‘Payment Stablecoins’ Could Lead to ‘Disintermediation of Traditional Banks’, Says Acting FDIC Chair

‘Payment Stablecoins’ Could Lead to ‘Disintermediation of Traditional Banks’, Says Acting FDIC Chair

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In a recent speech, Martin J. Gruenberg, who has been the Acting Chairman of the Federal Deposit Insurance Corporation (FDIC) Board of Directors since 5 February 2022, shared his thoughts on “the prudential regulation of crypto–assets.”

Here is how Wikipedia describes the FDIC:

The Federal Deposit Insurance Corporation (FDIC) is one of two agencies that supply deposit insurance to depositors in American depository institutions, the other being the National Credit Union Administration, which regulates and insures credit unions. The FDIC is a United States government corporation supplying deposit insurance to depositors in American commercial banks and savings banks. The FDIC was created by the 1933 Banking Act, enacted during the Great Depression to restore trust in the American banking system.

Gruenberg made his comments about “payment stablecoins” on 20 October 2022 during a speech titled “The Prudential Regulation of Crypto-Assets” given at the Brookings Institution:

Unlike Bitcoin, Ether, and similar crypto–assets, most stablecoins are represented as backed by a pool of assets or utilize other methods to help maintain a stable value. Currently, the most prominent stablecoins are purported to be backed by financial assets such as currencies, U.S. Treasury securities, or commercial paper…

Like the concept of money market mutual funds, many types of stablecoins seek to maintain a stable value of one dollar (or other unit of fiat currency) per coin either through the backing by a pool of assets, which could include other digital assets, or through the use of an algorithmic mechanism as a value stabilization mechanism. Of course, what is represented and what is true may be two different things…

Even if crypto–assets and stablecoins have not yet proven to be a meaningful or reliable source of payments in the real economy, the distributed ledger technology upon which they are built may prove to have meaningful applications and public utility within the payments system…

There has been considerable discussion and public debate regarding the benefits and risks associated with the development of a payment stablecoin for both domestic and international cross–border payment purposes that is subject to prudential regulation…

The main benefit given for the development of a payment stablecoin is the ability to offer cost–effective, real–time, around–the–clock retail and business payments. On the domestic level, this is similar to the benefits proposed by the Federal Reserve’s FedNow system that is scheduled to come online in the coming year. The extent to which a payment stablecoin would provide additive or complementary benefits to the FedNow system remains to be seen…

Nonetheless, there may be merit in continuing to examine the potential benefits associated with payment stablecoins. To be clear, I see the notion of payment stablecoins as conceptually distinct and separate from the existing broader universe of stablecoins and designed specifically as an instrument to satisfy the consumer and business need for safe, efficient, cost–effective, real–time payments…

There are three important features that could make payment stablecoins significantly safer than the stablecoins currently in the marketplace…

First, payment stablecoins would be safer if they were subject to prudential regulation. One vehicle for ensuring prudential regulation and separation from deposit taking would be the issuance of a payment stablecoin through a bank subsidiary…

Second, payment stablecoins would be safer if they were required to be backed dollar–for–dollar by high–quality, short–dated U.S. Treasury assets. Backing with such high–quality assets would help ensure that payment stablecoins could be quickly and efficiently redeemed for fiat currency on a dollar–for–dollar basis limiting the potential for risks associated with these instruments to spillover to the traditional financial system...

Third, payment stablecoins would be safer if they were transacted on permissioned ledger systems with a robust governance and compliance mechanisms…

While these three features would make payment stablecoins safer, there remain several important policy considerations that should be taken into account when examining the benefits and risks associated with payment stablecoins…

The development of a payment stablecoin could fundamentally alter the landscape of banking. Economies of scale associated with payment stablecoins could lead to further consolidation in the banking system or disintermediation of traditional banks.

And the network effects associated with payment stablecoins could alter the manner in which credit is extended within the banking system – for example by facilitating greater use of FinTech and non–bank lending – and possibly leading to forms of credit disintermediation that could harm the viability of many U.S. banks and potentially create a foundation for a new type of shadow banking...

When we consider where payment stablecoins should fit into the regulatory landscape, we must also consider the manner and extent to which states should charter stablecoin issuers or license them as money transmitters. Many states have invested considerable time and effort into understanding the risks associated with crypto–assets and stablecoins…

All payment stablecoin issuers should – just like banks, whether Federal or state chartered, be subject to prudential regulation and oversight. As I mentioned, the potential for non–bank stablecoins to disintermediate community banks from their local communities is an issue that should also be carefully explored and considered…

Payment stablecoins by their very design could exhibit many of the features, and potential vulnerabilities, associated with money market mutual funds. As we have seen previously, in stressed market conditions, large investors could quickly exit their holdings, leading to the fire–sale pricing of underlying securities and panic selling by other investors. This could result in contagion across other payment stablecoins and similar pooled asset holdings, resulting in a systemic event…

Careful attention should also be paid to disclosure and consumer protection issues. While the fundamental premise of payment stablecoins is that they may be safer and easier to understand than more complex crypto–assets, the interface with retail businesses will pose new questions and challenges, as both consumers and businesses adjust to a new form of payments and its associated rights and obligations…

The disclosure and consumer protection issues will also need to be carefully considered, especially if custodial wallets are allowed outside of the banking system as a means for holding and conducting transactions with payment stablecoins. It is uncertain whether and to what extent such wallets would or should be subject to prudential supervision.

Consideration must be given to the ability of a payment stablecoin to foster a more inclusive and accessible banking system. A payment stablecoin and any associated hosted or custodial wallets should be designed in a manner that eliminates – not creates – barriers for low– and moderate–income households to benefit from a real–time payment system…

As I previously indicated, another important policy consideration should be how a payment system that is based on the use of payment stablecoins would appropriately interact with the Federal Reserve’s upcoming FedNow service, as well as the potential development of a U.S. central bank digital currency…

The Federal banking agencies have a significant breadth of authority when it comes to addressing the safety and soundness and financial stability risks associated with crypto–asset–related activities, including perhaps payment stablecoin issuance, by our regulated entities…

However, there are clear limits to our authority, especially in certain areas of consumer protection as well as the provision of wallets and other related services by non–bank entities. We must consider the extent to which legislation would be necessary to provide a cohesive framework to prudentially regulate a payment stablecoin system from “end–to–end” and to ensure that consumers are appropriately protected in the process.

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