Heightened Scrutiny: Federal Banking Agencies Issue Joint Statement Highlighting Key Crypto Risks

On January 3, 2023, the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation (FDIC), and the Office of the Comptroller of the Currency (OCC) (collectively, the “Agencies”) issued a joint statement that reiterates certain aspects of prior crypto-asset-related guidance and highlights risks to banking organizations (the “Joint Statement”). The Joint Statement signals that the Agencies will take an increasingly cautious approach to reviewing crypto-asset activities and business models of banking organizations to ensure that “risks related to the crypto-asset sector that cannot be mitigated or controlled do not migrate to the banking system.”[1]

The Joint Statement identifies eight key risks for banking organizations associated with crypto-assets[2] and the crypto-asset sector. These key risks include:

• Risk of fraud and scams among crypto-asset sector participants.
• Legal uncertainties related to custody practices, redemptions, and ownership rights, some of which are currently the subject of legal processes and proceedings.
• Inaccurate or misleading representations and disclosures by crypto-asset companies, including misrepresentations regarding federal deposit insurance, and other practices that may be unfair, deceptive, or abusive, contributing to significant harm to retail and institutional investors, customers, and counterparties.
• Significant volatility in crypto-asset markets, the effects of which include potential impacts on deposit flows associated with crypto-asset companies.
• Susceptibility of stablecoins to run risk, creating potential deposit outflows for banking organizations that hold stablecoin reserves.
• Contagion risk within the crypto-asset sector resulting from interconnections among certain crypto-asset participants, including through opaque lending, investing, funding, service, and operational arrangements. These interconnections may also present concentration risks for banking organizations with exposures to the crypto-asset sector.
• Risk management and governance practices in the crypto-asset sector exhibiting a lack of maturity and robustness.
• Heightened risks associated with open, public, and/or decentralized networks, or similar systems, including, but not limited to, the lack of governance mechanisms establishing oversight of the system; the absence of contracts or standards to clearly establish roles, responsibilities, and liabilities; and vulnerabilities related to cyber-attacks, outages, lost or trapped assets, and illicit finance.

The Joint Statement makes explicit that the Agencies are neither prohibiting nor discouraging banking services of any specific class or type, provided the services are permitted by law. The Agencies are continuing to assess current and proposed crypto-asset-related activities by banking organizations to determine how such activities can be conducted in a manner that adequately addresses safety and soundness, consumer protection, legal permissibility, and compliance with applicable law. The Joint Statement includes a specific warning that “issuing or holding as principal crypto-assets that are issued, stored, or transferred on an open, public, and/or decentralized network, or similar system is highly likely to be inconsistent with safe and sound banking practices.”  In addition, the Agencies warn that they have “significant safety and soundness concerns with business models that are concentrated in crypto-asset-related activities or have concentrated exposures to the crypto-asset sector.” The Joint Statement does not define what level of concentration in crypto-asset-related activities would give rise to safety and soundness concerns.

If you have questions regarding the Joint Statement, or any of the topics addressed in the Joint Statement, please feel free to reach out to any of the authors of this alert.

[1] Joint Statement on Crypto-Asset Risks to Banking Organizations, Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, and the Office of the Comptroller of the Currency (January 3, 2023).

The Joint Statement follows other actions taken by the Agencies. See OCC Interpretive Letter 1179 “Chief Counsel’s Interpretation Clarifying: (1) Authority of a Bank to Engage in Certain Cryptocurrency Activities; and (2) Authority of the OCC to Charter a National Trust Bank,” (November 18, 2021); Federal Reserve Board SR 22-6 / CA 22-6: “Engagement in Crypto-Asset-Related Activities by Federal Reserve-Supervised Banking Organizations,” (August 16, 2022); and FDIC FIL-16-2022 “Notification and Supervisory Feedback Procedures for FDIC-Supervised Institutions Engaging in Crypto-Related Activities,” (April 7, 2022).

[2] The Joint Statement defines a “crypto-asset” as “any digital asset implemented using cryptographic techniques.”