Crypto’s banking problem is not ironic

The institution of personal banking is incredibly powerful.

You don’t even need to read a research report or a harrowing personal account to prove it. Instead, you can just pretend that all your bank accounts are frozen. Your credit cards don’t work either.

This article is taken from The Node, CoinDesk’s daily roundup of the top stories in blockchain and crypto news. You can subscribe to get the whole newsletter here.

Well, hopefully you have a lot of money under your mattress. Or you have bitcoin and live near enough places that actually participate Bitcoin circular economy. Maybe you live in Argentina and you can use a crypto dollar stablecoin as a tether because your sovereign currency has failed you since the 1980s.

Otherwise, you’re in a tough spot.

The low-hanging fruit here is a clear call to action: We need more of these circular crypto-economies. Communities, counties, states, entire countries – an example is El Salvador’s Bitcoin Beach – operating completely separate from the old banking system.

But while these circular economies continue to expand, banking and crypto remain closely linked. Just look at last week’s news dominated by Silvergate Bank running into a brick wall of trouble that saw its stock ( SI ) lose over 50% of its value on Thursday.

Silvergate is the bank for many crypto businesses that tend to have trouble maintaining banking relationships.

Silvergate opening the doors to crypto is seen as a critical time for crypto businesses, especially crypto exchanges. My colleague Daniel Kuhn highlighted as much in a piece published last week titled “Before Silvergate and After Silvergate” which borrows from a quote by now disgraced FTX founder Sam Bankman-Fried about how life was better for crypto companies with Silvergate in the fold.

If we look at crypto exchanges, Silvergate is so well liked because a) it provides access to banking in the first place and b) Silvergate operated the Silvergate Exchange Network (SEN). SEN, which was recently deactivated, allowed 24/7 instant settlement between Silvergate bank customers at any time, including nights and weekends. It worked much like how Venmo or CashApp settles debts between friends for late night ramen or pizza or whatever. Access to SEN attracted many crypto exchange clients, including Binance.US, Kraken and Gemini.

To be clear, the regulators and politicians did not actually say that crypto exchanges and companies should not be banked, but they injected uncertainty into the industry. And the funny thing about Silvergate is that it didn’t get into trouble because it gave loans with bitcoin and crypto as collateral. It ran into trouble because of a bank run. A bank drive encouraged by the US government.

This is where a good argument about the potentially harmful effects of Choke Point 2.0 comes in, to use CoinDesk columnist and venture capitalist Nic Carter’s phrase. I won’t dive into the intimate details of Choke Point 2.0 (basically the idea that the government can threaten regulation against banks if they serve certain companies or certain industries), but I want to tackle the banking problem that creates.

Silvergate’s troubles have made it somewhat obvious now that crypto actually has a banking problem. And most crypto critics see this and say: Crypto was made to undermine the banking system, it’s really funny that crypto needs banks to undermine the banking system.

Funny? Well maybe. But I’m not laughing.

First, banks and crypto can coexist (yes, even in a hyperbitcoinized world), and in my view they will and should. Just because the option to opt out of using a bank exists with bitcoin or any other crypto, it doesn’t mean that everyone will avoid banks entirely. In fact, honest banking can be a net positive.

Of course there will be (and is) a hardcore subset of self-absorbed individuals who fail third parties entirely, but there are billions of people in this world. Organizing these people is much easier with some reliance on third parties. The world that bitcoin and crypto can encourage is a world where these third parties are more honest. More honest banks in the business of keeping your money safe and giving responsible lenders access to future capital (ie credit) is better than less honest banks.

Hand waved, I know. But potentially true.

Finally, crypto companies needing banks to “fragment the banking system” highlights exactly why the banking system needs to be fragmented (or at least broken up). Imagine for a moment that there is an institution in a country so critically important that the simple threat of regulation against that institution to serve a client in an undesirable industry brings the undesirable industry to its knees. But no need for imagination: this is exactly what is happening in the United States. We now see an implicit promise of future regulation from the executive and legislative branches of the US government if the banks serving crypto companies do not shape up. Whatever that means.

While I don’t think this is a good thing, it can be if not exaggerated. If there is a higher barrier to bank access for crypto companies that leads to more thorough due diligence that somehow results in fewer bad companies in the ecosystem, ultimately retail will be safer and the system less sensitive to future crypto shocks.

Maybe that’s what’s happening. For now, I choose cautious optimism.