• Cryptocurrencies have experienced their own version of bank runs, similar to those seen in the 2008 financial crisis.
• These “crypto shadow banks” are unregulated and often offer high-risk services such as fractional reserve banking and borrowing.
• US regulators may choose to protect crypto shadow banks from runs or protect the real economy from exposure to these banks.
Crypto Shadow Banks
The crypto industry has grown over the past few years, recreating the same fractional reserve banking that was seen in 2008 and leading to its own set of “crypto shadow banks”. Companies like FTX, Celsius and Voyager are some examples of these firms that offer services such as fractional reserve banking and borrowing without any regulation.
Crypto has also witnessed its own series of bank runs, where customers withdraw their money due to a lack of trust in a company’s ability to return it when requested. This is especially concerning given the lack of regulations in place for these companies, which could make future runs even more destructive.
US regulators have two options: they can either protect crypto shadow banks from runs by covering them with deposit insurance and regulation; or protect the real economy from exposure to these banks by making it difficult for traditional finance institutions to develop ties with them.
The Choice Ahead
It remains unclear what choice US regulators will make—whether they will prioritize protecting crypto shadow banks or protecting the traditional economy from potential damage caused by these firms. It is clear, however, that this decision carries significance both for regulators and cryptocurrency users alike.