US Banking Regulators Warn Banks About Crypto Liquidity Risks

The Federal Reserve and other U.S. banking agencies are warning banks that crypto poses significant liquidity dangers, according to a joint statement issued Thursday, further reinforcing their campaign to generally steer lenders away from digital assets.

While the agencies – which also included the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corp. – insist that it’s not illegal for U.S. banks to engage in cryptocurrency activities, this latest in a series of formal cautionary statements makes it clear that any lender dabbling in crypto will have a lot of explaining to do to its regulators.

The agencies’ joint statement points out that crypto firms’ bank deposits could be unstable and driven by “crypto-asset sector dynamics,” even if the company itself is stable.

“Such deposits can be susceptible to large and rapid inflows as well as outflows, when end customers react to crypto-asset-sector-related market events, media reports, and uncertainty,” the regulators said, also specifically flagging stablecoin reserves deposited at banks, which they said can be volatile during “unanticipated stablecoin redemptions or dislocations in crypto-asset markets.”

The U.S. regulators had already formally warned the banking industry about significant involvement in virtual currencies and contend that banks that rely on crypto activity as a significant portion of their business would draw heightened scrutiny over safety-and-soundness concerns. Thursday’s statement reminded the banks that such concentration is on the agencies’ minds.

“When a banking organization’s deposit funding base is concentrated in crypto-asset-related entities that are highly interconnected or share similar risk profiles, deposit fluctuations may also be correlated, and liquidity risk therefore may be further heightened,” it said.

The regulators are advising the banks they oversee to monitor and assess risk if they are engaged in crypto activity.

“This is the right step to provide more clarity to banking organizations and protect people’s hard-earned money as we continue to consider a comprehensive regulatory framework for digital assets,” Sen. Sherrod Brown (D-Ohio), chairman of the Senate Banking Committee, said in a statement responding to the regulators' warning.

Read More: Crypto's Banking Problem: Industry Needs Access but US Regulators Keep Digital Assets at Bay

UPDATE (Feb. 23, 2023, 17:51 UTC): Adds comment from Sen. Sherrod Brown.