The US Federal Reserve on Tuesday advised banks and other financial institutions under its supervision to check all legal aspects before involving in crypto transactions amid rising frauds and scams.
In an open letter, the central bank said, "Prior to engaging in new activities of any kind, a supervised banking organisation must ensure that such activities are legally permissible."
"The emerging crypto-asset sector presents potential opportunities to banking organisations, their customers, and the overall financial system; however, crypto-asset-related activities may pose risks related to safety and soundness, consumer protection, and financial stability," read the letter.
Risks In Crypto Activities
The bank noted that crypto transactions come with various risks. The following are some risks highlighted in the letter.
Technology And Operations Risk: The technology used in the crypto industry is still evolving; hence it poses "novel risks, such as those associated with cybersecurity and governance of the underlying network and related arrangements."
"These risks are particularly heightened when the underlying technology (related to blockchain and distributed digital ledger) involves open, permissionless networks," the letter stressed.
Money Laundering And Terror Financing Risks: The Fed said that crypto assets "can be used to facilitate money laundering and illicit financing." Besides, "some crypto-assets have limited transparency, making it difficult to identify and track ownership."
Consumer Protection and Compliance Risks: The crypto assets also "pose significant consumer risks, such as price volatility, misinformation, fraud, and theft or loss of assets."
The bank highlighted that banking organisations engaged in crypto-related activities face "potential legal and consumer compliance risks, stemming from a range of issues."
Giving an example, the Fed said, "uncertainty regarding the legal status of many crypto-assets; potential legal exposure arising from consumer losses, operational failures, and relationships with crypto-asset service providers; and limited legal precedent regarding how crypto-assets would be treated in varying contexts, including, in the event of loss or bankruptcy."
Financial Stability Risks: Certain crypto assets like stablecoins, "if adopted at large scale, could also pose risks to financial stability, including potentially through destabilising runs and disruptions in the payment systems," it said.
It said, "Given the heightened and novel risks posed by crypto-assets, the Federal Reserve is closely monitoring related developments and banking organisations' participation in crypto-asset-related activities."
What did the Fed's Directive Mean For Banks?
A banking organisation engaged in or is seeking to engage in "crypto-asset-related activities should notify its lead supervisory point of contact at the Federal Reserve."
Before engaging in crypto activities, a banking organisation under Fed supervision "must ensure such activity is legally permissible and determine whether any filings are required under applicable federal or state laws."
Also, before engaging in crypto activities, banks must have "in place adequate systems, risk management, and controls to conduct such activities in a safe and sound manner and consistent with all applicable laws, including applicable consumer protection statutes and regulations."