FDIC Issues RFI, Federal Regulators Signal Focus on Digital Assets

Practical Law Legal Update w-031-1200 (Approx. 9 pages)

FDIC Issues RFI, Federal Regulators Signal Focus on Digital Assets

by Practical Law Finance

FDIC Issues RFI on Bank Digital Asset Activities

On May 17, 2021, the FDIC issued a request for information (RFI) seeking information and comment regarding current and potential future digital asset activities and digital asset use cases involving insured depository institutions (IDIs) and their affiliates, as well as on risk and compliance management in conducting such digital asset activities. The letter applies to all FDIC-supervised financial institutions and their CEOs, chief risk officers, chief compliance officers (CCOs), and chief technology officers. The RFI states that the FDIC also welcomes comments about the digital-asset-related activities of uninsured banks and nonbanks. Comments to the RFI must be submitted by July 16, 2021.

IDIs and their affiliates may be involved in digital assets activities as:

Custodians.
Reserve holders.
Issuers.
Exchange or redemption agents.
Node operators.
Holders of money deposits relating to digital assets.

The FDIC invites comment on the following, as related to digital asset activities:

Current and potential use cases.
Risk and compliance management.
Supervision and activities.
Deposit insurance and resolution.
Any other digital asset-related information any stakeholder seeks to bring to the FDIC's attention.

According to the RFI, digital asset use cases and related activities may fall into one or more of the following broad categories:

Technology digital asset case solutions, which may involve closed and open payment systems, other token-based systems for banking activities other than payments (such as, lending), and acting as nodes on distributed ledgers and other networks.
Asset-based digital asset case activities, which involve facilities for investments, collateral, margin lending, and liquidity facilities.
Liability-based digital asset case activities, which involve deposit services and where deposits serve as digital asset reserves.
Custodial activities for digital assets, including safekeeping and related services, secondary lending, and acting as a qualified custodian on behalf of investment advisors.
Other digital asset activity that does not align with the cases identified above, including market making and decentralized financing (DeFi).

The FDIC's request also asks 17 specific questions grouped into the following five areas in the RFI:

Current and potential use.
Risk and compliance management.
Supervision and activities.
Deposit insurance and resolution.
Additional considerations.

Current and potential use. The FDIC seeks information regarding current and potential use cases of digital assets as well as related additional activities or alternative categories that market participants are currently engaged in or exploring, including:

Specific information on the scope and nature of services and to what extent market participants are engaging in or considering engaging in secondary lending.
Where institutions see the greatest demand for digital asset-related services and who are the drivers for such services.

Risk and compliance management. The FDIC seeks information regarding:

Whether existing risk and compliance-management frameworks are designed to identify, measure, monitor, and control risks associated with the various digital asset use cases.
Whether firms will have to develop entirely new or materially different risk and compliance frameworks.
Whether unique risks, controls or processes that could be implemented to address such risks.
Risks associated with legacy banking technology systems and integrating new technologies into existing cybersecurity functions.

Supervision and activities. The FDIC seeks information regarding:

Whether there are any unique aspects of digital asset activities that the FDIC should consider from a supervisory perspective and whether the FDIC should clarify or expand guidance.
Whether there is a need for change in regulations or the application filing procedures.
Whether there are ways in which custody of digital assets differs from custody of traditional assets.
Whether any changes to the FDIC’s procedures would be helpful in addressing any uncertainty surrounding the permissibility of IDIs engaging in particular types of digital asset-related activity.

Deposit insurance and resolution. The FDIC seeks information regarding:

Whether the FDIC should consider steps to address potential customer confusion between uninsured digital asset products and insured deposits.
Whether there are distinctions or similarities between fiat-backed stablecoins and stored-value products where pass-through deposit insurance may be available.
What complexities might be encountered in valuing, marketing, operating, or resolving digital asset activity in the resolution process or in a receivership capacity, and what actions should be considered to overcome the complexities.

Additional considerations. The RFI also seeks comment on:

Any other digital asset-related information that stakeholders feel should be brought to the FDIC’s attention.
The digital asset-related activities of uninsured banks and nonbanks.

Remarks on Digital Assets by Acting OCC Comptroller Hsu

On May 19, 2021, Acting Comptroller of the Currency Michael J. Hsu provided testimony to the US House Financial Services Committee on a variety of OCC-related topics, including what he described as the OCC’s approach toward digital asset activities. Acting Comptroller Hsu noted:

That the OCC has initiated a review of key regulatory standards and matters pending before the OCC including interpretative letters and guidance regarding cryptocurrencies and digital assets.
A concern that the regulatory community is taking a fragmented agency-by-agency approach to digital assets, just as agencies did in addressing trends in the 1990s and 2000s.
The OCC has initiated an updated framework for chartering national banks and trust companies while also interpreting crypto custody services as part of the business of banking (see Legal Updates, Current Developments in Digital Assets: January 12, 2021 and OCC Issues Proposed Rules on Bank Activities, Operations, and Digital Activities).
That notwithstanding the oversight and enhanced provisions the OCC requires, there is a need to address the concerns that:
- providing charters to fintechs will convey the benefits of banking without fintech's responsibilities to be safe, sound, and fair; and
- refusing to charter fintechs will encourage growth of another shadow banking system outside the reach of regulators.
That recognizing the OCC’s unique authority to grant charters, the OCC must:
- find a way to consider how fintechs and payments platforms fit into the banking system; and
- take that action in coordination with the FDIC, FRB, and the states.

Remarks on FRB Central Bank Digital Currency (CBDC) Activities

Remarks on CBDC by FRB Chair Powell

On May 20, 2021, FRB Chair Jerome H. Powell issued a press release and video outlining the FRB's response to technological advances driving rapid change in the global payments landscape. In those remarks, Chairman Powell noted:

The FRB is studying these developments and exploring ways that it might refine its role as a core payment-services provider and as the issuing authority for US currency.
The Federal Reserve System is focused on better understanding the full set of opportunities and risks associated with new digital payment mechanisms.
As the FRB explores the potential benefits and risks of CBDCs, the key focus is on whether and how a CBDC could improve on an already safe, effective, dynamic, and efficient US domestic payments system in its ability to serve the needs of households and businesses.
The FRB plans to publish this summer a discussion paper that will explore the implications of fast-evolving technology for digital payments that:
- will include a particular focus on the possibility of issuing a US CBDC; and
- will complement FRB system research that is already underway.

Remarks on CBDC by FRB Governor Brainard

On May 24, 2021, FRB Governor Lael Brainard delivered a speech at the 2021 Consensus blockchain conference, in which Governor Brainard:

Described policy factors as well as technological and market developments the FRB is considering with respect to CBDCs.
Noted an important early step by the FRB is its plan to publish a discussion paper for public comment to lay out the FRB's current thinking on digital payments.
Noted that a particular focus of the FRB will be on the benefits and risks associated with CBDCs in the US context.

According to Governor Brainard, the following four developments are sharpening the focus of the FRB on CBDCs:

Growing role of digital private money.
Migration to digital payment methods.
Plans for the use of foreign CBDCs in cross-border payments.
Concerns about financial exclusion.

In any assessment of a CBDC, Governor Brainard stated that it is important to be clear about:

What benefits a CBDC would offer over and above current and emerging payments options.
What costs and risks a CBDC might entail.
How CBDC might affect broader policy objectives.

Governor Brainard briefly discussed several of the most prominent FRB considerations on CBDCs.

Preserving general access to safe central bank money.
Improving efficiency in payments, clearing, and settlement.
Promoting competition and diversity among payment providers.
Lowering transaction costs.
Reducing frictions in cross-border payments.
Complementing currency and the existing bank deposit payment systems.
Preserving financial stability and monetary policy transmission.
Protecting privacy and safeguarding financial integrity.
Increasing access to bank accounts and banking services for underbanked communities.

SEC Chair Gensler Testifies on Cryptoassets Before US House Appropriations Committee

On May 26, 2021, SEC Chairman Gary Gensler provided testimony to the US House Appropriations Committee on a variety of SEC-related topics, including what he described as the highly volatile and speculative asset class of crypto tokens. Chairman Gensler noted:

In recent weeks, the reported trading volume for cryptoassets has ranged from $130 billion to $330 billion per day, however:
- these figures are not audited or reported to regulatory authorities;
- many crypto tokens are traded on unregistered crypto exchanges; and
- this is just one of many regulatory gaps in the cryptoasset markets.
Many crypto tokens are investment contracts under the federal securities laws. Over the years, the SEC has brought 75 cases in this area.
The SEC has been consistent in its communication to market participants that those who use initial coin offerings (ICOs) to raise capital or to engage in securities transactions must comply with the federal securities laws.
Asset managers that invest in these assets may also fall within the ambit of the federal securities laws.

Chairman Gensler also provided testimony regarding the challenges and gaps for investor protection in these markets, including that:

Tokens currently on the market that are securities may be offered, sold, and traded in noncompliance with the federal securities laws.
None of the exchanges trading crypto tokens has registered as an exchange with the SEC.
This has led to substantially less investor protection than in our traditional securities markets and to correspondingly greater opportunities for fraud and manipulation.
The SEC has prioritized token-related cases involving fraud or other significant harm to investors.

Chairman Gensler also focused attention on crypto lending platforms and DeFi platforms, noting that:

DeFi platforms raise many challenges for investors and the SEC staff looking to provide consumer protection for the marketplace.
The SEC is seeking comment on crypto custody arrangements by broker-dealers (see Legal Update, SEC Issues Statement and Requests Comment on Broker-Dealer Custody of Digital Asset Securities).

The Chairman Gensler stated that he looks forward to working with fellow regulators and with Congress to fill in the gaps of investor protection in the crypto markets.

For a deeper dive into SEC regulation of digital assets, see Practice Note, SEC Regulation of Digital Assets.

For further information on digital/crypto tokens and other digital assets, see Practical Law's Blockchain Toolkit.

FDIC Issues RFI, Federal Regulators Signal Focus on Digital Assets | Practical Law