US bank regulators are “allergic” to the idea of letting crypto intermediaries operate as banks, preventing them from providing better consumer protections and financial stability, Custodia Bank CEO Caitlin Long said as she reveals a new turn in its ongoing lawsuit against the Federal Reserve.
Custodia is “totally committed” to comply with all the requirements of becoming a federally regulated Fed member bank, Long said, “but what’s fascinating is that bank regulators and the SEC just have been allergic to this whole concept of having banks or broker dealers be involved.”
Custodia applied to become a Fed-supervised bank two and a half years ago but the process that typically takes five days to complete has still not come to an end. The crypto firm challenged the regulator, accusing the Fed of “slow-walking” and having a “black-box process”.
Speaking at the DC Fintech Week 2022, in Washington, DC, Long announced that its legal battle against the Fed is going to take a new turn after it learned that BNY Mellon announced the launch of crypto custody services earlier that day.
BNY is the world’s largest custodian bank and is supervised by the Fed. The move will allow the bank to bridge digital and traditional asset custody, something Custodia has been seeking to do for more than two years should it get the Fed’s nod.
The announcement follows court filings made by the Fed last week, which argue that interconnectivity between state-licensed crypto banks, such as Custodia, and traditional banks could pose a risk to the financial system.
Long said that the interesting question raised by its intervention is that “the Federal Reserve filed filings last week talking about the risks to the traditional financial system from crypto and then today a Federal Reserve-supervised holding company enters crypto".
“We have been waiting for two and a half years to do that and look what the Fed actually said last week versus what it did today,” she pointed out.
The main federal financial regulators have repeatedly raised their worries about financial stability risks related to crypto-traditional finance (TradFi) interconnections. Just last week, the Financial Stability Oversight Council (FSOC) outlined its concerns in its digital asset report.
Then, a couple of hours before Long’s announcement, Michael Hsu, acting comptroller of the currency and member of the FSOC, told the audience that integrating the yet “immature crypto industry with a mature TradFi system without guardrails and gates would be imprudent”.
But the Custodia CEO argues that by not letting crypto intermediaries operate under the banking regulatory structure they may actually reduce consumer protection.
That is because crypto intermediaries that are licensed as money transmitters go through the US bankruptcy code when they go down. Banks and broker dealers, on the other hand, have special receiver regimes.
The difference between the protections provided by the two regimes for consumers became palpable last week, when Celsius doxxed all of its users.
Crypto lender Celsius went bankrupt during what is now described as “the crypto winter” and was required to hand over financial details of its users as part of the standard bankruptcy procedure applicable to money transmitters.
The filings revealed wallet addresses, transaction histories, crypto holdings, recent transactions and other information of about 600,000 of its users.
“If that had been a bank or broker-dealer, the consumer privacy would have been protected,” Long pointed out.
“If we actually had banks and broker-dealers that were supervised a lot of what happened in the crypto crash would not have happened and to those [600,000] people,” she emphasised.
“We want this industry to be inside banks and broker dealers for the special receivership regime among other things,” Long stressed, adding that “I am putting my money and time where my mouth is in building a bank that can actually fit within the existing legal and regulatory structure to bring this in in a safe and sound manner”.