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The Future of Money Will Be Defined by This Crisis

The collapse of three major banks (Silicon Valley Bank, Silvergate Bank, and Signature Bank) has caused concerns and outflows at many regional banks. The US Federal Reserve has created a new facility worth $2 trillion, and Switzerland's central bank has bailed out Credit Suisse with $54 billion, evoking memories of the 2008 and 2013 crises.

By Rajib MiaPublished about a year ago 6 min read
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The Future of Money Will Be Defined by This Crisis
Photo by Josh Appel on Unsplash

Ten years ago, I first became intrigued by a peculiar new digital currency called bitcoin (BTC) when its value skyrocketed during the banking crisis in Cyprus. The government's decision to impose a 10% tax on withdrawals had enraged Cypriots and inadvertently sparked an interest in a currency that operates without a traditional banking system.

According to Omkar Godbole's reporting, I am not the only one who sees similarities between last week's events and the past. Once again, bitcoin's value is surging as speculation grows that stress among banks in the United States and Europe will prompt people to recognize the censorship-resistant and intermediary-free qualities of the leading cryptocurrency.

However, if this is indeed bitcoin's "Cyprus moment," the context is vastly different from 2013. Cryptocurrency is now firmly embedded in the public consciousness, albeit with negative connotations, and the industry is facing its most significant challenge yet. This challenge involves an intensified struggle with the financial establishment.

Echoes of 2008-2009

The Bitcoin blockchain emerged in the aftermath of the 2008-2009 financial crisis. Its creator, Satoshi Nakamoto, marked the launch on January 3, 2009, with a headline from that day's London Times: "Chancellor on the brink of second bailout for banks," referencing the UK finance minister.

The crisis exposed the risks associated with relying on banks to manage the money and payment system. Mismatches in banks' investments and liabilities can compromise their ability to honor deposits, and large banks with interdependent credit exposure can exploit their "Too Big to Fail" status, assuming that governments will bail them out to protect the economy. Wall Street and other financial centers held democracies hostage, exploiting the system for their gain.

Now, with the collapse of three high-profile banks, hundreds of regional banks experiencing worrying outflows, and the US Federal Reserve reportedly creating a new backstop facility worth $2 trillion, and Switzerland's central bank bailing out Credit Suisse with $54 billion, the echoes of the previous crisis are clear.

Over the weekend, the Federal Deposit Insurance Commission and the Fed worked together to create a funding plan that would enable startups with deposits at Silicon Valley Bank to pay their employees. This moment brings to mind the collapse of the Reserve Primary Fund in 2008, two days after the failure of Lehman Brothers. This fund was used by companies to manage their cash reserves and its failure could have caused widespread chaos in the economy-wide payment system.

What is striking about these similarities is not just the familiar pattern, but also the cause and effect. SVB's failure can be traced back to the policies implemented after the previous crisis. In 2009, the Fed launched a multi-year "quantitative easing" program, injecting an abundance of dollars into the market, which flowed into Silicon Valley's venture funds. These funds invested in startups that deposited the funds at SVB, which, at that time, invested in long-term US government bonds and mortgage-backed securities.

The problem emerged in January 2022, when the Fed acknowledged that its easy monetary policies had stoked inflation and started aggressively hiking rates. This led to a bond market collapse and resulted in significant losses for SVB, which had failed to hedge its interest rate risk.

Crypto as the bad guy

Bitcoin's primary purpose has always been to offer an alternative to the centralized model of fiat sovereign currency run by central banks and private banks by removing intermediaries from payments and hard-coding monetary policy into a predictable issuance schedule. This provides a solution to the entrenched vulnerabilities exposed by recent events.

Silvergate Bank, one of the first banks to collapse, was partially brought down due to its heavy exposure to failing crypto firms. This encouraged anti-crypto politicians, such as U.S. Senator Elizabeth Warren, to call for strict measures against the industry, which had a guilt-by-association impact on other banks, such as SVB, despite their relatively low exposure to crypto.

The government's recent closure of Signature Bank, another crypto favorite, may be an intentional or indirect effort to put pressure on the industry. Crypto companies that previously banked with one or more of the three shuttered institutions are struggling to open alternative accounts as they are repeatedly rejected by bank compliance officers. Although the New York Department of Financial Services claims that Signature's closure had nothing to do with crypto, people are questioning why a supposedly solvent bank was shut down. Some speculate that the regulator made the bank a "poster child" to deter others from dealing with crypto. The FDIC is reportedly insisting that any prospective buyer of Signature give up its crypto business, although the regulator has denied this.

This blacklisting of a legal industry is an abuse of power. However, if this is indeed what the NYDFS is doing in coordination with federal agencies, there is little that crypto leaders can do about it at this time.

Stablecoins, which are essential for fiat-to-crypto exchange operations, have also been affected. When Circle Financial revealed that some of the reserves backing USDC were held at Silicon Valley Bank, the stablecoin briefly lost its one-to-one peg to the dollar. While this situation has been resolved, the closure of Signature Bank means that Circle can no longer use its 24/7 Signet dollar-clearing system for redemptions, forcing it to rely solely on the time-bound services of Wall Street behemoth BNY Mellon.

Power struggle

In a recent CoinDesk OpEd, angel investor and Myth of Money newsletter author Tatiana Koffman argued that Bitcoin is well-suited to the current moment. As people lose confidence in banks' ability to safeguard their money, Bitcoin's self-custody model will become even more appealing. If the Fed is forced to cut interest rates, which could weaken the dollar, Bitcoin's allure will be further enhanced. This could lead to a clash of power that drives governments to accelerate the implementation of new regulatory frameworks for digital money.

The recent bank failures highlight the need to separate payments from crisis-prone fractional reserve banking, which is precisely the solution for which fully reserved stablecoins are designed. However, given the recent issues with the USDC stablecoin, there is growing support for requiring stablecoin issuers to hold banking licenses and access the Fed's discount window instead of storing their reserves at third-party banks.

If this model is endorsed, traditional banks will not want these new crypto players poaching their depositors, which could lead to an even bigger banking crisis. Governments may turn to direct control through a central bank digital currency (CBDC) to incentivize people to continue storing their savings with higher-paying traditional banks. However, people could also exit their national currency altogether and put their savings in cryptocurrencies like Bitcoin, which would stand as a hard-money alternative.

Bitcoin's presence as a competitor could pressure governments to change things up, especially as different economies, such as China's, gain an advantage in monetary digitization. While Bitcoin may not become a real competitor to sovereign currencies for payments, its existence as a competitor could still prompt governments to take action.

However, the public perception of crypto technology is currently negative, following the blowups of last year. This has left many retail investors with losses and fueled the impression of a community dominated by scammers and selfish individuals. Confidence is key in the world of money, and it's important for members of the crypto community to engage in behavior that builds confidence to succeed in the future.

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