Titles VI and VII of the Responsible Financial Innovation Act, introduced by Sens. Kirsten Gillibrand and Cynthia Lummis, would authorize the chartering of unsafe, unsound, and uninsured stablecoin banks. Their bill ignores crucial lessons from the past 50 years of financial regulation and could plant the seeds for the next banking crisis.
Title VI would authorize the states and the Office of the Comptroller of the Currency to charter special-purpose banks that issue stablecoins. Stablecoins are digital assets that are redeemable on demand and promise to maintain parity with the U.S. dollar or another designated fiat currency. Stablecoins are digital deposits, but the Gillibrand-Lummis bill would allow stablecoin banks to operate without federal deposit insurance. The bill would also permit stablecoin banks to engage in a variety of “incidental” activities.
Title VII would require the Fed to provide stablecoin banks with master accounts. Those master accounts would enable stablecoin banks to receive Fed payment and settlement services, including Fed guarantees for payments made on Fedwire, daylight overdraft privileges, and instant payment services under the forthcoming FedNow program. National stablecoin banks chartered by the OCC would become Fed member banks and could borrow from the Fed’s discount window.
Until recently, a deposit-taking bank could not receive a bank charter or obtain a Fed master account unless it was approved for federal deposit insurance by the Federal Deposit Insurance Corp. Since Congress established the FDIC in 1933, the OCC has not issued charters to uninsured deposit-taking national banks. Prior to 2019, every state required state-chartered banks that accepted deposits from the general public to obtain federal deposit insurance.
State laws requiring federal deposit insurance for deposit-taking banks were the product of hard experience during the savings and loan and banking crises of the 1980s and early 1990s. During those crises, systemic failures occurred among state-chartered depository institutions that relied on state-sponsored deposit insurance schemes. The collapse of state-sponsored deposit insurance schemes inflicted severe losses on depositors and local economies in several states, including Colorado, Ohio, Maryland and Rhode Island.
Unfortunately, Wyoming (in 2019) and Nebraska (in 2020) disregarded the lessons of history and began to charter banks that accept crypto deposits but do not have federal deposit insurance. In 2020, acting Comptroller of the Currency Brian Brooks invited crypto banks to apply for uninsured deposit-taking national bank charters. The Conference of State Bank Supervisors promptly filed a lawsuit that prevented Mr. Brooks from granting such charters during his tenure.
As indicated above, the Gillibrand-Lummis bill would codify the foregoing departures from sound banking principles by authorizing charters for uninsured state-chartered stablecoin banks and uninsured national stablecoin banks. The bill would also give significant federal benefits to stablecoin banks by providing them with access to Fed master accounts and related services, guarantees, and loans from the Fed. Terra’s recent collapse, Tether’s temporary loss of parity with the U.S. dollar, and the ongoing turmoil in crypto markets indicate that uninsured stablecoin banks would create very significant risks for the Fed.
Title VII of the bill would allow a state supervisor or the OCC to appoint the FDIC as receiver for a failed stablecoin bank, but it would prohibit the FDIC from requiring stablecoin banks to pay deposit insurance premiums. The bill would allow the FDIC to use the "capital" of a failed stablecoin bank, but in virtually all cases that "capital" would be gone by the time the bank collapsed into receivership. Imposing the costs of stablecoin bank receiverships on the FDIC (and potentially U.S. taxpayers) without requiring stablecoin banks to obtain federal deposit insurance and pay the required premiums would create moral hazard and regulatory arbitrage on steroids.
Title VI would create additional problems by mandating extremely weak forms of capital regulation and holding company regulation for stablecoin banks. Stablecoin banks and their owners would not be required to comply with community reinvestment standards, consumer protection rules, and other regulatory safeguards that FDIC-insured banks must satisfy. Thus, stablecoin banks and their owners would receive most of the benefits and privileges of banks but would be exempted from the vital public interest mandates established by the Federal Deposit Insurance Act and the Bank Holding Company Act.
Title VI would allow a state bank supervisor or the OCC to determine (1) what types of non-U.S. government securities a stablecoin bank could hold as “safe and sound” reserves, and (2) what types of "incidental" businesses a stablecoin bank could conduct as “safe and sound” activities. We should remember that state and federal authorities allowed savings and loans to invest in high-risk “nontraditional” assets — including speculative real estate developments, thoroughbred horse farms, and junk bonds — that led to disastrous failures during the 1980s and early 1990s. Similarly, the OCC permitted national banks to engage in a wide range of hazardous “incidental” activities — including underwriting subprime mortgage-backed securities and dealing in toxic derivatives — that helped pave the way for the global financial crisis of 2007-09.
A key lesson from the savings and loan and banking crises of the 1980s and early 1990s is that depository institutions are likely to inflict large bailout costs on the federal government and U.S. taxpayers if they do not have strong capital, rigorous oversight, and well-funded federal deposit insurance protection. We learned that lesson again in 2008 and 2020, when the federal government bailed out poorly regulated, undercapitalized, and uninsured shadow banks (including securities broker-dealers and money market funds).
State bank supervisors and the OCC are subject to the same temptations that influenced state and federal supervisors of savings and loans and the OCC from the 1970s through 2008. Chartering agencies have strong incentives to issue more charters to expand their regulatory fiefdoms and produce higher volumes of chartering and examination fees that will finance bigger agency budgets. Chartering agencies also recognize that the federal government and U.S. taxpayers will bear much of the responsibility for dealing with the consequences of depository institution failures. The resulting gap between incentives and responsibility creates an obvious moral hazard problem for chartering agencies. That problem must be addressed by requiring all depository institutions and their owners to satisfy the regulatory safeguards established by the Federal Deposit Insurance Act and the Bank Holding Company Act.
The Gillibrand-Lummis bill ignores the lessons we have learned from catastrophic mistakes in financial regulation during the past half-century. Congress should heed those warnings and reject the bill.
