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Foreign.
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There's a lot going on. The news flow from Iran, the Middle east and the Gulf is relentless. But we mustn't take our eye or ear off other stuff. One of the other things bubbling up now is stablecoins, crypto flavored kinda dollars that live in the virtual world. Donald Trump took a break from Iran earlier this week to lash out at banks which had been pushing back at efforts to draw stablecoin operators into the heart of the financial system. That is unacceptable, he said. We are not going to allow it. In other words, let the crypto in. Now, listeners, do yourself a favor and make a note of this, because maybe not today, maybe not tomorrow, but one day the impact of giving crypto a seat at the highest tables in finance will bite. Today on the show, we'll tell you why this is unhedged, the Markets and Finance podcast from the Financial Times and Pushkin. I'm Katie Martin, a markets columnist in beautiful sunny springtime London, and I'm joined as usual, by the bald eagle himself, Robert Armstrong, off of the Unhedged newsletter in New York. Rob, say hello or give us a squawk Hello. Both. But also we've got an actual brain box in the London studio with me to unpack what's going on. Brendan Greeley of Princeton University, a proper expert on banks, banking, economic history and money. Brendan, welcome back.
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I'm a financial historian and I'm here to help.
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B
So, listeners, there's me and then there's two rich baritone American voices here today. If you get confused, the one who knows what he's talking about is Brendan. So, Brendan, I'm gonna put words in your mouth here. I'm waiting and say that you don't like crypto very much.
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I just don't think it's that novel.
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Right.
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I just don't think it's special. So I have students and half of them want to go into finance and they, you know, they agonize. Do I want to go into DeFi or TradFi? And I have this talk that I
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give them because defi is like the crypto world.
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The crypto world or tradfi, which is, you know, I guess, all of the rest of history.
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Ye.
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And I have this talk I give them where I'm like, my dude, you're going into fi. It's all the same thing.
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It's all the same fi.
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So the way I think of crypto is that it's a big fancy word that applies to a lot of different things and a lot of different technology. And I Think of crypto as finance, as if the past never happened. Everything we're going to talk about today and everything that we talk about under this wide umbrella of crypto has an analog that we already know, that we already understand, that we already regulate. So.
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But that we've conveniently memory hold or completely forgotten.
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Yeah, that's exactly it.
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So the crypto universe, to the extent that we're going to talk about it today, splits up into two areas. There's crypto, right? So there's tokens, effectively, like bitcoin or Dogecoin or Melania Coin or whatever you like. They're all fundamentally the same thing. They just have different values attached to them. People always say to me, oh, I don't understand crypto. Surely it's just like a bit of, you know, it's just a token and it goes up if people buy it and it goes down if they don't. And I'm like, nope, you definitely do understand crypto. That's all there is to it. And then the stablecoins, which they're designed to be like a dollar that lives in the crypto ecosystem, so you buy one of these tokens, effectively one of these coins, and it's backed by a dollar that's held by somebody else. So a couple of important things have happened this week. So bitcoin itself got a bit of a boost earlier this week. It went up to about $72,000. For me, that's $72,000 above fair value, but whatever. And that's because Trump wrote on his social media platform, Truth Social, that, and I quote, the Genius act is being threatened and undermined by the banks, and that's unacceptable. We're not going to allow it. Right. What is the Genius Act? What is he talking about?
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So the Genius act has already been passed. What he means is the progress that was made under this piece of legislation that's already been made law is being threatened. So what it did was define for US regulators, US bankers, what a stablecoin is. It basically said, we're going to allow them and they're going to be regulated at the state level. That means a lot in the United States. It's actually very difficult for audiences abroad to figure out, like, how the American banking regulatory model works, because it's, it's so complicated. But broadly, there are two different ways to regulate banks at the federal level and at the state level. And so very crucially, the. Not just crucially, very crucially, the Genius act took stablecoin regulation and it put it at the state Level, you get a state charter to be a stablecoin provider. Then it said you absolutely have to have 100% reserve. If I give you a deposit of my fiat dollar and you're a stablecoin
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provider for normal people, that's just like a normal dollar.
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It's not a small Italian dollar with wheels.
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A Federal Reserve dollar. You have to hold 100% of that dollar in reserves, liquid, high quality assets.
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So if I give my dollar to a stablecoin operator like tether or circle, they have to go out and buy a dollar's worth of something to be there on their books.
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Yeah.
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For as long as I have that dollar with them.
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Yeah. So Rob and I had this conversation when the act was passed. We were looking at the law and trying to figure out, like, what's the profit in being a stablecoin provider if in fact you have to hold 100% of the dollars that are given you in some kind of liquid asset, that. That doesn't seem like there's a very high return there? I think there are a couple of answers. One of them is it looks like that you can also hold repo where the returns are a little higher. What that means is a repo is just a repurchase agreement. It's an agreement to buy something briefly overnight and then sell it back tomorrow.
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Yeah. Like really short term stuff.
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Yeah.
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So you can do some funny stuff with the money, but even if you don't do the funny stuff with the money, even if you just put it in short term government debt securities, I, as somebody who holds a tether or a circle token, I earn nothing from that. The operators take all of the interest payments.
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That's right.
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Happy days.
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Isn't that, I mean, we do that already. That's called banking, Katie. This is, this is my frustration with stablecoins. They're just banks. Every time I have a conversation with a crypto dude, they're like, no, no, it, it like absolutely clears at par with the dollar. Like, congratulations, my dude. That's a bank. Banking is you, you know, you take in a deposit and then you promise to return that deposit because you're holding onto some liquid investment that's going to give you a small return. That's banking.
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Mm. So, Rob, over there on your side of the Atlantic, stablecoins are great. Crypto is great. Is this sort of portrayed over there as like a huge wave of innovation and, I don't know, democratizing finance or. Like, what, like, why is it such a big deal?
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I think the excitement around crypto in America can be summed up in four words, which are I just got rich. So anybody you talk to, anybody you talk to in America who's excited about this technology is excited about it because they've either earned money on bitcoin or similar things, or they're starting a business, they're going to sell to somebody and make a lot of money. It's a speculative frenzy, Katie, as far as I can tell.
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Yeah. And so, like, so, Brandon, as you say, Genius act has been passed, which means that stablecoins are a thing, as you say, regulated on a state level. What is the opposition that's coming from the banks and does it make sense?
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So they want another run at it. So the new piece of legislation we're talking about is called the Clarity act, which, I mean, anybody who's covered any industry knows that when the industry says we need regulatory clarity, what they actually mean is, it is clear that we do not like the current regulation.
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Yes. Yeah.
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So what they don't like is in the Genius act, which is now law, you. You cannot pay interest on a stablecoin deposit. They want another crack at that. They want to be able to offer some kind of a reward. It looks like maybe what'll happen is you'll have a stablecoin, you'll hold it with a company, and the company will offer you rewards in the form of other tokens.
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Can we take a step back, Brendan, just briefly, and what was the idea behind the original prohibition on paying interest on a stablecoin deposit? Was that to discourage the stablecoin managers from taking too much risk?
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I think yes. Because if you're paying interest, then you gotta go out and buy something risky to make a profit. I think more importantly, the banks hated
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it because they compete with banks.
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Yeah. So the problem with this conversation in general, not the conversation I'm having with you two lovely people, but the conversation in general is the banks aren't the good guys. We just know how banks work. When we look at stablecoins and banks, there is a long 200 year history of Americans figuring out, how do we, how do we. How do we keep banks from blowing up? And when they do blow up, how do we keep them from blowing up people's dollars that they use for normal daily transactions? Right. This is crisis after crisis after crisis, regulatory response after regulatory response. We've built up this framework. So now we have this framework. So at the very least, we. We know how banks work. We know roughly how to control them. And we've been fighting that fight.
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And normal People don't need to think about dollars.
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Yeah. So you know, in the 1920s if you. This was before Federal deposit insurance. When you look at bank advertisements, they would advertise their assets. You had to know as a consumer who was keeping your money with a bank, how stable the money was because you had to know how, how the assets the bank was holding to make sure that your money had meaning. That stopped after deposit insurance. Again, 1932, another crisis. A lot of banks in America closed their doors. People didn't have access to their deposits. We opened the banks back up by figuring out how to buy those assets and give them Federal Reserve dollars. And we very quickly in America passed a national deposit insurance act where every bank now pays in, pays an insurance premium every year to make sure that if their books blow up that their dollars continue to have meaning. So stablecoins basically offer exactly what a bank has always offered, except without any of that regulatory apparatus that we've been slowly building up for two centuries.
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So how does the stablecoin blow up in the style of a bank? If they are following the rules, if they are following the rules of the genius act, they have to own pretty basic stuff backing up the deposits. Right. It's like short term treasuries and dollars, isn't it? So I mean, if they follow that rule, how can they blow up?
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How do we know they're following the rule?
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We don't have to. In this age though, Brendan, I'm push you, in this age you don't need some like fellow in a stiff collar wearing pince nez going into the vault of the crypto coin.
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Yeah, we do, but don't 100%.
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Can't you do it electronically?
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Right, well, yeah, but what are the. So all of the problem with the stablecoin is when we talk about crypto, it sounds super whiz bang like all of this stuff is on the Internet and you can see it. But a stablecoin, it's a company with a fiduciary responsibility to make sure that its tokens have value in the exact same way that a bank is. You can't see what they buy. We don't know what they're holding, they tell us. But the regulation isn't that intrusive. And so the reason you need bank regulators, you can't just have laws, you need regulators and you need regular periods where they can go in and they are given complete access to the bank's books. Because you know banks, they kind of fudge it a little bit if they're allowed to. That's a natural instinct.
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So, so broadly speaking, the way this, this whole debate is developing in the UK at the moment is that the bank of England, Andrew Bailey at the bank of England, governor of the bank of England, has said, okay, people want to launch sterling stablecoins. They have to be two things. First of all, they have to be stable, so they have to be properly backed and we have to be able to check whenever we like that the backing is all there. And second of all, they have to be coins, which effectively means not physical coins, but you have to be regulated right up the wazoo in exactly the same way as banks are. We have to be up in your stuff day and night. We want to know who's in charge of what. We want to know what your processes are. You know, there's like, there's rules that come with operating like a bank.
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So this is the challenge and this is why we have to make this America's weird banking system clear to a non American audience. You have state regulation and you have federal regulation. And my fear right now, if we're going to lay down a marker today and say this is all going to blow up and we're going to be on the hook for it, my fear right now is what we did with the Genius act is that we took stablecoin regulation and we gave it back back to the states. We are at the status quo of the early 19th century in America.
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Back to the future.
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And Katie's absolutely right. What you need if you want to have stable stablecoins is that you need to be all up in their business. States are going to be competing to see how far up the wazoo you go as a regulator and how not far.
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It's going to be a race the other direction.
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It is going to be a race down the wazoo, if you will.
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I'm really sorry I bought wazoo, I'll be honest.
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But yes, it'll be. Let's wipe the metaphor lake clean. It will be erased to the bottom and you will have certain states that will become. We're going to have a Delaware of stablecoins and certain states. It looks like Wyoming is already one of them. But you know, states will compete for the privilege of being able to say, come open your stablecoin here. We're not going to be that intrusive. You can just give us a pinky promise once a year and we're good.
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Come to Texas, home of the wazoo coin and then.
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Stop it with that, Katie. Okay. And then the problem is Again, I'm just making sure I'm envisioning this apocalyptic scenario correctly. The problem is that the stable coin. Do we call them operators, Managers? Anyway, whatever they are.
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Providers. Providers.
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Providers. These providers, they invest in something besides dollars and short term treasuries and other very safe things.
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Yeah, that's, that's the worry. So the problem is you can give people all the legal reassurances you want that what they hold is not an actual dollar and that it's actually a speculative instrument. But if people come to think that what they hold is a dollar, if that dollar blows up and the balance sheet of the stablecoin provider is not what they promise it is, and that dollar suddenly doesn't have value, people get angry. And we see this again and again. Private banknotes in the 19th century. Private bank deposits in the late 19th century and early 20th century. Money market funds. In 2008, one of the many crises that happened, we all remember this was when a money market fund slipped below par when it broke the buck. All of a sudden a dollar was not a dollar. People got used to the idea that if you hold this thing, no matter what the lawyers tell you, you feel like it's a dollar and you make it the government's responsibility to make you whole if it suddenly is not a dollar. And that is where we're headed with stablecoin.
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So you actually don't even have to go back as far as 08 to see an example of this. 2023 Silicon Valley bank blew up. There was a bunch of regional banks in the US that went belly up when SVB died. It turned out that circle, one of the stablecoin operators had, count them, US$3 billion on deposit at SVB. And so suddenly they were like, oh, we're going to be needing a federal bailout here because otherwise we're stuffed. So there are vulnerabilities in stablecoins. But I just want to pivot really quickly onto the other piece of important crypto news that came out this week. Kraken, a crypto exchange. I don't like using the word exchange, but it's a place where you can buy cryptos. It's called Kraken. It said it had been granted access to the Federal Reserve's core payment system. It's going to be able to connect directly into payments infrastructure, including the central bank's Fedwire service. I'm reading from the FT here. The Fed's decision to grant Kraken access to its payments network brings the digital assets group in line with major banks and credit unions. Brendan Greeley, briefly, what can go wrong? And you don't have much time.
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So what we're already seeing is, I guess, what you could charitably call experimentation at the state level. So I worry about the race to the bottom. An optimist would see that as experimentation and innovation. Innovation and a good thing. You know, Wyoming has positioned itself as a state that's going to be friendly to crypto in a lot of different ways. And they granted a state level charter to Kraken under a brand new institutional charter that they just created in 2019, which is a special purpose depository institution. Katie Martin, how do you feel when I say the word special purpose in finance?
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A little bit sick.
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I have the overwhelming urge to complete your sentence with the word entity vehicle.
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But yeah, for listeners who aren't familiar, special purpose vehicles went very badly wrong. 0708 were a big part of the, I'm gonna say, shit show that came afterwards. So people who've been around in markets quite a lot just do not like to hear the words special and purpose together very often.
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And so what that means is the special purpose depository institution charter in Wyoming allows you to, as an exchange, actually hold onto people's deposits and make transfers to other banks through the Federal Reserve's balance sheet in the way that banks make transfers to each other through the Federal Reserve's balance sheet. I suspect the Fed is doing this because there's a lot of demand for this and it's coming. And Kraken is smaller than some of the other exchanges. It exists. Wyoming exists. It's actually in Wyoming. So in a way that they can grasp, I'd rather this stuff be regulated at the federal level, but the very least, like there is a legislature and law in Wyoming. And I think that they're trying an experiment in a small way to see how this works because they suspect that this is coming.
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What does access to these Fed payment rails do for Kraken? What can it do now that it couldn't do before?
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So I'm having trouble. This is one of those things where they're promising things in a press release and it's hard to figure out what they actually mean by the press release. One of the things that alarms me the most is they want you to be able to get out your crypto earnings through a debit card in Federal Reserve cash somewhere. So this is the thing is like I. And it feels like I'm out over my skis right now only because we're guessing what's going on actually in on the payment rails based on what Kraken is promising. But what they're saying is you can transfer what you have at Kraken in dollars, some sort of stablecoin to another bank. If Kraken is a bank you can transfer it to, you can make payments with it.
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Does that mean you can have a debit card and, like, pay. Pay for your groceries, effectively kind crypto?
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Yes and yes. Maybe. When they say debit card, that's what I suspect they're getting after. But what I think this actually means for those of us who think about balance sheets is it's going to be very easy on Kraken to move wealth back and forth between what you just earned in crypto and you cash it out and then it becomes actual dollars, and you hold that in your Kraken account, and then you can use that to pay for things. So it's basically a base account that is then used to. To invest in other, less valuable, even less reliable coins that are on Kraken's exchange.
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Really quickly, Brendan, what is the time frame for how long it takes for this to go wrong and cause a problem? Is it going to become a problem during the Trump administration, or will this be something that bites the next president in the neck?
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I think this is going to be the next president's problem. I think that's the problem with financial deregulation in America. Everybody blames George W. Bush for the financial crisis. God knows there are many things to blame George W. Bush for, but that one's on Clinton and the Clinton treasury and their rush to deregulate in the late 90s the finance industry. So the problem with easing up on regulation and oversight, it's not just regulation, it's not just the law. It's how often you check the wazoo to see what's in there. And in a lot of ways, the Trump administration has signaled that law kind of doesn't matter right now in finance, even if you do nominally break the law, you're not gonna get punished for it. They're not checking you out. They're not building a case. You can do no wrong. So the problem is, it does take a while. I can tell you this thing is gonna blow up. I can't tell you when. I can't tell you what crappy asset some stablecoin provider is going to be quietly buying. I can't tell you how that stablecoin is going to have burrowed its way into other parts of the financial system as a payment medium. We just don't know, but we'll find out. And when we do, I think we all agree, or at least Katie and I agree, the United States government will have to make every holder of a stablecoin whole. That's step one. And then we'll have to do all the regulation that we didn't do this time around.
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And the reason you're so certain, again, just trying to make your apocalypse clear to the listener, the reason you're so certain this goes wrong is that the desire of providers of banking services to put bad stuff on the asset side of their balance sheet. In other words, the side of the balance sheet on the other side from the deposits or the crypto coins or whatever else. The desire to put bad stuff on the asset side of the balance sheet is like a human universal that is eternal and always happens. That's the thesis here.
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Yes, absolutely. It is a human and sometimes laudable instinct to want to take huge risks on the balance sheet. And I think it's up to us as democracies to make sure that we take that human and sometimes laudable instinct and check up on it regularly to make sure that people are taking acceptable risks that aren't going to blow up money for the rest of us.
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Brendan, I'm going to read back to you a line that you put in a column last year for the FT about crypto, saying you're just a dad worried standing in front of another dad who is not. Now you've made all of our listeners worried as well. So congratulations on that achievement. We're going to break and come back in just one second with long shorts. It is time for Long Short, that part of the show where we go long a thing we love or short a thing we hate. Brendan Greely, Whatcha saying?
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C
I am Long Maidstone United, the football team in Kent county in England.
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B
Amazing.
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I spent this week in the Kent County Archives looking at the 17th century banking papers of John Banks. Those archives happen to be right next to the stadium for Maidstone United States, the football team. I, I went, I watched, I stood right next to the field. That stadium is absolutely perfect. There's a pub in the stadium and there's also a place in the woods near the stadium where you can not have to pay the entrance fee and stand in the woods and drink. And I saw a guy doing exactly that. Everything was perfect about this football game that I watched.
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Good times in in provincial England.
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Go you Stones.
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Rob, what are you saying?
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I'm Short T.S. eliot. Know why?
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No, I don't.
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He's the guy. He's the guy, isn't he the guy who said that April is the cruelest month.
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B
Cool.
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That was T.S.
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eliot.
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Okay, well, anyway, it's not March is the cruelest month. March is the worst. It's still winter, but you're kind of thinking that it's supposed to be spring. It's just 30 days of torture. So your short March, March, the whole month.
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Okay, fine. I am long the people who are hurrying back to Dubai to avoid incurring large tax bills by spending too long outside the Emirates. So there are lots of people trying to get out of Dubai because of the conflict going on in the whole region. There have been explosions in Dubai over this whole thing with Iran. But at the same time, there are a bunch of people who are trying to get back back there so they're not in the UK for example, for too long and they don't end up getting taxed over here. I just think there's never been a better way to show to people who you really are. And. And yeah, no notes. Perfect. So listeners, we are going to be back in your ears on Tuesday. Please listen up then. Unhedged is produced by Jake Harper and edited by Bryant Urstadt. Our executive producer is Jacob Goldstein. We had additional help from Topher Forehead. Cheryl Brumley is the FT's global head of audio. Special thanks to Laura Clark, Alistair Mackey, Greta Cohn and Natalie Sadler. FT Premium subscribers can get the Unhedged newsletter for free and a 30 day free trial is available to everyone else. Just go to FT.com unhedged offer I'm Katie Martin. Thanks for listening,
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Sam.