Hello and welcome to the latest edition of the FT’s Cryptofinance newsletter. This week we’re taking a look at Circle’s flirt with disaster.
Crypto’s banking crunch is in full swing. Silicon Valley Bank, Signature Bank and Silvergate Capital once served as a vital tripartite of lenders happy to take deposits from crypto companies — but now they’ve all gone.
The demise of the trio has left an industry with already-thin links to the established banking system with even fewer options.
That’s a serious problem, but events have also highlighted another industry weakness: un-stable stablecoins in a time of acute pressure.
These tokens are supposed to be the conduit between crypto and sovereign money, serve as native digital dollars and maintain their value one-for-one against the dollar at all times. Most daily trading on crypto exchanges isn’t hard currency-to-crypto but buying and selling stablecoins against other crypto tokens.
After Circle admitted a $3.3bn exposure to SVB, its USDC token briefly collapsed to 88 cents instead of its usual one dollar price. USDC is the second-largest stablecoin and also widely used as trading coin in decentralised finance.
This isn’t the first time something like this has happened. Last year market leader Tether’s USDT also broke its peg to the dollar, days after the collapse of smaller rival stablecoin terraUSD. The latter’s failure kick-started crypto’s unprecedented market crash of ’22.
Circle’s de-pegging also risked an emergency that had the potential to dwarf last year’s crash. “This would have been bigger than the Terra/Luna collapse. Maybe we’d have called it crypto’s nuclear winter,” Larisa Yarovaya, deputy head of the Centre for Digital Finance at Southampton Business School, told me.
But the threat was brief. Circle promised financial support and US regulators moved to ensure the deposits at SVB were safe, offering USDC a lifeline that probably wasn’t top of authorities’ concerns. The token has recovered to its peg.
“There has been some relief as a new stablecoin crisis has been averted,” JPMorgan’s Nikolaos Panigirtzoglou said.
Circle’s chief strategy officer and head of global policy Dante Disparte told me recent events were tantamount to “crypto’s Cuban missile crisis”, a potential catastrophe averted at the last minute.
In his view, SVB was a “black swan failure” and it was “banks that introduced risks to the digital assets market”. In my view, crypto’s real Cuban missile crisis was USDC breaking its peg, not a bank’s failure.
Still, many crypto evangelists have come to Disparte’s conclusion. Ark Investment Management chief executive Cathie Wood said crypto was being used as a “scapegoat” for lapses in banking oversight, and the industry had “nothing to do with the banks’ investment decisions, nor the Fed’s decision to jack up interest rates”.
Hindsight is always wonderful. SVB had billions in uninsured deposits and bought cheap long-term government debt without hedging against upward moves in interest rates. Its customers holding the deposits were a concentrated group of similar firms that exhibit a herd mentality. The ingredients for the cocktail were there.
Even so, one cannot expect customers to follow or understand their bank’s business model or risk exposures. That’s the job of the regulator, so the industry has a point about quality of oversight. It’s a two-tier system, divided into the large, systemically important and others.
That said, there’s a world of difference between being a start-up with a couple of people and $100,000 in the bank and someone looking around for somewhere to park $3.3bn. It’s no secret that US banking rules limit deposit insurance to $250,000. Ensuring that billions of dollars are totally safe is part of basic risk management, if not from the company then from its equity backers.
“We can’t blame the whole banking system, Circle engaged with these specific banks which have taken risks, and this is the result,” said Yarovaya.
Circle has now moved $5.4bn of cash to BNY Mellon, a designated globally systemic bank, so the money is secure. But the episode has underlined two points: crypto is as reliant on the health of the US banking system as everyone else and that USDC is now “too big to fail”.
As Carol Alexander, finance professor at Sussex University, told me earlier this week: “Circle had large exposures to SVB and the very significant de-peg of their USDC stablecoin . . . should be a massive red flag for the entire crypto ecosystem.”
What do you make of USDC’s de-peg? Does the fault lie with the banking system or Circle? Email me at email@example.com.
US and German authorities, supported by Europol, took down ChipMixer, a popular mixing service for its alleged involvement in money laundering. Authorities seized roughly $46mn but estimates suggest the platform may have facilitated the laundering of $2.8bn in crypto assets. Unsurprisingly, ChipMixer was also used by North Korea’s infamous criminal syndicate Lazarus Group.
It’s never too busy for a crypto hack. A decentralised finance protocol called Euler Finance fell victim to a $197mn theft. According to blockchain analytics platform Chainalysis, hackers stole funds in USDC, as well as other coins. In response Euler Finance did what all helpless DeFi platforms do when they’re exploited: offer money “in the hope” it would lead to funds being recovered. The reward here is $1mn. Inspiring stuff.
The list of lawsuits around FTX grows. This week, plaintiffs have filed a case on behalf of US and non-US FTX customers, training their crosshairs on “influencers” who promoted, assisted in, or actively participated in the failed exchange’s offer and sale of unregistered securities. You can read the full lawsuit here.
Soundbite of the week: Operation chokepoint under the microscope
One of Washington’s crypto’s biggest defenders, Republican congressman Tom Emmer of Minnesota, came out swinging on Twitter on Wednesday against government action over the past week.
“The Administration’s demonstrated effort to choke off digital assets from the United States financial system is a lazy and destructive strategy that is stagnating innovation and subjecting American users of digital assets to less sophisticated regulatory jurisdictions.”
Data mining: Tether and a ‘flight to safety’
If you had “investors will migrate to Tether token for safety” on your 2023 crypto bingo card, congratulations.
According to fresh numbers from data provider CryptoCompare, trades between Circle’s USDC and Tether’s USDT token soared by a whopping 828 per cent to $6.1bn on March 11, the day USDC started to de-peg. That trade indicated traders were fleeing USDC for its rival.
Tether’s de-pegging last year prompted my colleague Adam Samson and I to ask Tether’s chief technology officer Paolo Ardoino basic questions about USDT’s reserves. He said he didn’t want to reveal the company’s “secret sauce”.
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