Crypto’s winners and losers after a bank run

by · March 16, 2023

With help from Mohar Chatterjee and Derek Robertson

We are now a week into the turmoil which forced central banks and regulators on both sides of the Atlantic to prop up their financial sectors.

For once, the big financial distress headlines (for the most part) don’t include the word crypto. But if you look closely, the shake-up has already had all sorts of implications for the future of digitally native money.

Crypto is often held up as an alternative to the traditional financial system, but in reality is still intertwined with it in every possible way, as this week’s events served to remind.

So far, some forms of digital money have fared far better than others.

The smoke may still be clearing from the smoldering ruins of Silicon Valley Bank, and the financial world is still sorting itself out, but it’s not too early to declare some preliminary winners and losers.

Here are five whose fortunes are worth watching:

LOSER

The US crypto industry —

First, the industry is running out of crypto-friendly US banks.

Last Wednesday, on the same day that SVB revealed its shaky financial situation, the long-standing and crypto-focused Silvergate Capital threw in the towel and announced it was winding down.

On Sunday, two days after federal regulators took over SVB, banking regulators in New York shut down crypto-friendly Signature Bank (which counted former Massachusetts Democratic representative Barney Frank, an architect of 2010’s Dodd-Frank financial reformers, as a board member).

They can become even scarcer.

The consensus so far is that the financial system has been largely insulated from the crypto meltdown. Now that the banking system is coming under stress, the potential for crypto customers to create volatility in a bank’s deposit levels – by flooding them with cash in a crypto boom and quickly withdrawing deposits in a crypto crash – is likely to attract renewed scrutiny.

The screws may already be tightened: In a story published this morning, two unnamed sources told Reuters that any bank interested in buying Signature Bank — a process overseen by the FDIC — would have to agree to drop crypto industry clients as a condition of any purchase . After publication, however, an FDIC representative disputed this claim, saying no such condition existed.

Circle — One depositor with exposure to Silicon Valley Bank, worth $3.3 billion, was Boston-based stablecoin provider Circle.

For months, the fear has been that “Crypto contagion” would spread from shady digital assets to the regulated financial sector.

The events of the past week will do little to quell such fears. But in Circle’s case, the contagion spread backwards.

The failure of a regulated US bank rocked a supposedly stable crypto token, which broke its peg and fell as low as 88 cents on Saturday. Circle has since regained its dollar peg, but it has seen $6 billion in outflows in the past week, according to data from CoinMarketCap.

So, depending on the day, crypto’s problem is either that it is getting harder to access US-regulated banks or that it has gained access to them and is now vulnerable to their failures.

THROW UP

A digital dollar —

Yesterday, the Federal Reserve announced a July launch of its FedNOW instant payment system, which is designed to let users send payments between bank accounts at the speed of a Venmo or CashApp transaction.

On the one hand, this upgrade can relieve the pressure for a more comprehensive overhaul in the form of a digital central bank currency.

But few things are as urgent as a bank run.

To date, most of the focus in the US has been on designing a wholesale CBDC for use between banks. That’s partly because many commercial banks don’t like the idea of ​​a retail CBDC. It could offer depositors a way to bypass them and deal directly with the Fed. It can also, as some banks claim, create cyber security and privacy risks.

But as depositors weigh the risks of uninsured bank deposits, some commentators cite the appeal of a retail CBDC that would allow people to store money directly with the Fed.

WINNERS
tether
Bitcoin Maximalists —

Bitcoin’s price has risen about 20 percent in the past week. It was invented in the wake of the global financial crisis as a critique-cum-computer code of the banking system’s relationship with governments.

Its biggest believers, known as “Bitcoin Maximalists”, aren’t fans of the rest of crypto either. They argue that most crypto firms that act as intermediaries between people and digital assets are replicating the failures of the existing financial system, and that both are doomed.

So as intermediaries in both crypto and traditional finance merge, putting deposits at risk, the kind of people who say “not your keys, not your coins” start to sound a little more prescient. And the digital equivalent of stuffing cash under the mattress is starting to look a little less eccentric.

Tether –

Stablecoin’s “bad boy” is at it again.

Two years ago, Businessweek devoted an entire front page story to enduring questions about what assets, exactly, support this token at the heart of cryptofinance.

Earlier this month, the Wall Street Journal reported that companies behind Tether had forged documents to obtain bank accounts, a claim the stablecoin issuer disputed.

So the turmoil in the markets should shake confidence in Tether particularly hard. Right?

Not exactly.

The good news for Tether at the moment is its limited exposure to US regulators and US banks.

The last time we checked in with the US stablecoin industry, a month ago, government regulators had halted the minting of new Binance-branded stablecoins by New York-based issuer Paxos. That led to $2 billion in inflows into Hong Kong-based Tether in less than two weeks.

This time, when Circle’s dollar peg broke, money poured into the offshore competitor, worth $3 billion in a single day, according to CoinMarketCap, bringing its market cap to roughly $74 billion, where it still stands at press time after several days of choppiness. .

At one point, Tether was trading at a premium to the dollar. People paid more than one actual dollar — $1.03 on Saturday — to access an off-shore, blockchain-based synthetic dollar that has consistently faced doubts about whether it has enough backing to make all token holders whole.

At this rate, Tether may have to change its name to Teflon.

Hot on the heels of GPT 4 release are some pretty big labor economics questions: Namely, what does widespread access to an AI capable of (at least) sophisticated language generation mean for the work of the future?

That’s the question a panel of technology economists grappled with a virtual public event hosted yesterday by the Brookings Center on Regulation and Markets and the AI, Analytics, and the Future of Work Initiative at Georgetown University. Guests included Susan Athey, professor at the Stanford Graduate School of Business. Formerly Microsoft’s chief economist, Athey currently holds the same role on the DOJ’s antitrust team.

That they were clear that generative AI’s human-like content generation capabilities could be attributed to very large language models becoming real, actually good at pattern recognition. She said that part of what feels “magical” about these very large models is their ability to become “contextual” — like taking into account a specific writing style while generating an output. And that’s partly because of the breadth of data these models have been fed and the astonishing size of these models.

“We have this big black box foundational model that does pattern recognition incredibly well. But it’s not very easy to come in and tweak something. This thing works at scale precisely because it’s a general thing,” Athey said. It’s when you connect other technologies (like the internet or custom databases) to generative AI models that things get interesting. Referring to Bing’s GPT4-powered search engine, Athey said using “pattern recognition along with other technologies” (eg making a function call to check if Bing’s search results in response to a message refer to real articles) is how convenient and powerful use cases will appear.

On a more immediate time scale, however, Anton Korinek points to a new skill for workers to acquire: rapid engineering. Korinek is an economics professor at the University of Virginia and head of the economics of AI at the Center for Governance of AI. He called prompt engineering “basically natural language programming” — a skill that will determine the quality of the output people are able to coax out of these generative AI systems. In the short term, Korinek sees large language models as “very useful” for automating “micro-tasks.” — Mohar Chatterjee

It is taken as a given in some corners of Silicon Valley that Washington is forever out to get them—out to stifle the protean, dynamic force of innovation that has fueled the digital revolution of the past few decades.

In the wake of one of the industry’s biggest ever financial crises? Not so much. POLITICO’s Brendan Bordelon reported this week about how the “techlash” was decidedly muted in the wake of the Silicon Valley Bank collapse, with pretty much everyone agreeing on a common interest in making sure the bank’s depositors were made whole.

“This sort of David-and-Goliath adversarial relationship that I think some of these tech moguls will instigate [with Washington] – that’s not how it works, says Margaret O’Mara, head of American history at the University of Washington and an expert on the interaction between politics and technology, to Brendan. “That is not how it has worked in practice, and that is not what is happening today.”

Still, the federal government’s swift action against SVB hasn’t exactly quelled the sector’s complaints of persecution. It has only shifted the targets: some claim that the “bailout” itself was aimed at kill the crypto industryand a renewed one wave of rage at the Federal Reserve to raise interest rates. -Derek Robertson