Guest Opinion: The crypto bros are fast becoming unbankable

Regulators have been warning for some time of the myriad crypto risks seeping into the mainstream banking system, comparing them directly to the $1.3 trillion subprime mortgage market that incentivized greed, exploited regulatory arbitrage and eventually led to the 2008 economic meltdown. A first warning shot fired by banking watchdogs in a joint declaration in January, weeks after the epic collapse of FTX battered crypto markets, promised more scrutiny over issues including unstable deposit flows, poor legal compliance, concentration and counterparty risk.

The past week’s events showed they were right to worry. The first domino to topple, Silvergate Capital Corp., shows some lenders were recklessly chasing growth where bigger rivals feared to tread. Like Signature, it offered a popular on- and off-ramp between fiat and crypto payments, which had accumulated $11.9 billion in digital deposits by September. But those customers ended up being fair-weather friends when the post-FTX meltdown hit and regulatory scrutiny rose, and they yanked their deposits — tipping the bank into liquidation.

Signature might have met the same fate: It too had made a costly expansion in crypto, faced hot water over FTX’s use of its Signet payments ramp, and its exposure to flighty crypto deposits was set to drop by $3 to $5 billion this year. Heading into the weekend, deposits were already flying out the door, according to the New York Times. The swiftness with which regulators stepped in looks like an explicit bid to avoid another crypto-related blowup — and sends a signal to the crypto industry. Suddenly all sorts of players have had to adjust to life without their usual banking partners: Coinbase Global Inc., the U.S.’s biggest crypto exchange, says it had a $240 million balance at Signature, while ex-Binance partner Paxos Global had $250 million.

The common thread here is that crypto is a “new element,” destabilizing finance and effectively accelerating and multiplying bank runs, that wasn’t there in 2008, as Signature board member Barney Frank told Bloomberg News. It even had a role to play in Silicon Valley Bank’s collapse, alongside broader issues such as concentration risk within the venture capital community and badly managed interest-rate risk. When stablecoin customer Circle tried to unsuccessfully yank $3.3 billion in cash from SVB on Thursday, the spillover effects hit broader crypto markets. Notable crypto cheerleader Peter Thiel, who was a victim of Silvergate’s bank run, was quick to warn his portfolio companies of a similar risk brewing at SVB.

The upshot of regulatory intervention is that, as Bloomberg Intelligence analyst Herman Chan puts it, crypto companies are now being disenfranchised from the U.S. banking system. “There’s a desire to reduce risk in the system,” he says. “The crypto winter reinforces that.” After a pandemic peak in enthusiasm for dragging crypto onshore in America, the huddled masses clutching their virtual tokens are now having to dig deep to find new banking partners — or go abroad to light-touch havens such as the Bahamas. Even as banking giant HSBC Holdings Plc takes over SVB’s UK operations, it’s hard to imagine bulge-bracket banks chomping at the bit to bank crypto firms right now.

There’s no guarantee other jurisdictions will be always as welcoming. Clearly, some crypto investors are comfortable with life in the shadows: Bitcoin’s price has bounced back from weekend jitters, and stablecoin Tether — which has been cagey about its reserves — also got a fillip. But this looks like more evidence that crypto is currently losing a battle with authorities who feel they’ve already been outpaced on several fintech fronts, and are now trying to stuff as much of the genie back in the bottle as they can. Crypto hasn’t yet caused a real-world economic meltdown — but regulators are right not to let this crisis go to waste.