Why the Fed will require banks to report crypto activity

The US Federal Reserve (Fed) issued a letter regarding banking institutions that engage in crypto-related activity and potentially adopt digital assets. The financial institution argued that the nascent asset class “poses a risk” to the current financial system and to consumers investing capital in the sector.

In that sense, the Fed wants all US banks and financial institutions under their supervision to notify them of activities or if they wish to engage in crypto-related activities. The financial institution, like many other lawmakers, regulators and senior officials in the US government, claims that digital assets have a number of potential vulnerabilities.

The Fed claims that the underlying technology that powers crypto is “nascent and evolving” and could pose a “new risk” in matters related to cybersecurity. In addition, the financial institution argued that cryptocurrencies are a tool that allegedly facilitates money laundering and illegal financing.

On the latter, the Fed failed to provide calculations to support their claims. Other senior US government officials and the US Treasury Department recently acknowledged that most digital asset activity is “lawful”.

Despite these statements, the US government has continued to target the nascent asset class. The main reasons relate to consumer protection and legal compliance, including price volatility, fraud and loss of assets.

For banking institutions that engage in crypto-related activities, the risks may be greater as they may face “legislative and consumer compliance risks” from regulatory uncertainty regarding certain crypto assets and potential lawsuits from loss of capital. The sector has seen many of the latter in recent months as major cryptocurrencies have declined.

However, the same risk can be attributed to all companies or entities operating in the legacy financial system. The Fed’s main concerns appear to be related to the potential for digital assets to disrupt the system if “adopted at scale”.

Is crypto a risk to the entire financial system?

In this respect, the financial institution claims that it will monitor activity in the sector and activity related to banking institutions under their supervision. Fed said:

(…) A Federal Reserve-supervised banking organization that engages in, or seeks to engage in, crypto-asset-related activities should notify its lead supervisory point of contact at the Federal Reserve. (…) before engaging in crypto-asset-related activity, a supervised banking organization must ensure that such activity is legally permitted and determine whether any filings are required under applicable federal or state laws.

Banking institutions already engaged in crypto-related activity should, the Fed said, notify and put in place a system to mitigate the alleged aforementioned risks. This includes compliance with the Bank Secrecy Act, Anti Money Laundering and sanctions imposed by US authorities.