There is a growing case for allowing crypto companies to bypass banks

In the space of 11 days in March, four banks collapsed in the United States and one in Switzerland. First Republic Bank followed in May. Three of the four largest US bank bankruptcies occurred in these two months. It was a painful reminder that banks take on huge risks that can quickly spill over into other industries.

Ironically, despite much focus on how the crypto-asset sector introduces risk to traditional finance, we have instead experienced bank failures that have become a critical risk to the stability of the crypto-asset industry.

Financial regulations should aim to mitigate financial stability risks in the first place and, where possible, reduce contagion risks to prevent further harm, regardless of the direction of contagion.

Today, issuers of regulated stablecoins are forced to rely on banking partners in order to carry out minting and redeem them through fiat money. Indirect access to cash settlement exposes EU electronic money institutions — future issuers of regulated stablecoins, also known as electronic money tokens — to disproportionate cost and counterparty risk, according to the European Commission’s assessment of the Payment Service Directive (PSD). In the end, it restricts innovation and competition in the payments market.

Related: The world could face a dark future thanks to CBDCs

Granting regulated fiat stablecoins (e-money tokens in the EU or payment stablecoins in the US), would not only be a critical step for the safety of fiat currencies on the internet, but also for payments innovation. big.

It would allow issuers to offset their exposure to risks associated with uninsured deposits and high-speed payments activity separate from stablecoins from the illiquidity of banks’ loan portfolios.

The MiCA (Markets in Crypto Assets) regulation in the European Union provides a huge opportunity for the continent. However, as already agreed at the end of June 2022, before the underlying banking risks become apparent in early 2023, the regulation stipulates that electronic money (EMT) token issuers hold at least 30% of their reserves with credit institutions. What was supposed to be a measure to improve the liquidity and risk exposure of EMT issuers will eventually burden the EMT business with bank and counterparty risk. The recent banking crisis has taught us that in the age of social media-centric information flows and mobile-based banking, we need to change our assumptions about liquid liabilities backed by illiquid assets.

The solution to this problem is by no means new. EMT issuers and all electronic money institutions must have the ability to access central bank accounts directly. By granting access to a central bank account, EMT issuers can protect EU clients from the credit risks of private banks by transferring fiat money directly to the central bank.

In the UK, electronic money institutions have had direct access to the Bank of England’s settlement layer since 2017. This would “help increase competition and innovation in the payments market” and create “more diversified payment arrangements with fewer single points of failure,” According to the Bank of England. Former Bank of England Governor Mark Carney described this legislative change as having “the potential to offer a significant unbundling of banking in its core function of settling payments, making accrual shifts, sharing risk and allocating capital.”

But even in the European Union, protecting electronic money reserves in the central bank is already common practice in one member state, Lithuania. The Central Bank of Lithuania allows electronic money and payment institutions to open settlement accounts and access the clearing system directly. As of the end of 2022, out of 84 electronic financial institutions regulated in Lithuania, 63% held customer funds with the Central Bank. Overall, the Central Bank of Lithuania holds more than two-thirds of the electronic money reserves in Lithuania.

Related: CBDCs threaten our future, so it’s time to take a stand

It is time to level the playing field and open this possibility to all electronic money institutions throughout the European Union.

The window of opportunity for legislation to achieve this has never been greater. What is needed is a targeted revision of the final settlement directive, possibly as part of a PSD revision or the Immediate Payments Regulation (IPR).

Negotiations over intellectual property rights are already establishing a political consensus that such a review is necessary, as a direct settlement access solution would also support and accelerate the introduction of instant payments in the EU.

Assessing the impact of the Payments Service Directive, it could not be clearer about the need for a level playing field between banks and non-banks in the payment market. The banking vulnerabilities of 2023 present another argument for the well-understood debate in the European Union.

The benefits to the safety and liquidity of non-bank financial institutions are evident, as well as to the increased innovation in the financial system that is becoming increasingly concentrated among important global banks at the system level. The case for giving electronic money institutions access to central bank accounts has never been stronger, and the EU should not miss this unique opportunity to make its financial system more competitive and resilient.

Patrick Hansen He is the Director of EU Strategy and Policy at Circle. He was previously Head of Strategy and Business Development at crypto-wallet startup Unstoppable Finance, and Head of Blockchain Policy at Bitkom, Europe’s largest tech trade association. He holds a master’s degree in business and political science.

This article is for general information purposes and is not intended and should not be considered legal or investment advice. The views, ideas and opinions expressed herein are those of the author alone and do not necessarily reflect or represent the views and opinions of Cointelegraph.

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