• Crypto banks are in debt to themselves due to the lack of a clear and comprehensive crypto regulatory framework.
• In 2018, Bitfinex, an exchange, took out a loan from USDT issuer Tether to cover for withdrawals, resulting in Tether receiving an IOU from Bitfinex.
• The lack of a clear regulatory framework has posed a risk to investors, as the possibility of a bank run is high in the crypto banking sector.
Crypto banks have been facing a challenging situation in the past year due to the plummeting digital asset prices, leading to the collapse of several crypto firms. Unlike traditional banks, crypto lenders operate differently and without the necessary frameworks such as the lender of last resort and deposit insurance, which makes them more vulnerable to bank runs.
The case of Bitfinex is a prime example of the risks involved in crypto banking. In 2018, the cryptocurrency exchange lost a significant amount of customer funds, leading to an increase in withdrawal volumes. To meet the gap, Bitfinex took out a $625 million loan from USDT issuer Tether. The loan allowed Bitfinex to continue operating and return to profitability, however, it landed Tether in trouble with New York regulators as the transaction was not considered 100% legitimate in accounting.
The lack of a clear and comprehensive crypto regulatory framework has made crypto banks most in debt to themselves, as the possibility of a bank run is high in this sector. This poses a risk to investors, as the lack of regulations means that the money invested in these banks may not be protected. Although some governments have attempted to regulate the crypto industry, the lack of clarity has caused confusion, creating even more risk for investors.
In order to protect investors and ensure stability in the crypto industry, there needs to be a clear and comprehensive regulatory framework in place. This would ensure that the money invested in crypto banks is secured, and that the possibility of a bank run is reduced. Until then, investors should be aware of the risks involved in investing in crypto banks and take the necessary steps to protect their investments.