Circle’s Disparte speaks on de-risking crypto from banking risks

Transcript

Angie Lau: History has a way of repeating itself, and it seems like deja vu all over again for the financial world. Investments gone wrong, unpredictable bank runs and regulators stepping in with emergency funding. It’s all sounding like a little 2008 again, but this time cryptocurrencies are potentially at the eye of the storm. 

The company behind the second largest stablecoin in the world, USDC, had a staggering US$3.3 billion exposure to Silicon Valley Bank that just collapsed. 

Today, we talk to one of the biggest names in the crypto universe to understand what is going on. 

Welcome to Word on the Block, the series that takes a deeper dive into blockchain and all the emerging technologies that shape our world at the intersection of business, politics and economy. It’s what we cover right here on Forkast.News. I’m Forkast Editor-in-Chief, Angie Lau. 

Today, we are in conversation with Dante Disparte, chief strategy officer and head of global policy for Circle. 

Dante, it has no doubt been a harrowing couple of days. Thank you for joining us on such short notice to bring clarity to the markets. We really appreciate it. 

Dante Disparte: It’s a pleasure being on with you, Angie, and not without a sense of irony that one of the things we should be talking about in this conversation is the fact that we are de-risking in many respects crypto from risks in banking. 

So, I’m happy to be on with you. Lots to cover. 

Of course, the main point that Circle wants to portray to the world is that we have addressed comprehensively the exposure to Silicon Valley Bank, and we’re looking at stabilizing the operation of USDC across the world as a result of that. 

Lau: I don’t think that irony is lost on anyone. When you take a look at what led to the downfall of SVB and it certainly had nothing to do with crypto and everything to do with mismanaged long-term treasuries. I don’t know how institutionalized that gets, but that’s what happened. 

Today is Monday, March 13th. It is five days after Silvergate, a firm that started in 1988, got big into crypto in the mid-2010s, now defunct shortly after SVB also fell in spectacular fashion. Take us through the series of events from your view. You woke up March 8th and then a few hours later, the headline, Silvergate is winding down and liquidating then from there triggering a series of events. 

How did you start your day and what happened? What has happened since? 

Disparte: For starters, we confront the challenges in the American regulated banking system with the humility that it deserves as a company. 

Circle is regulated comprehensively as an electronic stored value company or a state money transmission firm that imposes on us a very high standard of obligations of fiduciary protection of all USDC reserves. And we’ve done that comprehensively through what I would describe as a real stress test of not only the US economy, but also the interconnections between digital assets, economy and traditional finance. All too often, crypto is framed as an innovation that would kill banks and has no dependencies on Wall Street. But the operating reality is that these two innovations need coexistence and have deep codependency. 

If a Circle as a company, as a regulated money transmitter in the United States, cannot have confidence in banks for something so simple as a de minimis share of USDC reserves held in counterparty banks for transactional services or deposit-taking services, then there’s a bigger loss of confidence in the U.S. economy. That’s candidly what we have been dealing with. 

There’s something to be said about the irony that the three banks that have failed in successive order all begin with the letter ‘S’. The crisis, as you rightly pointed out, Angie, began with the failure of Silvergate, was important operationally because it provided a payment network known as SEN (Silvergate Exchange Network) to the broader digital assets economy. 

Shortly thereafter, potentially some of the contagions from Silvergate may have affected Silicon Valley Bank, but as you point out, it’s a much more robust bank and had wide exposure to the innovation economy, entrepreneurs, start-ups, capital providers and so on. Lastly, the receivership of a signature bank most recently. 

We’re dealing with a very live dynamic scenario. But across the board, our principal order of business has been to protect the dollar parity of USDC, which we have done. 

Lau: Let’s dive into what is critical here because when SVB really shocked the world and started winding down, everybody looked to FDIC — US$250,000 doesn’t return much to a US$3.3 billion exposure. I know that you and your team have been working around the clock. What were the conversations like behind the scenes with regulators and certainly the federal agencies involved?

Disparte: For one, just to kind of articulate it, Circle had US$3.3 billion of USDC reserves exposed to Silicon Valley Bank. Our company, as we had always done in good times and in bad, we espouse this concept of radical transparency and trust. 

During the course of this crisis, we wanted to over-communicate with the market, but as a result also over-communicate with other stakeholders and regulators, particularly about a couple of key things. 

The first is that we had initiated an outbound transfer request from Silicon Valley Bank the day before the FDIC receivership. That was critical because as a matter of policy, the FDIC receivership requirements would say that any outbound transfer in queue would process when the bank reopens, even if it’s under this public sector receivership model. Of course, we were watching with pins and needles based on that de-risking the morning after the next day. We were not satisfied that that was sufficient transparency or confidence. The next announcement coming from our CEO Jeremy Allaire was that the company would pledge even from its own balance sheet and corporate resources to protect the 1:1 peg of USDC even at the extreme scenario of requiring any type of backstop or external capital. 

As those announcements were being made, reason prevailed. A very difficult conversation amongst policymakers and regulators at the federal level to intervene because of the likelihood that the failure of Silicon Valley Bank would trigger contagion across the broader US economy and to other banks. And that prediction bore out with the receivership of Signature Bank in New York as well. 

Lau: Indeed, we’re seeing at least on Wall Street, the real concern of risk from investors and driving down the shares of Republic Bank and others in the banking system. So that certainly is a real concern. The other one was back in the crypto market when you communicated that US$3.3 billion was locked up for lack of a better terminology, but it was vulnerable. In SVB, we saw a de-pegging of Circle. What happened there with USDC? 

Disparte: Totally. Part of the uniqueness of digital assets is that information travels fast. Risk signals travel as quickly as positive market signals travel quickly and on-chain behaviors, on-chain use of USDC is literally on 24/7, 365. That is the most powerful feature of these innovations. 

However, what we’ve demonstrated through these bank failures is that there is a codependency on interoperation with the traditional banking system and banks. When it became clear that there was a potential exposure of a share of USDC reserves that was instantly priced into the market, into the form of the USDC depeg, within minutes of Circle coming out again with our race to the top on transparency, that peg closed to $0.98 on the dollar for USDC on-chain. 

You have to remember the on-chain behavior and the pricing on-chain is typically arbitraged out by large allocators and capital providers in the crypto economy. That public messaging of trust, that assurance of Circle in its obligation as a regulated money transmitter and being the lender of last resort — if you will — including from our balance sheet to cover any shortfall against the dollar that was instantly signaled to the market, the depeg closed. Once we were able to provide the all clear yesterday, that the uninsured depositors with exposure to Silicon Valley Bank no longer had that risk, the USDC price parity on-chain has been restored to the dollar. 

But I should point out that on-chain pricing of digital assets, including dollar denominated stablecoins like USDC, is a market signal, much less so a signal of the actual economic parity of a digital asset. So in our case, redemption at par for a U.S. dollar, even in the issuer’s failure, is the operating standard that we have held. And that, frankly, is a standard on par with the best run global systemic banks when it comes to managing prudential risk. 

Lau: So what you’re saying, just to be enormously clear, is that the USDC 1:1 is a corporate promise that will always have economic parity. That is one bucket. The market rate, the de-pegging that we saw was a market function of how the greater market really incepted a lot of this information and priced it into that parity. Is that what you’re saying? 

Disparte: And one thing should also be clear. You know it better than anybody because you cover the sector so deeply is that there’s also, unfortunately, a little bit of a scorched earth market environment today in crypto after the industry collectively lost nearly US$2 trillion in 2022. People describe it as stablecoin wars. The exchanges are in deep conflict and the industry broadly is looking for corrections and remedies on some of the broad correlations and exposures from last year. 

Unfortunately, crypto Twitter is a fire. The targeted campaign spreading fear, uncertainty and doubt are also on fire. There’s a lot of scams out there and spoofs out there that’re trying to deepen the uncertainty around Circle USDC and exposure to the banking system. The best stabilization mechanism in that environment is trusted, truthful, transparent, constant communication to the broader market, and the market then prices that in.

Lau: That clarity was so important to the market. And certainly after the FDIC, the Fed and the Treasury all came out and basically said that they would make sure to restore all depositors, that trust was restored, at least to the parity that we saw in the marketplace. But what of this sucking noise that we’re seeing taking liquidity out? What are you seeing? Some concern there. We saw a big hit to the market cap of Circle USDC. So is that a function of just the volatility and the sentiment right now? What is it? What is it a signal of? 

Disparte: The key is, there’s actually a powerful counter-narrative. If history bears out. USDC has proven to be the flight to safety asset. When the collapse of Terra-Luna occurred, it was the flight-to-safety asset. With the collapse of FTX last year, it was the flight to safety asset. 

Even now, I would argue holding USDC as the ultimate coin holder with price parity for the dollar. Even in the worst of this Silicon Valley Bank exposure, it would have been a US$3.3 billion haircut in the extreme. Of course, the FDIC, even in a full receivership, doesn’t make all depositors lose money. The FDIC, of course, is going to prioritize insured depositors and then work upwards. But what the government ultimately announced means no risk exposure is held at that particular counterparty bank. If the industry is long the thesis that Bitcoin is a risk-off asset, when there’s risk in the real economy, you still need a digital dollar in which you could trade in digital assets markets, not to mention the utility value use cases of payments. It would stand to reason that while Circle is prepared to meet redemption demands as they come in, I would also argue it’s critical to acknowledge the minting demands and the the net new issuance of USDC in a world in which investors, operators and coin holders want to get decorrelated assets from risks in the real economy, which we learn from these banking failures is real. 

You’re going to need a trusted digital dollar to do that. 

History will bear out that this was a stress test. My hope is that just like you needed 2008 to get comprehensive banking reforms, that all of these losses compounded from 2022 through to the risks that we’re now seeing in the banking system. All of these risks start to accrue to urgency from legislators, policymakers and regulators to begin to protect consumers at the comprehensive whole of government level, as opposed to relying on this patchwork approach that we have in the United States for regulating this industry.

Lau: We’re seeing a little bit of that sentiment play out in the crypto markets with the restoration of value in Bitcoin and Ethereum and the like. Is that a characteristic of potentially this: There is a de-risking nature to what is happening in the U.S. economy where inflation is high, but the likelihood of interest rate cuts to contain that is likely off the table? We might even see a rate cut. We might even see some quantitative easing to be the economic backstop for this nascent banking contagion that the government is and the federal regulators are trying to control. What do you think is playing out right now? 

Disparte: What we’re facing broadly, and this is not just unique to the United States and it’s a global issue evident across markets, is that the whole planet is very deeply correlated and that one particular asset class, while it might have countercyclical features to risks in the traditional economy or in the real economy, cannot be fully contained from everything that happens everywhere else. 

That kind of gets back to the broader thesis that we have tried to demonstrate as a company, Circles, a 10-year-old firm. We’ve always taken a regulated first posture. USDC is a 5-year-old dollar digital currency. Even there, we’ve taken a regulated posture that this is not an innovation in context with banking, and that one has to win at the other’s expense any more than in the real world. We have to win at another country or another company’s expense. 

There is an opportunity here to demonstrate all ships can in fact rise together and that there are so many deep code dependencies that if you want USDC liquidity at the speed of the internet, you’re going to need banks to upgrade some of their core infrastructure to that open blockchain infrastructure on which we rely. To demonstrate that these two things can in fact survive a stress test side by side, whether the storm side by side is a powerful opportunity. And so in the same way that the world would be wrong to try to short the U.S. economy, it would equally be wrong to try to short trust in USDC. 

Lau: The minting aspect of it, where do you see a big part of that activity? Is that happening right now? 

Disparte: Today is one of these special days after any day post a weekend shutdown of major parts of the banking system. A day which began here in the United States with commentary directly from President Biden trying to shore up the U.S. economy. It’s a pretty unprecedented intervention in an environment where, post Dodd-Frank, these interventions from banking regulators were supposed to be history. But history is now repeating itself. Clearly, there’s still going to be a lot of uncertainty in all markets today. 

The fact that HSBC bought Silicon Valley Bank’s UK branch for 1 [pound] tells you a lot. We’re still in the beginning of a process. 

Risk is a spectrum of events. It’s not a single event and then it’s over on banking hours on Monday. It’s the beginning of a process here. 

We do expect, of course, as a business, to fully resume all of the operating requirements for minting and redemption of USDC. That’s a regulatory requirement on us as a company. Circle, frankly, more than any other firm in the digital assets market, has done more to pull banks into this sector. For example, BNY Mellon is one of our major custodians. We have a partnership with BlackRock on managing the Circle Reserve Fund, which is comprised of U.S. Treasuries — 80% U.S. Treasuries.The sum of this is also about, again, locking arms. It’s not TradFi (traditional finance) versus DeFi (decentralized finance), it’s not crypto versus traditional banks. It’s actually a solid wall of shoring up markets, shoring up confidence, protecting consumers and ensuring, again, that the outcomes in the long run prove that this stress test could have been weathered by both traditional financial firms and companies like Circle.

Lau: To your point, this is an ongoing crisis. I don’t think that we have seen the end of it. Certainly, the fiduciary responsibility that you have not only to your investors, but every person who uses USDC, which is a significant part of the crypto industry, is at stake. What are the things that you’re anticipating that you’re working towards, that you’re backstopping, that you’re creating, making, making sure that whatever risks are on the horizon, that at least operationally, you’ve thought of, that you’ve positioned for. It’s like playing whack a mole at the moment. But how are you all assessing risk right now? 

Disparte: One, as you know, Angie, before I started paying the bills by being in the digital currency arena, risk and resilience is my actual subject matter expertise. And one thing should be very clear, and it’s in our public policy principles on how to regulate stablecoins around the world. It’s in our operating ethos as a regulated electronic stored value company — protection of principle and protection of the dollar. Parity of all USDC in circulation on a 1:1 basis with the US dollar takes paramount importance to Circle as a company. As it is today, it is a reason why the way we operate is even more conservative than comparably regulated money transmitters in the United States. USDC is strictly cash 20%, and strictly U.S. short dated treasuries 80%. There is no safer asset class. 

The challenge is that the full faith and credit of the underlying banking system on which that relied had nascent risk in it. That started manifesting itself. But even as we mentioned in the post over the weekend, that if Circle had to pledge its corporate assets in order to shore up that price parity to the U.S. dollar, that would have been, in fact, the outcome. 

Reason prevailed in Washington. The federal intervention was the right one to stave off contagion. But I want to really remind listeners once again that this was a rare case of the inverse happening: banks introducing risk to very well-run prudentially managed digital currency innovations like USDC and Circle — not the inverse. That’s the call to action from a regulatory policy vantage point is, will regulators and legislators ask the world to put on their seatbelt after the plane crashes, or will we start to legislate good conduct in the skies, good conduct in the digital assets market and start to normalize what this can look like at the federal level and promote that standard around the world? 

That’s the big opportunity. I’m sincerely hopeful that policymakers, regulators and others will not let another cycle of risk from one sector to another spill over and cause so much market harm.

Lau: Where does the industry bank now in Asia? Circle has started making inroads in Singapore. You got an in-principle approval from the Monetary Authority of Singapore to offer digital payment token services. Does this impact the sentiment and the welcome that you think you’ve gotten thus far? And where does the industry go? 

Disparte: For one, in order for crypto to be banked, crypto needs to be bankable. And again, too much of the real economic losses in crypto last year. We should, of course, weather the current storm, but also have the humility of looking backwards and saying US$2.2 trillion down payment on on excess risk in the market is enough losses for the industry to start acknowledging and looking at itself in the mirror and saying: If you want to be bankable, if you want to be auditable, if you want to be trusted, then you need to be underwritten. Part of that underwriting is about public trust, but it’s also about dealing with regulators. That model has served Circle exceedingly well. 

As you’re right, Angie, the last time I saw you in person, I think it was in Singapore FinTech Festival, announcing this in-principle approval that we had from the Singaporean regulator. But that’s one point that really is critical. 

Back to the opportunity in the United States and elsewhere is that many countries around the world, Singapore, increasingly you’re going to see Hong Kong, Japan, all of Europe, the United Kingdom are going to embark on whole of government regulatory frameworks for digital assets, including stablecoins. The payments stablecoin structure everywhere else in the world enjoys central bank oversight, financial markets, infrastructure oversight, prudential regulatory oversight in the United States. Circle has been calling for exactly that kind of outcome. We’re not alone in that call to action. All of the federal financial regulators who advise the president, the President’s Working Group on Financial Markets have said as much. 

Ultimately, here in the U.S., it’s for Congress to act. But in other jurisdictions around the world, you’re starting to see governments having a head start despite the headline risks that crypto produced last year.

Lau: What’s the advice for crypto firms right now? Trying to figure out as the dust settles, who should bank, whom, where to bank? And if it’s not going to be Signature and Silvergate, are there options in Asia, in Europe? Where are the options?

Disparte: For one, each company, each customer, each investor, each developer and the degrees to which they are bankable, of course, is down to the facts and circumstances of what they’re trying to do and so on. But there are a number of global banking institutions that are fintech forward and that are digital assets forward. 

As I often say about banks and digital assets, watch what they do, not watch what they say. And many, many big banks from JPMorgan and its division Onyx to DBS in Singapore to major global banking institutions like Standard Chartered and others, have really deep platforms and deep corporate commitments to supporting this space, whether it’s Treasury operations for traditional cash settlement, custody services of digital assets and so on. 

The banks have an implied advantage because they have the implied trust of their prudential regulators. But what the bank failures in the United States have demonstrated as the banks themselves are introducing risk to crypto assets versus the inherent direction of travel of risk that a lot of the regulators were concerned about, is that crypto would introduce risk to banking. That’s going to create an environment where it will be harder for a period of time to bank many aspects of the sector. But to take the short position on the long, long range outcome here would be a mistake. Most major financial institutions will be leveraging blockchain infrastructure and are leveraging these innovations in payments. Many of them want custody of these assets and it would be helpful for global prudential regulators to start harmonizing those standards.

Lau: Yet there’s a reason why HSBC took on that risk and because there is a business opportunity here. 

Dante, I really appreciate you joining us here on Forkast and providing clarity. And no doubt we’ll continue this conversation, but we really appreciate you joining us on the show today. 

All right, that’s a wrap — and thank you, everyone, for joining us on this latest episode of Word on the Block. I’m Angie Lau, Forkast’s editor-in-chief. 

Until the next time.