2022 was a cataclysmic year for the cryptocurrency industry.
It began well enough, with some cryptocurrencies reaching historical highs and several high-profile celebrities openly endorsing non-fungible tokens (NFTs). But as quickly as the cryptocurrency industry gained traction, it rapidly nosedived as one major centralized finance (CeFi) institution toppled after another.
This all boiled down to investors’ technological ignorance and the misplaced trust they placed in centralized custodial providers like FTX and Three Arrows Capital.
Now, history is repeating itself, with institutions continuing to entrust their cryptocurrencies to custodial providers. In doing so, they put themselves at grave risk of losing their assets, especially in light of the US government’s recent efforts to crack down on cryptocurrencies.
The US government’s suspicion towards cryptocurrencies is not new, and recent events only served to bring this to the fore. This began with the insolvency of Silicon Valley Bank (SVB), which the US government leveraged to wage an offensive against cryptocurrency-friendly entities.
Although SVB’s collapse was not directly caused by cryptocurrencies, its status as a cryptocurrency-friendly bank set off a series of implosions. First, the USDC stablecoin was depegged, sharply declining in value to 85 US cents. This was linked to USDC’s operator Circle holding USD 3.3 billion of its USD 40 billion reserves with SVB.
Although Circle clarified that it would “cover any shortfall using corporate resources”, the damage was done. Shortly after USDC’s depegging, the New York Department of Financial Services (NYDFS) swiftly shut down Signature Bank, another major cryptocurrency-friendly bank.
Officially, the NYDFS claimed that their decision to shut down Signature was due to the bank’s “[failure] to provide reliable and consistent data, creating a significant crisis of confidence in the bank’s leadership.”
However, this was contradicted by Signature Bank board member and former congressman Barney Frank of the Dodd-Frank Act. In a phone interview with CNBC, he shared that Signature “had no indication of problems until [they] got a deposit run”, believing that “regulators wanted to send a very strong anti-crypto message.”
The NYDFS’ claim of a “crisis of confidence” is incongruent with the joint position taken by the Federal Reserve, Federal Deposit Insurance Corp., and Office of the Comptroller of the Currency (OCC) in January 2023, where they asserted that issuing or holding cryptocurrencies “is highly likely to be inconsistent with safe and sound banking practices.”
Essentially, SVB’s collapse is a precursor for the US government’s offensive against cryptocurrencies. Later on 27 March 2023, the White House released a 513-page economic report declaring that “blockchain technology has fueled the rise of financially innovative digital assets that have proven to be highly volatile and subject to fraud.”
Just days later, the US Commodity Futures Trading Commission (CFTC) sued cryptocurrency exchange giant Binance over alleged regulatory violations. According to the CFTC, Binance had “routinely [broken] American derivatives rules” and “failed to implement an effective anti-money laundering program.”
Within the same period, the Securities and Exchange Commission (SEC) shut down cryptocurrency exchange Beaxy on 29 March 2023, alleging that the company failed to register as a securities exchange and that the founder had embezzled customer funds. It was later revealed that this shutdown was part of the SEC’s latest campaign to “chase down crypto misconduct.”
Moving forward, we fully expect the US government’s offensive against cryptocurrencies to continue earnestly. It is, therefore crucial for institutions to arm themselves with the necessary tools and knowledge to protect themselves and their assets.
Against the US’ antagonism against cryptocurrencies, it is of utmost importance for your institution to prepare and protect its digital assets. Below are five core steps your institution must take to safeguard its digital assets:
Apart from the overwhelming evidence of the US’ bias against digital assets, the CFTC’s crackdown on Binance also set a dangerous precedent for the US to go after all cryptocurrency-linked organizations - even if they have no US residency.
It is with this hostile climate in mind that we strongly urge institutions exploring cryptocurrencies to move their assets out of the US. You should also work with non-US custody providers who are based in cryptocurrency-neutral or -friendly jurisdictions.
Get our list of recommended jurisdictions in this white paper.
The US Department of Treasury actively participates in the G7 and G20 summits to bring attention to a breadth of international economic development and security issues.
Cryptocurrencies factor into these issues, and the US could potentially leverage G7 and G20 to pressure other governments into imposing stricter sanctions. It is already known that the upcoming May 2023 G7 will push for tighter cryptocurrency regulations, attended by leaders from the US, Japan, UK, Canada, France, Germany, and the European Union.
Once you’ve decided where to set up your institution’s digital asset operations, consider how you would store and manage your digital assets. There are two broad options that are available: third-party and self-custody.
Third-party custody is as its name suggests: your institution entrusts its private keys and digital assets into the custody of a third-party intermediary. Third-party custody is not recommended for institutions, as the intermediary operates on centralized finance (CeFi) principles that remove any obligation for it to be transparent and accountable.
Instead, institutions should practice self-custody. With no third-party entity in the picture, self-custody empowers institutions to control their private keys and digital assets.
Self-custody is the superior option for institutions to protect their digital assets, but there are further considerations that must be accounted for. In general, there are two types of self-custody wallets that are designed for institutional use: multi-signature (multi-sig) and multi-party computation (MPC).
Between the two, multi-sig is more secure. While MPC is commonly touted as the superior security option, it is, in fact, riddled with fundamental flaws. Amongst these flaws, MPC’s centralized nature is the most concerning, as it enables regulatory bodies to seize private keys and assets on a whim.
Learn more about the other problems that are inherent to MPC in this white paper.
Across the market, custody providers commonly deploy infrastructure built by Google and Amazon. Should the US authorities decide to crack down on cryptocurrency companies, they would first target infrastructure providers.
This is where the tenancy of the infrastructure provider becomes especially important - consider the following comparison between single-tenancy vs multi-tenancy:
Although multi-tenancy improves efficiency, this comes at the cost of stickiness. This means that it is very difficult for custody providers to relocate their operations to another country should the need arise (eg: when the US cracks down on custody providers). When this happens, institutions will inevitably lose their private keys.
The war that the US is waging on cryptocurrency shows no signs of abating, and it will only continue to intensify as time passes. It is clear that swift and decisive action is necessary.
The astute institution must therefore work with a custody solution provider that is equipped with the following features:
Levain accounts for every factor listed above. Headquartered in cryptocurrency-friendly Singapore, Levain furnishes your institution with a robust multi-sig, single-tenant, and self-custody wallet to secure your digital assets.
Find out more about how Levain enables institutions to securely custodize their digital assets in a truly autonomous manner. Get in touch at levain.tech.