Cryptocurrency: The Risk Banks Already Have

The cryptocurrency market continues to evolve: New companies launching coins, wallets, exchanges and applications seemingly emerge every day, and crypto founders were named to Time Magazine’s Most Influential List.

The total market capitalization of cryptocurrency eclipsed $2 trillion on April 5, 2021, and sat at $2.44 trillion as of Sept. 15, 2021. El Salvador became the first country in the world to make Bitcoin legal tender, with President Nayib Bukele saying, “Bitcoin would be an effective way to transfer the billions of dollars in remittances that Salvadorans living outside the country send back to their homeland each year.”

More importantly, financial regulators have taken notice. Make no mistake, regulation oversight is coming. Kenneth Blanco, director of the Financial Crimes Enforcement Network, said, “Banks must be thinking about their crypto exposure. If banks are not thinking about these issues, it will be apparent when examiners visit. In January, the Office of the Comptroller of the Currency published a letter clarifying the authority to participate in independent node verification networks (INVN) and use stablecoins to conduct payment activities and other permitted banking activities for national banks and federal savings associations, along with the instructions that in participating in this capacity, “a bank must comply with applicable law and safe, sound, and fair banking practices.”

Gary Gensler, the U.S. Securities and Exchange Commission chairman, is intimately knowledgeable of cryptocurrency, having taught a course called Blockchain and Money at the Massachusetts Institute of Technology. Sen. Elizabeth Warren (D-Mass.) has pressed Treasury Secretary Janet Yellen to use her position as the chair of the Financial Stability Oversight Council to “ensure the safety and stability of consumers and our financial system.”

A number of large, leading banks are evolving their crypto programs, testing their crypto infrastructure and readying their organizations for participation in the crypto marketplace, whether as a custodian, exchange, coin issuer, broker, payment processor or participant. Other banks are in the queue to be fast followers and/or limited participants. They want to see how the market develops and how regulators react to the initial wave of participation. Yet, other institutions look at cryptocurrency participation as either a long-term initiative, or an activity that does not fit their risk profile.

The fact of the matter is, likely every bank has exposure to cryptocurrency in some capacity. Approximately 13% of Americans bought or traded cryptocurrency in the past 12 months, and approximately 46 million Americans (17% of the adult population) own at least a share of Bitcoin. That means that about one in eight Americans actively participates in the crypto marketplace. Unless your bank has less than eight customers, the law of averages dictates that your institution has exposure and one or more of your customers has sent or received money to or from entities within the cryptocurrency marketplace.

The good news is there are tools to help banks identify current exposure, track payments and facilitate compliance monitoring and reporting needs. As with any tool, the effectiveness of those tools comes down to features and performance. Some tools use name matching to identify that participation. However, the ownership structure of many of these emerging companies use innocuous-sounding corporate holding company names for payment processing to their crypto companies, which can make these tools less effective — complicating the current struggle of evaluating false positives by name checking alone. There are also tools and services which can do advanced due diligence on virtual asset service providers and help identify crypto money service businesses and previously unidentified crypto payments. Once an institution can assess current state exposure, it can develop an action plan.

Acknowledging that willingly or otherwise, most financial institutions have been brought into the crypto ecosystem and should be developing a plan of action now. The first step is to identify and assess an institution’s current state of exposure to cryptocurrency. Next, it should develop a strategy defining the institution’s planned participation in this space. Key considerations include: how transactions outside the organization’s risk tolerance will be handled and how the governance, risk and compliance (GRC) programs of the organization need to be updated to reflect the current and future state of doing business.

As the crypto ecosystem and regulations continue to evolve, savvy institutions will ensure they understand their current exposure in the market and work toward a target future-state GRC program that addresses the risks to which the organization is exposed.

What Does Today’s Community Banker Look Like?

After more than a year of great uncertainty due to the coronavirus pandemic, the biggest driver of change for community banks now will likely come from customer behavior.

The shift towards digital banking that took off during the pandemic is expected to become permanent to some degree. Customers are most likely to use online or mobile channels to transact and they are becoming more involved in fraud prevention, with measures such as two-step verification. They are also performing an increasing number of routine administrative tasks remotely, like activating cards or managing limits. Branches are likely to endure but will need to rethink how to humanize digital delivery: The Financial Brand reports that 81% of bankers believe that banks will seek to differentiate on customer experience rather than products and location.

Digitalization is good news for community banks. It reduces pressure on the branch network and increases opportunities to develop the brand digitally to reach new customers. But it also creates an obligation to deliver a good digital experience that reduces customer effort and friction. In the digital age, customers face less costs of switching banks.

Banks that assume they will be the sole supplier of a customer’s financial services or that a relationship will endure for a lifetime do so at their own risk. President Joseph Biden’s administration is promoting greater competition in the bank space through an executive order asking the Consumer Financial Protection Bureau (CFPB) to issue rules that give consumers full control of their financial data, making it easier for customers to switch banks. Several countries have already implemented account switching services that guarantee a safe transfer. How should community banks respond so they are winners, not losers, with these changes?

With their familiar brands, community banks are well positioned for success, but there are things they must do to increase customer engagement and build loyalty. Continuing to invest in digital remains crucial to delivering a digital brand experience that’s aligns with the branch. Such investment will be well rewarded — not only in retaining customers but also attracting new ones, particularly the younger generation of “digital natives” who expect a digital-first approach to banking. The challenge will be migrating the trust that customers have in the branch to the app, offering customers choice while maintaining a similar look and feel.

The branch will continue being a mainstay of community banking. Customers are returning to their branches, but its use is changing and transactions are declining. Customers tend to visit a branch to receive financial advice or to discuss specific financial products, such as loans, mortgages or retirement products. Some banks already acknowledge this shift and are repurposing branches as advice centers, with coffee shops where customers can meet bankers in a relaxed atmosphere. In turn, bankers can go paperless and use tablets to guide the conversation and demonstrate financial tools, using technology augmented by a personal touch.

Community banks can play a crucial role in promoting financial literacy and wellness among the unbanked. As many as 6% of Americans are unbanked and rely on alternative financial services, such as payday loans, pawnshops or check cashing services to take care of their finances. According to a 2019 report by the Federal Reserve, being unbanked costs an individual an average of $3,000 annually. By increasing financial inclusion, community banks can cultivate the customers of tomorrow and benefit the wider community.

Cryptocurrencies are the next stage of the digital revolution and are becoming more mainstream. Although community banks are unlikely to lose many customers in the short term over cryptocurrency functionality, these digital assets appeal to younger customers and may become more widely accepted as a payment type in a decade. Every bank needs a strategy for digital assets.

The shift to digital banking means bank customers expect the same experience they get from non-financial services. Application program interfaces (APIs) have ushered in a new era of collaboration and integration for banks, their partners and customers. APIs empower banks to do more with data to help customers reduce effort, from automating onboarding to access to funds and loans immediately. At a time when community banks and their customers are getting more involved with technology, every bank needs an API strategy that is clearly communicated to all stakeholders, including partners and customers. Although APIs cannot mitigate uncertainty, they do empower a bank to embrace change and harness the power of data. Banks without an APIs strategy should speak to their technology partners and discover how to find out how APIs can boost innovation and increase customer engagement.

Why Regulation Should be Part of Cryptocurrencies’ Future

Despite a recent embrace by the capital markets and financial corporations, digital assets and cryptocurrencies are still not at the point of widespread, global adoption. To get there, lawmakers and financial agencies should implement rules and regulations to protect consumers and enable the space to develop further as an alternative financial system.

The evolution of digital assets like cryptocurrencies has a phenomenal potential to change the financial industry. However, it also creates challenges. Digital assets are decentralized and do not rely on either governmental authorities or financial institutions to create, transmit or determine the value of a cryptocurrency. Supply is determined by a computer code; prices can be extremely volatile. Over the past decade we have witnessed digital asset exchanges being closed down due to fraud, failure or security breaches.

Within the United States, there is no uniformity in the regulatory framework with respect to how businesses that deal in digital assets should conduct themselves. New York is one of the few states that has a functional regulatory regime through the New York State Department of Financial Services. Meeting compliance in New York has become a badge of legitimacy. However, there are also a significant number of companies that have chosen not to operate in New York due to these regulations. On the other hand, Wyoming has adopted a lighter regulatory framework and is widely considered the most crypto-friendly jurisdiction in the United States.

Congressional Developments
In April, the U.S. House of Representatives passed “The Eliminate Barriers to Innovation Act,” a bill that directs the Commodity Futures Trading Commission and the U.S. Securities and Exchange Commission to establish a digital asset working group and open new regulatory frameworks for both digital assets and cryptocurrencies.

The bipartisan bill would initiate the commission of a specialized working group that would evaluate regulation of digital assets in the U.S. The joint working group would include the SEC and CFTC, in collaboration with financial technology firms, financial firms, academic institutions, small and medium businesses that leverage financial technology and investor protection groups, as well as business or non-profit entities that are working to support historically underserved businesses. The working group would draft recommendations to improve the current regulatory landscape in the U.S., which will then be extended internationally where possible. The working group will be given a year to evaluate and provide technical documentation on how these recommendations should be implemented through compliance frameworks.

Regulation Ensures Market Stability
While some people believe that cryptocurrencies should operate completely independently from any form of regulation, publicly accountable businesses are vigorously regulated in order to protect consumers and economic stability. Independent audits are similarly required to protect the interests of all stakeholders, ensure that the applicable laws and regulations are adhered to and that the financial statements are free from material misstatement, as well as fraud (to a certain extent).

Regulators around the world regularly warn crypto asset investors to be extremely cautious and vigilant, partially due to a lack of regulation, which creates an opportunity for fraudsters to prey on uninformed investors. Fraud and error can usually be mitigated by prevention, detection, and recourse. Introducing regulations to govern the cryptocurrency industry will mean preventative measures are in place to ensure fraud doesn’t occur and that there is appropriate legal recourse for victims. There is also a significant role for auditors in detecting possible instances of fraud or error, as well as assisting with the recourse process.

Digital Asset Outlook
Mazars will be keeping a close watch on the progress of the innovation bill. We believe positive regulatory changes are ahead. Gary Gensler, the recently confirmed head of the SEC, has a keen knowledge of, and appreciation for, the applicability of digital assets in the global financial services ecosystem. Gensler is the former head of the CFTC, as well as a professor at the MIT Sloan School of Management where he researched and taught blockchain technology, digital currencies and financial technology.

In a recent interview with CNBC, Chair Gensler said there needed to be authority for a regulator to oversee the crypto exchanges, similar to the equity and futures markets. He said many crypto coins were trading like assets and should fall under the purview of the SEC.

We welcome this level of engagement and improved regulation, which will be good for the industry, investors, consumers and society at large. Without regulation, cryptocurrencies are unlikely to become a standard part of investment portfolios due to the current high level of risk.

The information provided here is for general guidance only, and does not constitute the provision of legal advice, tax advice, accounting services, investment advice or professional consulting of any kind. The information provided herein should not be used as a substitute for consultation with professional tax, accounting, legal or other competent advisers. Before making any decision or taking any action, you should consult a professional adviser who has been provided with all pertinent facts relevant to your particular situation.

The Future of Banking: Crypto, Blockchain and Fintech


banking-4-17-19.pngInscribed in the first block of the first blockchain ever created are the words: “The Times 03/Jan/2009 Chancellor on brink of second bailout for banks,” referring to the London newspaper’s lead story of the day.

This edition of the newspaper is now one of the most valuable crypto collectibles to date. It’s hard to deny the symbolism in the covert message encoded into the genesis block of the bitcoin blockchain.

That message signals problems in our modern fiat financial system while introducing a novel system that replaces centralized institutional trust with a system relying on decentralized cryptographic trust.

Today, bitcoin has celebrated its 10th birthday, despite critics predicting its doom since its inception. With bitcoin came another suite of technologies collectively known as blockchain.

Despite the actual word “blockchain” not appearing in the original white paper published under the pseudonym Satoshi Nakamoto in October 2008, it has undoubtedly become one of the most talked about buzzwords in technology and banking, as well as the larger world of finance.

Blockchain is generally considered to be a subcategory of distributed ledger technology (DLT), referring to its distributed architecture in which there is no central point of attack, making it less vulnerable to hacks, fraud and manipulation.

A quick online search of the word “blockchain” will yield a wide array of differing definitions, because there is currently no universally recognized definition—something the International Standards Association is working toward. One way to define blockchain is as a shared ledger designed to produce immutable records through cryptographic techniques that facilitate the processing of transactions and tracking of assets.

Part of what makes blockchain so attractive is that it’s considered a general purpose technology, according to the Massachusetts Institute of Technology, with many potential applications across industry verticals.

The primary application for the technology thus far has been within financial services—specifically, payments.

Banking on Blockchain
A study performed by Accenture found nine out of 10 banking executives saying their bank is exploring the use of blockchain in payments, the most prevalent use being cross-border transfers.

But reaping the promised benefits of blockchain will require “fostering an uncommon coordination among banks,” according to Accenture’s study. The value is in the network—in collaboration. Examples of these interoperable networks between banks and corporations globally are using private enterprise blockchains, or DLT, like R3’s Corda platform and Hyperledger fabric.

Major benefits from blockchain include lower administrative costs and shorter settlement times. One bank that has sought to offer these benefits to its clients by leveraging blockchain technology is Signature Bank. The New York-based commercial bank launched its own blockchain-based platform for real-time, 24/7 payments on Jan. 1, 2019.

Signature’s platform is interesting, considering some alternatives can take several days to clear and can be unavailable on weekends, for instance.

While many of the largest banks in the U.S. may be exploring blockchain and distributed ledger technologies, and filing a litany of patents, cryptocurrency is listed as both a risk and competitive threat in some of their annual reports. Meanwhile, forward-looking community banks have embraced cryptocurrencies and seen their balance sheets improve with it, such as San Diego, California-based Silvergate Bank.

“The Times They Are A-Changin”
Cryptocurrency is only one of many risks cited in the annual reports of major banks.
The rise in the number and nature of fintech firms has brought an explosion of innovation and competition.

Since the financial crisis, younger generations are growing up without the same relationship with banks that their parents and grandparents had, which has helped propel the growth of fintech companies focused on convenience and customized digital experiences.

This has paved the way for many fintech startups to excel in the financial services market. These companies are disrupting the status quo by providing a user experience that quickly adapts to the needs and desires of their customers.

With the genesis of bitcoin and blockchain, and the explosion in fintech, one thing is certain. In the words of Bob Dylan, the times they are a-changin’. And they’re changing in financial services on an unprecedented scale.

Blockchain: What You Need To Know



Cryptocurrencies and blockchain could directly affect banks as the technology evolves, and regulators start to pay more attention to the issue. But what does the board need to know about this seemingly complex technology? In this video, Wolters Kluwer’s Stevie Conlon breaks down the differences between blockchain and cryptocurrency, as well as the broader regulatory implications.

  • Blockchain vs. Cryptocurrency
  • Obstacles Facing the Cryptocurrency Space
  • Compliance and Regulatory Concerns

Blockchain is Coming, but It’s None of Your Business…Yet


blockchain-5-18-18.pngFor most banks under the $20 billion asset threshold, blockchain technology—the distributed ledger—will be a tool like every other technology tool. Banks under that size will be provided that tool by established providers or very large institutions and the tool itself will enable typical banking businesses like extending credit, payments and wealth management.

While there is a ton of argument about the validity of the distributed ledger as a tool that enables currency that is untethered to a government or regulation, there is widespread belief that the technology behind the currency itself can carry value and be a boon for banks. It is useful because blockchain technology is enables faster, cheaper and fully transparent transactions in near real time.

Blockchain has potential to carry property deeds, stocks or insurance. Many banks have been skeptical about the technology because of the speculative nature of the cryptocurrency market and the dubious ethics of some of the folks running that market. But now many banks are starting to see it as a solution for quicker, cheaper transaction options.

JPMorgan Chase and the National Bank of Canada announced a debt insurance blockchain test. They believe that they can move debt insurance cheaper, faster and more securely on the distributed ledger, and they are doing a year-long test to find out. If that test works, the platform will have faced many challenges and presumably overcome them. It will have to get multiple regulators to sign off on it, it will have to integrate old systems’ data with the new platform, and it will have to prove that this new technology is actually superior to old systems.

Many banks under $20 billion can and will use it when it is rolled out by a reputable provider. So don’t worry too much about blockchain for now—you will be using it when it has been developed by a much larger institution with the capacity to invest in its trials. One important part of that process will be creating shared protocols. Right now, there is no one blockchain, and there is no one common language where one chain can talk to another. That will probably need to change if it is to become ubiquitous.

There are exceptions for banks below $20 billion
When you are a bank that is a specialist in a particular line of business, you should watch the enablers of that specialty with keen interest. If a bank makes 80 percent of its profit through commercial real estate lending, for instance, that bank should be looking at anything that enables better, quicker, easier service, better pricing, or cheaper production. Adopting the technology that gets the bank in front of most competitors will eventually increase potential for growth, profitability and market share.

It doesn’t matter if that technology is Statistical Analysis System (SAS), or on a distributed ledger, someone in the bank should be trying hard to be the second adopter of the technology that will make the bank so much better at what it does well. That is when a bank should care about blockchain—when it is proven enough to not to be a nightmare to your bottom line or your employees, and provides a competitive advantage in an area that really counts.