For those of us of a certain age, cryptocurrencies like bitcoin and others seem like a shadowy mystery figure in a 1940’s film noir classic.
So it was for me, until cryptocurrency came home.
A quick story: A few years back, my son invested $100 in a cryptocurrency exchange, Mt. Gox, at the time, the world’s largest Bitcoin exchange and wallet provider. His investment soared to several thousand dollars and then, seemingly in a flash, my son’s $100 investment that blossomed to make him feel for a moment like a blockchain Warren Buffet was gone, wiped out by alleged embezzlement by the company’s head, French national Mark Karpeles. Authorities allege that Karpeles swindled millions from the company, a crime that led to its untimely demise.
My son’s experience set me to thinking about cryptocurrency and community banks. After all, the Mt. Gox fiasco isn’t the first fumble for the virtual currency.
China, a huge potential market, has banned cryptocurrency, at least temporarily, because of mistrust by the Chinese government and its State-run banks. And the Chinese aren’t alone in dropping the hammer on Bitcoin and other merchants in the virtual money world.
In an article in thestreet.com, anti-virus software pioneer John McAfee said that governments have drawn a line in the sand against cryptocurrencies. McAfee made the comments at a blockchain technology gathering just after the Chinese ban took effect.
There are a number of questions in play regarding the $150 billion industry, thestreet.com reported, including how governments can tax cryptocurrency transactions and whether governments can impose limits on the ability of virtual currencies to “facilitate global fund flows.”
The South China Morning Post quoted McAfee saying, “Today will go down in history as the beginning of the war between the proponents of cryptocurrency and world governments.” There is a clear conflict between governments and supporters of the virtual currency underground.
And according to news accounts, virtual currency status varies from country to country. Australia currently places a double tax on such transactions, while China is still trying to determine the status of such currencies.
“If governments aren’t able to know what the movement is they will be unable to collect revenues,” McAfee said. “That’s going to cause panic in some countries. China sees it already.”
Even as huge markets like China have closed the door for now on virtual currency, the cryptocurrency market continues to grow, according to thestreet.com. It’s expanding even in the face of criticism that the virtual currency is a bubble and a way for illegal businesses to operate underground, creating a black market. McAfee’s company, MGT Capital Investments is one of America’s biggest bitcoin miners. The industry is expanding not only in the U.S., but in Russia and the rest of Europe. Proponents of virtual currency say the Chinese ban will have little impact. See full story here: https://www.thestreet.com/story/14315079/1/bitcoin.html
Sovereign nations aren’t the first to declare war on cybercurrency. JP Morgan Chase CEO Jamie Dimon called virtual currency “a fraud,” Bloomberg reported. Dimon predicted the cryptocurrency market would crumble, saying virtual currency “won’t end well.” He also said he’d sack any trader that bet on bitcoin.
Dimon does not believe nations will allow cybercurrency to exist without effective government oversight. Read the full article here: https://www.bloomberg.com/news/articles/2017-09-12//jpmorgan-s-ceo-says-he-d-fire-traders-who-bet-on-fraud-bitcoin
“Someone’s going to get killed and the government’s going to come down,” Dimon told Bloomberg. “You just saw in China; governments like to control their money supply.”
Dimon however, differentiated between blockchain technology and cryptocurrency. Blockchain may be part of banking’s future, but far down the road.
Still the currency continues to grow. Prices have spiked 300 percent this year, sparking the continued debate over whether there is a virtual currency bubble. But in Europe, institutions like Falcon Private Bank of Zurich announced in August that it would allow its customers to hold bitcoin.
So, closer to home, what does cybercurrency mean for community banks and credit unions?
The Federal Reserve is direct: Proceed with caution. Your bank needs to be aware of the risks, because virtual currency will be more common in the future, according to a blog by the law firm of Frost Brown Todd.
Writing in the Federal Reserve System’s Community Banking Connections, Wallace Young, director of the Federal Reserve Bank of San Francisco, pointed out that community banks need to be aware of the compliance, operational, reputational and credit risks associated with cryptocurrencies. Read the complete article here: https://communitybankingconnections.org/articles/2015/q2/virtual-currencies
Compliance and legal risks are perhaps the most important a community bank must consider when entering the world of virtual currency. These risks are unique.
“Quite simply, many users of virtual currencies do so because of the perception that transactions conducted using virtual currencies are anonymous,” Young wrote. “The less-than-transparent nature of the transactions may make it more difficult for a financial institution to truly know and understand the activities of its customer, and whether the customer’s activities are legal. Therefore, these transactions may present a higher risk for banks and require additional due diligence and monitoring.”
There’s also the reputational risk to your institution, Young wrote. At BankMarketingCenter.com, we see that as critical for our clients. In small towns, reputation is everything, a close second to legal and compliance concerns. The Mt. Gox disaster – losing $400 million in customers’ bitcoins. As a result, Mt. Gox’s bank is now a defendant in the many lawsuits filed against the one-time virtual currency giant. The bank never held Mt. Gox’s bitcoins, but it did serve its banking needs. In at least one of the lawsuits, the complaint alleges that the bank should have known about the alleged fraud and that the bank profited as a result of the fraud. As a result, the bank was hit with a legal/reputational one-two punch.
Next Young raises the specter of credit risk to a bank. On the horizon, it’s not hard to believe that at some point, a customer may want to use a virtual currency to secure a loan.
“In this case, caution is appropriate,” Young wrote. “Bankers should carefully weigh the pros and cons of extending any loan secured by bitcoins or other virtual currencies (in whole or in part), or where the source of loan repayment is somehow dependent on the virtual currency.”
In the virtual currency world, value can fluctuate daily. Obviously, the volatility of the currency can cause major headaches.
And last, there are operational risks. What if your bank has made a business loan secured in part by virtual currency and the borrower defaults? The cryptocurrency in the equation means operational challenges that mandate that a bank must have internal safeguards in place. As cryptocurrency becomes more prevalent, these types of scenarios may be a future reality.
The lesson is clear. Be cautious, but be proactive. How your bank addresses the challenges and opportunities of entering the virtual currency world will impact not only the bottom line. In an instant, it could destroy the reputation your community bank or credit union has labored so long and hard to build.
Please share how your bank is dealing with cryptocurrencies, if at all.
