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Fed Chair Warns on Crypto Industry, Current Crisis

Powell reiterated his earlier warning to US banks about the perils of investing in the digital asset business, but he also noted that the Fed didn't wish to stifle innovation.

Jerome Powell, Chairman, Federal Reserve (Image: public domain)

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US Federal Reserve Chair Jerome Powell on Tuesday warned higher interest rates are needed on resilient economic data and added he has a number of worries about cryptocurrency and that lenders who deal with it should be "taking great care."

“We don’t want regulation to stifle innovation in a way that just favors incumbents and that kind of thing," Powell said during a hearing before the Senate Banking Committee, and added, “but, like everyone else, we’re watching what’s been happening in the crypto space and what we see is quite a lot of turmoil, we see fraud, we see a lack of transparency, we see run risk."

With the collapse of the cryptocurrency exchange FTX last year, US financial regulators have taken a more hardline stance towards digital assets.

The Federal Reserve, the Office of the Comptroller of the Currency, and the Federal Deposit Insurance Corporation published a direct statement on January 3 emphasizing the need to prevent uncontrollable risks associated with cryptocurrencies from entering the financial system.

"It is important that risks related to the crypto-asset sector that cannot be mitigated or controlled do not migrate to the banking system," said the Joint Statement on Crypto-Asset Risks to Banking Organizations report.

"Given the significant risks highlighted by recent failures of several large crypto-asset companies, the agencies continue to take a careful and cautious approach related to current or proposed crypto-asset-related activities and exposures at each banking organization," added the report.

No Silver Lining

If the cryptocurrency sector was expecting a silver lining from Powell, he didn't provide one. The best Powell could offer is that he's keeping his fingers crossed that some good ideas and practical applications can emerge from the chaos of the crypto world.

"We have to be open to the idea that – somewhere in there – there is technology that can be featured in productive innovation that makes people's lives better," Powell told members of the committee in his twice-yearly trip to testify on Capitol Hill.

"We don’t want to stifle innovation," he said.

Several members of the House Financial Services Committee asked Chairman Powell about cryptocurrencies over and over again. On Wednesday, his hearing on the subject will continue.

Powell suggested that the U.S. Congress make a "workable legal framework" for digital assets. He specifically mentioned stablecoins as a problem area that needed rules.

“People are going to assume when they deal with something that looks like a money market fund that has the same regulation as a money market fund or a bank deposit,” he said. “So stablecoins need some attention in that respect.”

Provided they are subject to "appropriate regulation," Powell expected stablecoins can find a niche in the financial industry.

But he added that "there are real concerns about permissionless public blockchains, and the reason is that they've been so susceptible to fraud, to money laundering and all of those things."

Although Powell's wider views on the economy had the most direct impact on the crypto market, it was the Fed chairman's comments that had the greatest long-term significance.

Bitcoin slid below US$22,000 following his comments on inflationary pressures and higher rate hikes on Tuesday. But, since then, the price has recovered somewhat, and it is currently trading at US$22,319.

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