The Breakdown - The Rise of CBDC Skepticism Among US Officials

Episode Date: September 9, 2022

This episode is sponsored by Nexo.io, Chainalysis and FTX US.   The discussion around a United States-issued central bank digital currency is heating up, but not in the way one might expect. Increasingly, U.S. regulators and elected officials are showing signs of skepticism about a CBDC, particularly a retail CBDC.  - Nexo is a security-first platform where you can buy, exchange and borrow against your crypto. The company ensures the safety of your funds by employing five key fundamentals including real-time auditing and recently increased $775 million insurance on custodial assets. Learn more at nexo.io. - Chainalysis is the blockchain data platform. We provide data, software, services and research to government agencies, exchanges, financial institutions and insurance and cybersecurity companies. Our data powers investigation, compliance and market intelligence software that has been used to solve some of the world’s most high-profile criminal cases. For more information, visit www.chainalysis.com. - FTX US is the safe, regulated way to buy Bitcoin, ETH, SOL and other digital assets. Trade crypto with up to 85% lower fees than top competitors and trade ETH and SOL NFTs with no gas fees and subsidized gas on withdrawals. Sign up at FTX.US today. - I.D.E.A.S. 2022 by CoinDesk facilitates capital flow and market growth by connecting the digital economy with traditional finance through the presenter’s mainstage, capital allocation meeting rooms and sponsor expo floor. Use code BREAKDOWN20 for 20% off the General Pass. Learn more and register at coindesk.com/ideas. - “The Breakdown” is written, produced by and features Nathaniel Whittemore aka NLW, with editing by Rob Mitchell and research by Scott Hill. Jared Schwartz is our executive producer and our theme music is “Countdown” by Neon Beach. Music behind our sponsors today is “Razor Red” by Sam Barsh and “The Life We Had” by Moments. Image credit: imagedepotpro/Getty Images, modified by CoinDesk. Join the discussion at discord.gg/VrKRrfKCz8.

Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. The breakdown is sponsored by nexus.com, and ftX, and produced and distributed by CoinDesk. What's going on, guys? It is Thursday, September 8th, and today we are talking about the rise in CBD skepticism among U.S. regulators and politicians. Before we get into that, however, if you are enjoying the breakdown, please go subscribe to it, give it a rating, give it a review, or if you want to dive deeper into the conversation, come join us on the Breakers Discord. You can find a link in the show notes or go to bit.ly slash breakdown pod. Also, a disclosure as always, in addition to them being a sponsor

of the show, I also work with FTX. All right, folks, well, yesterday, one of the things that I had right at the top of my list of 38 things I think we've learned in the last year is that while crypto is not going to be banned in the U.S., it is going to be regulated. And oh my, have we had an absolute flurry of commentary on what that should look like from senior U.S. officials. In fact, it may take me more than just today to get through all of it. I also wrote about how CBDCs seem to be going a little bit slower than it might have seemed they would go back to 2020, for example. That is going to be the particular focus of a lot of today's discussion. But where we're going to begin is with a speech from Michael Sue. Michael is the acting head of the office of the comptroller of

the currency. This was a position that was formerly held by, if you'll remember, Brian Brooks, who is now the CEO of Bitfury and was before that general counsel at Coinbase. During Brian Brooks' short tenure there, the OCC greatly expanded the way that banks and financial institutions could interact with the crypto industry as a whole and specifically stable coins. Sue has been under intense pressure since coming to office to reverse many of the policies that Brian Brooks set in place and start fresh. However, he's taken a pretty concerted middle of the road, let's learn and see kind of view. In a speech at a Clearing House and Bank Policy Institute conference on Wednesday, Sue re-articulated the OCC's regulatory position that traditional lenders are required to ask

permission for any crypto activity and need to demonstrate that the activity will be entirely safe. It's clear that very top of mind for Sue in the OCC is the collapse of the Terra ecosystem. He said this event had, quote, sparked contagion across cryptocurrencies, resulting in several crypto platforms failing, forcing numerous exchanges to close, and driving large losses in reductions of staff at a number of publicly traded companies. He also noted that, quote, the federally regulated banking system by contrast has been largely unaffected. I believe this is due, at least in part, to the careful and cautious approach that we adopted and intend to maintain for the foreseeable future. So in many ways, he is taking the position

here that digital assets should remain in some ways excluded from the traditional banking sector, at least at present. One of the really interesting thing, he said that while crypto regulation is still seen as a priority, the collapse of crypto markets have given regulators some breathing room. Quote, the general roadmap is the same, but now there's a little more breathing space to get that right. So this is pretty interesting to me. It's one of the first times that I've seen a regulator explicitly say that there was now breathing room because of a change in the market conditions, but it kind of makes sense if you view it from a standpoint of just which priorities are most urgent. If you view the biggest excesses and problems of the crypto markets as happening

when markets are rising, then this all tracks. Now, when it comes to where the OCC is likely to impact crypto or related policy, they're likely to be influential in forming stablecoin policy. and really where a lot of the juice in the discussion over the last day or two has been is, in fact, stable coins and CBDCs. So let's move over to the Federal Reserve. And let's hear from someone we haven't actually yet heard from in their new role. Former Ripple Labs advisor in Michigan University Law School Dean Michael Barr has used his debut speech as the Federal Reserve's vice chairman for supervision to call for greater regulatory oversight of the banking industry use of crypto assets.

Speaking at a Brookings Institution event in D.C. on Wednesday, Barr said, quote, we plan to work with other bank regulatory agencies to ensure that cryptoactivity inside banks is well regulated, based on the principle of same risk, same activity, same regulation, regardless of the technology used for the activity. I plan to make sure that the cryptoactivity of banks that we supervise is subject to the necessary safeguards that protect the safety of the banking system as well as bank customers. Barr also went on to address stablecoin oversight. He made the contention that private stablecoins had so far failed to deliver significant increases in financial access to the underbanked and also called for regulatory legislation as a priority.

Quote, Congress should work expeditiously to pass much-needed legislation to bring stablecoins, particularly those designed to serve as a means of payment inside the prudential regulatory perimeter. Now, one of the things that Barr is going to have a lot of influence on is the supervision of non-bank financial firms that are considered large and complex enough to post. a threat to the financial systems should they collapse. No crypto firms have currently met this definition of being systemically important. However, it's far from unthinkable that some large crypto firms could come under the supervisory mandate in the future. Systemic threats are one of the two big

reasons that regulators are so interested in crypto with investor protection being the other category. In his speech, Barr also addressed the digital dollar project. He tread pretty carefully, insisting that Congress and the White House need to leave the way before the Fed takes action. However, he said, I'm not in crisis mode about the need to issue a CBDC. So a few themes to reflect on from this speech. The first is stable coins are definitely driving something of a move from asset-based regulation, i.e. what Bitcoin or Ether is or isn't, to institution-based regulation. In other words, what should the institutions that interact with those coins or stable coins

more specifically have to do via governmental regulation and rules? Second, you're seeing here a bit of skepticism around some of the highfalutin arguments for crypto, like improving access to the financial system. Although I take those with a grain of salt, given how early we still are. But you're also seeing, if in this case not skepticism, definitely no hurry to really get a U.S. Central Bank digital currency figured out. Some of these same themes were echoed in a speech from another Fed officer, in this case Federal Reserve Vice Chair Lail Brainerd. She spoke at the same event that Michael Sue spoke at, the Clearinghouse and Bank Policy Institute conference, and called for additional crypto regulation to account for situation.

not covered by existing laws. Quote, we have seen that the crypto-financial system has all the same risks that we're very familiar with from traditional finance. She also stated that there was a need for, quote, creating clear regulatory guardrails.

Now, more interesting, however, is the fact that the vice chair is responsible for heading up the digital dollar project, which makes her commentary on stable coin regulations particularly important. Quote, stable coins are one of those areas

that I think has the most potential for risk, if not properly regulated. And of course, those risks can easily spill into the main core financial system because of the runnable nature of stablecoins. And what about her thoughts around CBDCs? Quote, I don't think it's particularly relevant today, but we see the financial system moving in a digital direction every day. She also noted that the Fed's instant payment rail system Fed Now is expected to go live between

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One of the largest exchanges in the U.S. FTCS is also the only leading exchange that supports both Ethereum and Solana NFTs. When you trade NFTs on FTCX, you pay no gas fees. Download the FTCX app today and use referral code breakdown to support the show. Let's pause for a moment and talk about Fed Now. This is something that we got a bit more info about. at the end of August that we actually didn't have time to discuss on the show. The Federal Reserve's updated payment rail system, which is called Fed Now, is projected to launch in mid-2020-3.

Currently, more than 120 organizations, including small banks and fintech service providers, are participating in a pilot program for the service. The new system will eventually replace the existing interbank clearing systems, including the automated clearinghouse, which is a government operated system that was built in the 1970s and typically processes transactions overnight, but often takes two to four days to show up in a recipient's account. The other system it's intended to replace is the real-time payment system, which is a private network owned by the country's largest banks, which provides nearly instantaneous payments. The intention of Fed now is to speed up the time taken to transact between different banks, with the final goal of being able to facilitate

near-instant payments between consumers, businesses, and banks. Providing a publicly-owned modern set of interbank payment rails could assist in leveling the playing field for smaller banks and credit unions who are currently denied access to those private rails. This would mean that instantaneous bank transfers would become the norm rather than a selling point for those larger banks. The Fed Now system will also use the ISO-22 messaging standard, which some crypto tokens utilize as well. This theoretically could allow for compatibility with CBDCs or private stable coins in future iterations. Some see Fed Now as an intermediate step towards an eventual CBDC. However, as currently planned, the Fed Now system will be a purely wholesale money network, only facilitating payments between financial institutions, rather than allowing

customers to interact with the network directly. One of the interesting things is that people are asking, does this change the equation for stablecoins in crypto? Cohen analyst Jarrett Seaberg says he believes that FedNow removes the business case for a stable coin-based payment system. Quote, Fed Now provides the cost reduction and settlement speed of stable coin payments without the need to convert into and out of tokens. Fed Now could then slow the growth of these tokens, which may help address policy concerns regarding stable coins. Paul Kiernan, an economics reporter for the Wall Street Journal writes, FedNow is launching in 2023. Very important to understand there are two types of CBDCs, wholesale and retail. Wholesale is how banks send money to each other. Retail is programmable

money from central banks to citizens. Fed Now is wholesale. The prospect of real-time payments through Fed Now raises interesting questions for cryptocurrencies, whose main selling point was the promise of faster, cheaper transactions. Of course, crypto wasn't going to totally let people get away with that narrative shift. Brian Brooks, who I mentioned before, the former acting comptroller of the currency, and now the CEO at Bitfury writes, actually the main selling points include, one, transactions across decentralized networks not susceptible to single points of failure, two that are not routed through a bottleneck managed by a government agency, and three, that are open to all versus only open to banks. But here's where it starts to get really juicy. Fed governors seem to be

increasingly of the opinion that Fed now represents the right form of digital rails to suit the U.S. political climate and culture rather than a fully functional consumer-facing CBDC. Comments made in early August at a panel at Columbia University by Minnesota Fed, Governor Neil Keshkari brought new light to some current thinking on CBDCs. Quote, I'm pretty skeptical. I keep asking anybody at the Fed or outside the Fed to explain to me which problem this is solving. What is it that a CBDC could do that Venmo can't do? All I get is a bunch of hand-waving. Maybe it's better for fighting. financial inclusion. Maybe it's better for cross-border remittances. Maybe. Is there any evidence that it is?

What about China? China is doing it. I can see why China would do it. They want to monitor every one of your transactions that you could do with the CBDC. You can't do that with Femmo. If you wanted to impose negative interest rates, you could do that with the CBDC. You can't do that with Femmo. And if you wanted to directly tax customer accounts, you could do that with a CBDC. You can't do that with Femmo. I get why China would be interested. Why would the American people be for that? Jilch wrote, this is the president of the Federal Reserve in Minneapolis telling the truth about central bank digital currencies. They're useless, unless you want to control, surveil, and tax the hell out of your people like China wants to, and Europe apparently. Now, not everyone in the Fed feels that way.

In an interview with the Wall Street Journal last week, Atlanta Fed President Rafael Bostic said discussing Fed Now and CBDCs, quote, I think at a very base level both are going to be needed. Where this CBDC skepticism is picking up more traction is in Congress. Just yesterday, 24 four congressional Republicans sent Fed Vice Chair Lail Brannard a letter regarding CBDCs. They reference a May appearance from Brannard on the Hill but wanted to follow up, given that there are deadlines from the Biden executive order that are coming up. They wanted to get clarity on the following statements, quote, one, the motivations for the Fed to issue a CBDC.

During the hearing, you emphasize the need for consumers to have, quote, direct access to a safe central bank issued digital currency and the potential risk of stable coins becoming the dominant form of U.S. digital dollar. At the same time, you indicated any future evolution of the financial system with digitalization is going to lead to some diminished use of cash and some diminution of bank deposits. Is the Fed's objective with the U.S. CBDC to curtail the use of digital assets and other private sector innovative payment methods? If not, please provide the context for your testimony. Number two, the need for Congress's support for a Fed-issued CBDC. During the hearing, you stated,

quote, the Federal Reserve would not move ahead with the CBDC without support by the executive branched in by Congress, and ideally that would take the form of authorizing legislation. In your opinion, does support mean an explicit law from Congress authorizing the Fed to issue a digital currency? Three, the Fed's position on individual retail accounts at the Fed. Despite the Fed's position that individual retail accounts at the Federal Reserve are not authorized by law, there was some discussion on individual Fed accounts. Specifically, you testified the Federal Reserve does not have the authority, for instance,

or is precluded from individual accounts? Is the Fed limiting its CBDC analysis to an intermediated model for a U.S. CBDC? 4. The need for Congress to authorize an intermediated CBDC model. The Federal Reserve Act provides the Fed with the authority to issue Federal Reserve notes at the discretion of the Board of Governors for the purpose of making advances to Federal Reserve banks. Based on the text of the Federal Reserve Act and the supporting historical context, it is evident that Federal Reserve notes are paper currency. Is it your view, the Federal Reserve may not establish an intermediated CBDC model without direct authorization from Congress?

5. The need for strong support from the executive branch. You testify to the federal that the Fed must have strong support from both the executive branch in Congress. Please describe what strong support from the executive branch looks like. Is it in the form of a letter or executive order? They then ask her to get this back to them in writing by no later than September 30th. Now, it's clear that the Fed is trying to be non-committal here. As I was writing this, Jerome Powell, the Fed chair, gave a speech, his last public appearance until the next FOMC meeting, September 20th to 21st. It was at a conference called the state of monetary policy after 40 years, and Powell gave a much retweeted quote now that said, CBDC should be privacy protected, intermediated, widely transferable, and identity verified.

We would not want a world where the government sees in real time every dollar transfer that anyone makes with the CBDCs, not attractive for us. Now, there were many claims that that seemed pretty hypocritical coming from a government official that just sanctioned tornado cash, although, of course, these are very different to parts of the U.S. government. Over and over, Powell said that no decision has been made regarding a CBDC, and limited the Fed's role to, quote, carefully analyze tradeoffs and challenges on a possible CBDC. The key theme in all of this is a rising CBDC skepticism among U.S. officials. And I think even if you think there are reasons to want a retail-facing central bank digital currency at some point in the future, the fact that the conversation has such a high-skeptical barrier to get through, a gauntlet of concerns around privacy, surveillance, market implications, and more is a good, good thing. For now, I want to say thanks again to my sponsors, Nexto.com.

Chainalysis and FTX. And thanks to you guys for listening. Until tomorrow, be safe and take care of each other. Peace. I want to tell you about CoinDesk's new event, the investing in digital enterprises and Asset Summit or Ideas. The event facilitates capital flow and market growth by connecting the digital economy with traditional finance.

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