough choices about digital assets. Lenders such as First Citizens are signalling which side they want to be on.

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