US Crypto Clampdown Continues as Fed Guts Custodia Bank Application

Crypto’s existential moment continues, as U.S. regulators can’t get past “fundamental concerns” with the sector.

This, as an order published last Friday (March 24), decisively unpacked the federal reserve’s rationale for earlier rejecting crypto-focused Custodia Bank’s application to become a member of the Federal Reserve System, effectively dashing lingering industry hopes that Custodia might serve as a qualified and regulated on-ramp to the traditional financial sector.

“At this time, Custodia has been unable to demonstrate that it could conduct an undiversified business focused on crypto-asset-related activities in a safe and sound manner and in compliance with BSA and Office of Foreign Assets Control (“OFAC”) requirements,” the Fed’s 86-page order states.

The extensive response by the banking overseer cited a laundry list of “fundamental concerns” with Custodia’s proposal to become “a compliant bridge” between the U.S. dollar payment system and the crypto-asset ecosystem.

“The business model that Custodia has proposed — that is, an uninsured, undiversified, crypto-asset-focused business model featuring a number of novel and untested activities posing heightened risks — is inconsistent with approval,” said the U.S. central bank’s Board of Governors.

Read More: White House Economic Report Shifts Stance on Crypto From Neutral to Negative

Broader Doubts About Crypto’s Value and Viability Are Growing

As reported by PYMNTS, the most recent “Economic Report of the President” devoted 35, widely negative, pages to cryptocurrency — underscoring how the current administration’s perspective on the digital asset industry has begun to dim considerably.

“Crypto assets to date do not appear to offer investments with any fundamental value, nor do they act as an effective alternative to fiat money, improve financial inclusion, or make payments more efficient … and many of them have no fundamental value,” the White House paper stated.

Echoing that point of view, the Fed’s order rejecting Custodia Bank similarly went on to emphasize that “The Financial Stability Oversight Council (FSOC) has observed that the value of most crypto-assets is driven in large part by speculation and sentiment, and is not anchored to a clear economic use case.”

Even non-banking vendors critical to the digital asset marketplace are piling onto the doubts surrounding its alleged utility.

The chief technology officer of U.S. chipmaker Nvidia, Michael Kagan, recently told The Guardian that crypto does not “bring anything useful for society,” adding, “I never believed that [crypto] is something that will do something good for humanity. You know, people do crazy things, but they buy your stuff, you sell them stuff. But you don’t redirect the company to support whatever it is.”

Nvidia’s powerful processors are popular among crypto miners minting digital assets through proof-of-work protocols. Still, the chipmaker prefers that its computing products be used for artificial intelligence (AI) applications, not crypto. Per the report, the first version of ChatGPT was trained on a supercomputer using around 10,000 Nvidia graphics cards.

Read More: Is Regulation Friend Or Foe For Blockchain?

Why Crypto Can’t Bank On Being Banked

Custodia’s proposed revenue and funding model relies almost solely upon an active and vibrant market for crypto-assets, and the state-chartered Wyoming special purpose depository institution (SPDI) had been pushing a new banking model that makes money on fees, not by investing deposits.

In its lengthy response, the Fed detailed why a crypto-focused banking model poses serious safety and soundness risk to the U.S. financial system and needs to be kept out of it.

“In general, the Board has heightened concerns about banks with business plans focused on a narrow sector of the economy,” the Fed’s board of governors wrote in their order, adding that Custodia’s overall risk management systems and controls were found to be seriously lacking — particularly those relating to compliance with the Bank Secrecy Act and U.S. sanctions; information technology; internal audit; financial projections; and liquidity risk management practices.

Custodia Bank, for its part, plans to sue to “vindicate its rights and compel the Fed to comply with the law.”

“The recently released Fed order is the result of numerous procedural abnormalities, factual inaccuracies that the Fed refused to correct, and general bias against digital assets… Perhaps more attention to areas of real risk would have prevented the bank closures that Custodia was created to avoid,” the crypto-hopeful wrote in a Friday (March 24) press release responding to the Fed’s decision.

“The Federal Reserve took its eye off the ball and allowed bank-run risks to build at traditional banks — while simultaneously engaging in a crackdown against the digital asset industry at large,” Custodia wrote.