In 2023, the Federal Deposit Insurance Corporation (FDIC) unveiled their annual Risk Review. In the comprehensive report, the federal agency examined new and emerging threats to the stability and security of the US banking system. The most notable development is the new category of risks arising from the rapidly developing field of cryptocurrencies and their impact on institutions that fall under federal regulation.
Introduction to Crypto market turbulence
The year 2022 was marked by considerable turbulence in the crypto-asset sector, a fact that the FDIC was quick to highlight. Yet, the report also noted a corresponding surge in interest and involvement in the crypto space by a number of banks during this period. While charting its own progression and role in the industry, the FDIC identified several key risk areas, including fraud, regulatory uncertainties, misleading marketing practices, underdeveloped risk management approaches, and significant vulnerabilities in crypto trading platforms.
Reflections on Crypto Market Volatility in 2022
“The challenge in accurately assessing these risks is compounded by the highly fluid nature of cryptocurrencies, the expansive crypto marketplace, and the incredible pace of innovation in this space.”
The FDIC played an active role in the crypto sphere in 2022, issuing the Financial Institution Letter (FIL), a formal request for FDIC-supervised institutions to openly disclose their involvement in crypto-related activities.
In an effort to clarify the laws around deposit insurance, the FDIC also enacted a new rule in May 2022. Shortly after, the corporation opened up a dialogue with FDIC-insured institutions about their associations with crypto companies, and the resulting implications for deposit insurance.
Regulatory Stringency in Absence of a Coherent Framework
The FDIC’s vigilant stance against the misrepresentation and deceitful practices increasingly seen in the crypto sphere is well-documented. The agency pursued action against more than 85 entities for making assertions related to deposit insurance availability that were misleading in 2022. In a single instance, the FDIC issued cease and desist orders to five firms that falsely advertised their crypto-assets as FDIC-insured.
But merely identifying risks isn’t enough to curb the challenges in the burgeoning crypto industry. There’s an increasingly urgent need for an overarching framework of regulation.
A significant step towards this was the approval of the Financial Innovation and Technology for the 21st Century Act (FIT Act) and the Blockchain Regulatory Certainty Act by the House Financial Services Committee. However, despite this progress, the US is yet to implement comprehensive regulation of the crypto space.
In parallel, the US Federal Reserve has embarked on an initiative to better manage the risks associated with banks’ engagement with cryptocurrencies. However, it seems to have overlooked the brewing financial crisis within the banking industry in the United States.
Rating agencies like Moody’s have raised red flags over large banks for being exposed to funding risks. Moody’s recent downgrade of ten small to mid-sized US banks signifies a looming banking crisis in the country.
The burgeoning field of fintech is undergoing rapid evolution, and both regulators and the US banking system must adapt to better manage the risks and innovation this brings.