Yesterday the Office of the Comptroller of the Currency (OCC), a branch of the U.S. Treasury, announced that banks can provide digital asset custody services in the same way as they provide safe deposit boxes. It published a letter outlining its opinion in interpreting existing legislation. While some welcomed the decision with glee, not everyone is happy about it. Does the legal interpretation apply same function, same regulation or same risk, same regulation?
“From safe-deposit boxes to virtual vaults, we must ensure banks can meet the financial services needs of their customers today,” said Acting Comptroller of the Currency Brian P. Brooks. “This opinion clarifies that banks can continue satisfying their customers’ needs for safeguarding their most valuable assets, which today for tens of millions of Americans includes cryptocurrency.”
Brooks has been in his position for two months and was formerly the Chief Legal Officer of Coinbase, the largest U.S. cryptocurrency exchange.
The opinion applies to national banks and federal savings associations and the announcement notes that many states have already authorized local banks and trust companies to provide custody services.
The letter states: “The OCC recognizes that, as the financial markets become increasingly technological, there will likely be increasing need for banks and other service providers to leverage new technology and innovative ways to provide traditional services on behalf of customers. By providing such services, banks can continue to fulfill the financial intermediation function they have historically played in providing payment, loan and deposit services.”
While the cryptocurrency sector seems delighted with the opinion, that enthusiasm is not universal.
Finnish central banker Aleksi Grym observed the irony on his personal twitter account: “Now you can trust banks with the money that was invented because you can’t trust banks with your money.”
Cornell University Professor Saule Omarova, who specializes in financial sector regulation, believes this could be a slippery slope.
In a tweet she said: “This is how it all started for derivatives back in the 1980s: OCC interpretive letters opining how it’s safe and wonderful to let banks deal in risky derivatives. Because innovation! And it’s “client stuff” anyway. Derivatives markets are HUGE now. Coincidence?”
In 2009, towards the end of the Global Financial Crisis, Omarova penned a paper on the topic, asking about the crisis: “How did we get here?”. She observed that the OCC, by “interpreting the National Bank Act of 1863 to allow banks to trade and deal in derivatives, potentially complex and risky financial instruments once famously characterized by Warren Buffet as “financial weapons of mass destruction.”
She argues that the OCC’s actions “served to undermine the integrity and efficacy of the U.S. system of bank regulation.”
It’s not just that the derivatives market is largely blamed for the last crisis. Many don’t appreciate the sheer scale of the derivatives markets, which are more than seven times the size of equity markets. At the end of 2019, global equity markets were worth $94 trillion (source: WFE). By comparison, the derivatives market was $665 trillion if you include both over the counter (OTC) and exchange-traded. But it’s the OTC market where the most significant risks lie at $559 trillion (source: BIS).
The same risk?
The U.S. approached contrasts with other jurisdictions. For example, in Germany, banks have to apply to regulator BaFin for a digital asset custody license.
Regulators are fond of the notion “same risk, same regulation”. Is the risk of custodying digital assets the same as safe keeping physical assets in a vault? With the exception of cold wallets, which are not online, insurers don’t behave as if it is.