GAO’s Crypto Report Shifts Spotlight To Credit Unions, Minority And Community Banks

Despite assertions by Securities and Exchange Commission Chair Gary Gensler that when it comes to crypto regulation, the existing rules are adequate and sufficient, a new report by the U.S. Government Accountability Office outlines significant gaps, raises concerns regarding consumer and investor protections, and calls for legislative and regulatory action.

This news raised eyebrows across the financial services spectrum because it is not just decentralized exchanges calling for a new policy framework for blockchain and cryptocurrency. Moreover, when it comes to lack of clarity from Congress and regulators, most financial entities – across TradFi, fintech, crypto – are aligned in frustration.

Small Banks Well-Positioned To Tackle Risks

While the GAO report cites that blockchain technology can facilitate “faster, cheaper financial transactions,” it also raises significant questions about risks. Yet, the small, legacy banks that serve mainstream consumers and are well-positioned to offer risk mitigation services, are also the most vulnerable to the consequences of Washington’s inaction and regulation by enforcement.

Credit unions, community development financial institutions, and minority depository institutions are on the frontlines of crypto adoption. The earliest consumers of digital assets – communities of color, the working class, and young people – are most likely to patronize and trust these neighborhood establishments.

Not surprisingly, MDIs, CDFIs, and credit unions have not been sitting on the sidelines in the debate around crypto policy. In fact, in December 2021, the National Credit Union Administration, a federal regulatory body, provided guidance clarifying that its credit unions can offer digital assets through third parties and later expanded its guidelines in May 2022, stating that the use of distributed ledger technologies is permitted to help transform, optimize operations, and expedite service delivery.

Regulatory Uncertainty Handicaps MDIs, CDFIs

NCUA’s efforts to provide rules of the road notwithstanding, new regulatory directives regarding decentralized finance for the other banking categories are much needed. The Federal Deposit Insurance Corporation has oversight over MDIs, while CDFIs are regulated by FDIC, the Office of the Comptroller of the Currency, and the Federal Reserve Board.

FDIC, OCC, and the Board of Governors of the Federal Reserve System issued guidance two years ago for community banks “entering into business arrangements with fintech companies to offer enhanced products and services to their customers, increase efficiency, and reduce internal costs.” Cryptocurrency was not expressly mentioned.

Nicole A. Elam, Esq., CEO of the National Bankers Association, wrote in an editorial last fall that the digital transformation process for most minority-owned banks “is expensive, and with MDIs already lacking sufficient capital, digitizing proves to be an additional challenge. That’s why MDI and fintech (financial technology) partnerships are essential for survival.”

Partnership Pathway to Digital Asset Offerings

Partnership agreements with decentralized entities are on the rise, but these institutions must tread lightly.

The National Bankers Association Foundation published a report for MDIs last April, which outlines challenges it says are “compounded by the lack of clarity from regulators regarding who bears responsibility for given failures and what “reasonable” due diligence looks like in terms of a paper trail when issues arise.” The report continues, “Consequently, banks that pursue digitalization are rendered more vulnerable to enforcement actions or other measures when issues arise since it makes it more difficult for banks to show that they conducted themselves in a blameless manner.”

America’s largest Black-owned bank, OneUnited, is taking steps to innovate through collaborations, despite the crippling restrictions. Its website notes that it “does not offer cryptocurrency. However, you can use your OneUnited Bank Visa Debit Card to purchase or sell cryptocurrency through a crypto wallet.”

Big Banks Get The Breaks

Interestingly, big banks and Wall Street giants like JP Morgan, Fidelity, BlackRock
BLK
, and others that cater to high net worth individuals and accredited investors are entering the digital assets market seemingly with little consequence. The Federal Reserve Board of Governors last October gave the green light to investment bank BNY Mellon to begin holding and transferring digital assets for its clients.

Conversely, the institutions that consumers who have been locked out of financial markets are likely to first turn to are neither equipped nor do they have the technological capabilities to offer digital assets.

This disparity will surely impact consumers. If financial inclusion and mitigating risks are truly federal priorities, small, community-based entities should be among the first to receive expanded regulatory authority, as well as, resources for infrastructure development.

Avoid A One Size Fits All Regulatory Framework

Absolutely, a new regulatory framework for blockchain and cryptocurrency is paramount, but the approach must not be one-size-fits-all. Rather, when it comes to TradFi, provisions should be formulated with credit unions, CDFIs and MDIs in mind. Congress and regulatory agencies need to do the hard work of governing. And that should include customizing measures for the various categories of banking institutions that permeate U.S. financial markets. Most importantly, they must strike a better balance between protection policies and financial inclusion measures that can foster wealth creation.

CEO Elam added, “MDIs have traditionally been engines of economic development during good times and bad. They provide essential financial services to communities that are more likely to be unbanked or underbanked…Yet, access to capital and disparities in the regulatory treatment of MDIs remain obstacles to providing banking services to communities most in need. Those obstacles perpetuate the racial wealth gap in America.”

As Members of Congress deliberate GAO’s analysis, they should be cognizant that CDFIs, MDIs, and credit unions, like other institutions across the financial services landscape, have a right to regulatory clarity to ensure they can compete in the 21st-century innovation economy, and can safely and responsibly deliver digital assets to new retail investors and customers.