What Bitcoin Did 633 - Bank runs, bailouts and bitcoin with Caitlin Long and Peter McCormack

https://twitter.com/kanzure/status/1637638792633786369

https://www.youtube.com/watch?v=xqX_NkBUQzg

Peter: Okay, listen. We have got a limited amount of time. Everything has gone fucking crazy. You're my resident expert on the banking sector. I figured we had to do an emergency broadcast. What the hell is going on?

Caitlin: Well, look. The banking system as we all know has been always inherently unstable because if everybody goes and gets their deposits back at the same time then the system is insolvent and therefore the insolvency gets revealed. It's not like there's anything new here because the insolvency has always been there in aggregate. But the reality is that technology and information and social media allow people to move money faster than they ever have before. As a result, a lot of banks that are tech-forward should have been sitting on 100% cash to back their customers' demand deposits and instead they were- they got greedy and rolled the dice by investing in long-term treasuries instead of cash. As a result, when everybody showed up to get the deposits at the same time: poof.

Peter: Let's work through this. There are three specific banks that we want to talk about. They are all different scenarios. There's Silvergate Bank, Silicon Valley Bank (SVB) and Signature Bank. I am including Silvergate so that people listening understand that it's a different scenario what happened to them but we should at least explain what happened to them.

Caitlin: Yes. Well, Silvergate was the one- I was watching both Silvergate and Signature. I'm on the record that I was warning the bank regulators that there was bank run risk for all the banks banking this sector. I gave the warning months before the bank runs actually hit. I think this is interesting because Custodia Bank- my bank- has a 100% reserve non-lending model. Our proposal was to keep 100% of customers' demand deposits on deposit at the Federal Reserve and the Fed called that "unsafe and unsound" and yet what has happened is that Fed-regulated banks like Silvergate and Silicon Valley Bank for example they were the unsafe and unsound ones because the Fed let them do the following. And I'll quote numbers that I know off the top of my head from the March 31st, 2022 Silvergate 10-Q SEC filing. Silvergate had $13.3 billion dollars of demand deposits that could be withdrawn within the span of seconds through the SEN network and API-based FedWire transactions. $13.3 billion could be withdrawn like that. Guess what, $1.4 billion of cash on hand. When that bank run started, it was pretty fast that the bank unfortunately failed. Now, that was a risk management decision that the Fed, as the federal bank regulator, let them take. There is a I think a bias towards fractional reserve banking- borrowing short and lending long- and that is literally what Silvergate did. What else did they invest the $13.3 billion of customer deposits in? They had less than $1.4 billion of cash on hand. They were investing in long-term treasury bonds and mortgage securities. They were reaching for yield and they did it at the precise moment that interest rates started to rise. The Federal Reserve started to raise interest rates almost a year ago. Into an incredibly fast rate-rise environment, these banks invested all the new deposits that were coming in. This is what happened at Silicon Valley Bank and Signature Bank as well. They had a big increase in deposits and they invested in long-term treasuries and so what happens with those long-term treasuries when interest rates rise is that the value of the long-term treasuries falls. Some of those things are trading, like the long-term mortgage-backed securities are trading at 60 or 70 cents on the dollar right now because of the big increase in interest rates.

Peter: Okay, so, Silvergate themselves- you mentioned they had like $1.4 billion in cash. In the scenario where there's a bank run with people trying to get their deposits, and if you're holding your money with the Fed, can you just withdraw your money when you call it? You don't have to keep it in your bank? So if it was a full reserve bank like how Custodia Bank would work, then you constantly have access to the full liquidity of customers?

Caitlin: Yes, during bank hours. While Fedwire is open, yes. Not 24/7/365, just to be clear. Both Silvergate and Signature offered 24/7/365 in debits and credits among customers of the bank. Both customers on the transactions had to be customers of the bank in order to use SEN or Signet which were the 24/7/365 platform that allowed customers to basically just swap balances. Any money that needed to actually leave the bank had to be done during banking hours which would also apply to Custodia Bank as well had we been granted a Federal Reserve master account.

Peter: I'll have to come back to Custodia Bank because someone mentioned another bank on twitter the other day, another bank that was not given banking access by the Fed. Called TNB? They had a policy similar to yours of being similar reserve.

Caitlin: Yes.

Peter: Let's get into Silicon Valley Bank. This has been one of the largest bank failings since 2008. What was unique about what happened with SVB?

Caitlin: That was an even faster bank run than crypto. I know the White House talking points yesterday were trying to blame this all on crypto. There is an interesting supporting fact related to Signature-- Barney Frank of Dodd-Frank Act fame was a director on the board of Signature Bank and he came out and made an incredible statement yesterday which is that Signature Bank did have $10 billion of withdrawals on Friday but they were still solvent and the bank regulators moved in to put them in resolution. He said it was an anti-crypto move. I think something interesting happened to Signature Bank and there will be an investigation. It will question the bank regulators whether they pulled the trigger too fast on Signature. But back to the question you asked, it's relevant because the bank runs that were happening at two of the banks that happened to be giving deposit accounts to crypto companies- Silvergate and Signature- happened more slowly than the bank run at Silicon Valley Bank. So the White House talking point to say oh this is all related to crypto is just simply not true. Back to your question. Silicon Valley Bank in 44 hours had essentially a 100% withdrawal of demand deposits. In one case, it basically within the span of a few hours, 25% of their uninsured deposits were withdrawn. That's $45 billion dollars.

Caitlin: Let's step back and ask, how could this happen? It should have been anticipated by the risk managers of the bank, the managers of the bank as a whole, and by the bank regulators. Why? We now have API-based banking. Silicon Valley Bank didn't do crypto. They just had APIs that allowed all of their tech-forward customers to use software to direct payments into and out of those demand deposit accounts. APIs are very different from having to go down to the local branch, wait in line, fill out a wire transfer form by hand, and then have a FedWire-directed payment to your new bank account at another banking institution. So naturally because you have technology, the tech forward banks are going to have to be-- they have the ability to move money so much faster. It still settles through the Fedwire system within hours. But the initial instruction that came into SVB happened os much faster than the bank regulators had anticipated. They should have required the tech-forward banks to be sitting 100% in cash to back customer demand deposits should an event like what happened like last Thursday ever occur. This is not rocket science. I can't believe that the banks were allowed to do this borrow short lend long strategy when everyone knew that those deposits were volatile and because you can direct the wire transfers from your phone and do it electronically- and by the way, you can do it through software using APIs. The whole concept of a bank run sped up.

Caitlin: I will also add that it hasn't happened yet but I think the Fed dodged an even bigger bullet because FedNow, which is the Fed's new 24/7/365 real-time gross settlement payments system, is coming online this summer. In the beginning it will be limited to payments in the amount of $100,000 dollars. But now all of the sudden you can have a bank run at 11:59pm on a Saturday night, okay, because people will be able to move money 24/7/365 in real-time and I have not seen the bank regulators yet acknowledge that the banks are going to need more liquidity. The impact of all of this is that the Fed needs to require banks especially tech-forward banks to sit on 100% cash to back demand deposits. By the way, almost no banks do that. But the other impact is that the Fed just across the board is going to need to expand its balance sheet. As soon as this happened, I tweeted end of QT incoming. Quantitative tightening is over. The Fed shrinking its balance sheet through QT disproportionately hit the community banks and these are the ones that are having the problems. The impact of all of this is that the Fed is going to have to expand its balance sheet again and print money to provide extra cash for the banks to be able to meet the demand deposit withdrawals. The banks should have been sitting on that cash all along.

P: Let me start with SVB. You mentioned that the Fed should have required them to hold 100% of deposits in cash.

C: Of their demand deposits. Yes.

P: Is there a different regulation that should have existed for tech-forward banks?

C: Oh, all banks should be doing this. I just saw an analysis of all the publicly traded banks which looked at their demand deposits relative to their cash and also in this analysis they added available-for-sale securities. I wouldn't do that. As we mentioned before, to sell a security it takes 2 days to settle a security. For treasuries, it takes only 1 day. If you can have a bank run in the span of 44 hours, then I don't think you should be looking at available-for-sale securities as part of a liquidity portfolio. I think you should be looking at good-old-fashion cash on deposit at the Fed. So the Fed's balance sheet effectively should be as big as all the demand deposits in the entire banking system, and it's not. It's a tiny fraction. 95% of the banks on this analysis I looked at yesterday hold less cash plus available-for-sale securities than their demand deposits which means that if everyone goes and withdraws their money at the same time then the Fed is the backstop and it's going to have to massively expand its balance sheet to create the cash to satisfy the withdrawals.

P: I heard that Signature Bank had just over 5% of its assets in cash. SVB had 7% compared to an industry average of 13%.

C: But here's the thing, they had volatile deposits. Those that serve the crypto industry- this is what Wyoming knew... Wyoming knew that digital assets move at the speed of light. Anyone serving this industry should have naturally been sitting 100% in cash. The fact that they weren't blows my mind. The management teams and the shareholders paid the ultimate price for that and they have been wiped out as they should be because they made a bad risk management decision.

P: How do these banks money? What's going on here that they would put themselves at risk? Are they being greedy? How should they be making money?

C: Well, here's the thing. This gets into Wyoming's special purpose depository institution (SPDI) approach. As Lyn tweeted yesterday, also The Narrow Bank's approach as well, which was a Conneticut uninsured depository institutions very similar to the Wyoming uninsured special purpose depository institutions in the sense that they are non-lending banks. If they are not insured, then they can't lend, and then they can't take leverage. Okay, great. So they are going to sit 100% in cash which is exactly what the business model of both institutions was. In the case of Wyoming SPDIs, they are not permitted to be what's called a "narrow bank". Wyoming SPDIs can't just literally take deposits and turn around and pay the interest that the Fed pays the bank and then pay that to their depositors. That's what TNB's business model was. Wyoming by law for SPDIs have to do something else. What else do they have to do? They have to provide custody services for digital assets which is how they make their money. Traditional banks make money off spreads. These uninsured banks make money off fees. That's how the Wyoming SPDIs work. A lot of people asked the question how is it that Custodia and Kraken Bank- how would they make money? Well, they would charge you fees. A lot of people would look at that and say well I don't want to pay fees to my bank. Hmm. Well how is it that you avoid paying fees to your bank? Let's think about this. It's because they are taking your money and turning around and taking undue risk with your deposits. It's the same thing with Robinhood Inc and all these retail trading platforms htat don't charge you fees anymore to trade your securities. Stop and think about that. If they are not charging you fees, how are they covering their costs? They have capital requirements. They have huge technology requirements and huge staffing requirements. What are they doing with your stocks so that they can offer you free trading with no fees or commissions? They are taking risk with your money. You better hope that you don't have stocks with those types of firms because if they blow up guess what you're not getting all your money back.

C: I heard an incredible interview this morning with a biotech firm that had all their cash at SVB and had to scramble over the weekend to borrow money from the board of directors and piece together because they owed payroll on Monday morning and would be out of compliance with the law if they couldn't make payroll on Monday morning. They were able to do it, but here's the thing, he said it was my money and I had my money sitting in a non-interest bearing account at Silicon Valley Bank. It was the company's money. Your money at your bank account should be yours. And he's right, except that's not how the system works right now.

P: I was going to say- we have gotten used to free services. Imagine a scenario where you open up an account at Signature or SVB and they say listen you have two options we could charge you to custody your money and it's 100% protected and 100% reserve or we don't charge you and the other option is we try to invest your money and there's inherent risk with that. There might be liquidity issues and you have the choice then. The problem that we seem to have now, and Troy tweeted this out yesterday, these banks are essentially full reserve because the FDIC has backstopped the entire value.

C: The Fed has backstopped it. The FDIC only has $126 billion of funds in its insurance fund and it can borrow anohter $100 billion from the US Treasury but the unrealized losses in the banking system on these long-term bonds are at $650 billions. Add $226 billion that the FDIC has access to, well this doesn't cover the $650 billion hole on the balance sheet in the aggregate US banking system. The Fed has to be the backstop. That's the punchline.

P: What's the choice then? Do we move to a system where it's fees for custody? Or do banks invest your money and take risk? Lyn on March 2023 newsletter looking at bank solvency-- this quote: "ironically regulators want banks to be safe but not too safe. All banks should be leveraged bonds to a reasonable degree and won't allow safer ones to exist like Custodia Bank".

C: Bingo. Yes. Correct. She's right. That's the way the system works. This is why the bank regulators couldn't get their arms around the concept of a bank that was literally just a money warehouse. Just a bank that provides custody services for your money and doesn't turn around and lend it. This is the same concept we have talked about before as a "bailment". It's an old British law concept. We interact with bailments all the time. It's like a parking garage for your car or valet parking or a coat check. It's the same law. We should go back to that. That's the way banking used to be. When you park your car at a valet and they turn around and park it in the garage, the valet doesn't have the right to take your car and let an Uber driver go make money with it when you go off and have dinner and maybe they give you the same make and model back when you leave. No. And by the way, they stick you with the risk of a problem with it. That's not how it should work. If you are still legally entitled to your car and the garage goes bankrupt, you can go drive your car right off the lot. That exact same approach should apply to money. That's what the Wyoming SPDI charters are for.

C: It was so interesting going through the Fed application process. I'm limited in what I can say. But I can say that not everyone understood this concept, and those that did loved it. Clearly the folks at the top who blindsided us at the end- and we were making a lot of progress with the Fed, I've said this publicly before, and then they blindsided us in January with this sudden U-turn and it was pretty clear that there was something (A) political coordinated by the White House but also (B) so much bigger than just Custodia Bank. Our application was not allowed to stand on its own. We have due process rights. America is a country of rule of law still and we're pursuing that.

P: What actually has happened with SVB specifically in relation to the zero-interests and how they took the deposits, put it into bonds, and then with the pivot in interest rates how that completely screwed these banks.

C: They got whipsawed-- kind of like the whipsawwing we saw like in the supply chain where there was a shortage of toilet paper and then all of the sudden there's massive pallets of toilet paper sitting in the middle of grocery stores because they way over produced. There's not that much demand anymore, right? That's the whipsaw effect. That's exactly what happened to the banks. The system got over-liquified when the Fed expanded its balance sheet, which meant printing more money during COVID, and then cut interest rates as well. So one thing that is confusing to a lot of folks is that the Fed does two things to stimulate or retrench the economy: they move interest rates up and down and they also move their balance sheet up or down. They might also not be moving in the same direction. I think the Fed is going to keep raising interest rates but they will also be expanding their balance sheet so they are trying to do two things that have the opposite effects. Long story short, the whipsaw effect- you saw these huge deposits entering a number of banks including SVB. You had a tech bubble and a crypto bubble and those two things were disconnected but had the same root cause. This caused the banks to have a huge influx of deposits. The banks got greedy. They should have just sat with that cash in their Fed master account but they turned around and bought US treasuries. The way that bank capital requirements work is that there's not really a capital penalty for the bank to go and buy 10 or 30 year US treasuries or to go buy government-guaranteed mortgage-backed securities which are of course long-duration because mortgages in the US are typically 15+ year duration. So they are taking in demand deposits that could be withdrawn within the span of minutes, and htey are investing in 15-year ish securities. That's pretty obvious they are taking on interest rate risk. And the bank capital requirements that apply to the community banks- ironically the big banks are immune to this because they are all in the US in compliance with Basil III which is the global capital standards for global systemically important banks- but the community banks in the US were exempt from this. So they took all this unhedged interest rate risk. If you go back to the consensus a year ago when the Fed started aggressively raising interest rates, a lot of people thought it would be a normal tightening cycle. Well, it wasn't. Obviously interest rates went up faster and a lot farther than the talking heads were predicting. I think the banks were essentially looking at the interest rate forecasts including the market's forward expectation about interest rates and thought well this isn't that bad we could afford to take this risk. Well, they got whipsawwed.

P: It seems to me there's a lot of similiarities with what happened here and what happened with Blockfi and their GBTC trade. Like a duration mismatch. I think the Blockfi GBTC trade was a shorter-term 6 month trade. It was the same risk profile though.

C: Ultimately everything that happened in crypto lending is the same thing that happens in traditional finance (TradFi) it's just different manifestations using different financial products but it's the same problems. A lot of people had to learn unfortunately very tough lessons. The biggest issue is that we're bitcoiners and nobody is making any more than 21 million BTC. There is no lender of last resort in bitcoin so anyone who leveraged it had a hard lesson to learn. There is no lender of last resort, in spite of Sam Bankman-Fried's attempts to get at a Washington bailout for the crypto industry. I laughed when he called for that last fall.

P: Wasn't Dodd-Frank Act meant to prevent situations like this from happening?

C: Yes. It's ironic. I've talked to Rep. Barney Frank who is on the board of Signature Bank. At the time maybe 7 or 8 years ago was on the board of the World Wildlife Foundation. I don't know if he still is. Wonderful man. We had a great conversation about Dodd-Frank... no wait, this was Dodd. I don't think I have met Barney Frank. I had a lot long conversation with Chris Dodd about Dodd-Frank and he wanted to know from me as osmeone who was a financial practicioner and someone interested in bitcoin what were my thoughts. I laid out my thoughts: financial regulation should be pretty simple. Is the financial institution solvent? Earlier on in this podcast you asked some astute questions- if there are demand deposits, then why are the banks turning around renting out your deposits and sticking you with all the risk? That's what the bank is doing with your money. Remember The Simpsons money where Bart is in a wonderful life parody and figures out the bank won't give him all his money. It just captures the moment. If the system were- if bank regulations were requiring banks to hold 100% cash in their Fed master account for all their demand deposits then we would have a stable system much more stable than we have today. Now some would say, and this is where you were asking about demand deposits... there's a difference in the bank between demand deposits and timed deposits like CDs or savings accounts where if you read the fine print the bank can prevent you from withdrawing your savings deposits on demand. They are not demand deposits. You agreed to lend that money to the bank. What most people don't realize, including that biotech CEO I mentioned earlier, who had $25 million of cash at SVB and had to scramble to make payroll over the weekend- he didn't realize that he lent that $25m to SVB. That is legally how a bank deposit works. Your money is not yours. You're lending it to the bank. It's even more acute when you lend it to the bank in a time deposit where the bank can say no I won't give you your money back and you don't have a right to it. But most of us think that when we put money into a bank, it's our money. It's really not, unless you have a 100% reserve bank that could not lend. The polarity of hwat happened with the Fed telling Custodia that our business model was "unsafe and unsound" while saying these other banks are safe and sound and they implode without the Fed even knowing? One of the hilarious comments worst timed comments by a regulator ever when the Fed vice chair for supervision Michael Barr who by the way sits over all the bank regulators at the Fed made an anti-crypto speech and said Fed regulated banks don't have bank runs because they are subject to prudential supervision. The guy who was supposed to be minding the store- the guy in charge- his division labeled Custodia's business model "unsafe and unsound" said that in public just as SVB's bank run was taking place in real-time. By the way, he has been appointed by Jay Powell to lead the investigation into what went wrong at the Fed. Senator Elizabeth Warren came out this morning and blasted hte Fed for the Fed doing its own investigation. She blasted Jay Powell and said he needs to recuse himself- she almost had it right- but then she said Barr should be the one to do it. I just came over the top and say he's conflicted as well. He's the one that made the statement that Feds supervised banks don't have bank runs as the biggest bank run in 110 years was taking place. Who's really minding the store? Mark Cuban asked that question over the weekend. Where were the regulators? They are intuitively- they inttuitevely think that these-- they think these borrow short lend long business models are safe well they need to reassess their biases and assumptions because information moves very quickly in the information age. Users can close their accounts from their phone with the speed of light. Banks need to sit on a bunch more cash. The Fed will have to expand its balance sheet substantially before this is all over.

P: I was going to ask you about the expansion of the balance sheet. But I wanted to touch on Elizabeth Warren because you brought her up. Berney Frank joined Signature Bank and he has "lobbied" for a loosening of the regulations that he was part of creating similar to how Donald Trump pushed for it. We have seen Sen. Warren push for tightening these Dodd-Frank regulations.. but where do you sit? To see Frank come out- I wonder if he's conflicted now that he was on the payroll of Signature. It's a tricky one.

C: Here's the thing. I'm all for far-tighter regulation on the banks. It's just not the regulations that they are talking about. The tighter regulation is simple: banks should back 100% of their demand deposits with goold-old-fashion cash. That way, if everybody lines up and all those demand depositors wnat to get their money out immediately then they can have it. That would make the system more stable. That's not what the regulators are asking for. But this is what I've worked on. This is what Custodia Bank is. It's an acknowledgement that money is moving faster period and banks are going to have to sit on a lot more liquidity. What is this going to do? It will make the costs of providing banking services and people hate paying fees but banks have high capital requirements, high tech costs, and high people costs. They will have to cover those costs somehow. But the system would be much more stable. I bet if you would explain that to more people then they would be more eager to pay fees for banking services that didn't put their money at risk. I think they would make that choice rather than rolling the dice with their money.

P: It's a new lense for me because in the United Kingdom we have something similar to the FDIC, we have our bank deposits covered up to 80,000 UKP. I never have 80,000 UKP in the bank. Why would you? It's melting away. You put it in housing, bitcoin, gold, anything else that appreciates in value or earns you interest. But in terms of my business, I do. I have several full-time employees. I always have to pay 3 or 4 months in advance. I just now saw a situation where there was a bank run and owners of businesses were saying I'm not sure that I could make payroll. That scares me. I could be in that same situation where I can't make payroll. So do I need to have 10 corporate bank accounts with up to 60,000 UKP in it?

C: Yes. I'm sympathetic. That biotech CEO with $25m in the bank for example that I heard this morning- sitting uninsured at SVB. $250,000 of the $25m was insured in his case, of course. Here's the thing. Whoever runs finances at that company should have been paying attention to this. When I was working at Morgan Stanley, I spent a lot of time working with corporate treasurers trying to understand the pain points of corporate treasury. Big companies like General Electric has 10,000 bank accounts around the world. They probably have 1,000 people in their corporate treasury staff to reconcile all those accounts and move the cash around. Those treasury analysts also look at the counterparty risk of their banks. They understand that only $250,000 of their bank deposit is actually insured. One of the interesting questions is should that biotech CEO had his finance person analyzing the counterparty risk profile of his company's corporate bank account provider? Yes. When he said oh that money is mine, that's the way it should be but that's not the way it is. He should have had his finance person analyzing that. One big lesson for every business- small business owners and the GE's in the world with 10,000 accounts. Everyone needs to understand you're lending money to your bank and the bank might default on you. Should you go get 10 different accounts? I don't know about that in particular. I remember in 2008 that's exactly what everyone around me at Morgan Stanley did. They ran out and opened up a bunch of banking accounts and put $250,000 in each of them just to spread htem around. That's what rational people that understand this risk might do, or alternately a sweep account where anything above $250k gets put into US treasuries. I'm sure something like that also works in the United Kingdom as well.

P: If I wanted to use something like Custodia Bank, what kinds of rates would you charge to custody the money? It sounds like an advert but shill me. What would it be?

C: We're not operating.

P: But if you were? Would it be 1% of my deposits? But if you were operating, what would it be? Higher?

C: No, no. It wouldn't be that high. I have to be really careful here. It also all depends. If all you're going to do is deposit your money and just have it sit there... so here's the way the math works. For a bank that does nothing other than TNB's business model htey would have to hold 5% capital after their first 3 years of operating htey would have to hold 8% capital. Custodia proposed to hold 108% cents for every dollar. That extra 8 cents was our shareholder capital during the first 3 years and then the following thereafter would be 5%. That would be the requirement. That's the basic business model. So the customer has to basically cover the bank's cost of capital otherwise the bank loses money on the relationship. The ohter way to handle that is it's the way the big banks handle it and look at the customer holistically: if this customer is also depositing bitcoin for custody and they are just using US dollar piece as an ancillary piece then that ancillary piece has to cover its own costs but this is one of the reasons it's so important for banks to not be TNB's business model. The Wyoming SPDI banks cannot by law just take customer deposits and take interest on them as a pass-thru for the Fed. They have to provide other services like custody in Custodia's case, or Kraken Bank was going to provide credit cards and debit cards and prime services and there's a whole bunch of services that diversify product exposure. How do the banks make money? It should be pretty obvious. It's the same way that Bank of NY or State Street or Northern Trust make money- it's mostly on their services mostly in their cases custody. Those banks don't make money off spread. They make money off fees. Big difference. It's a successful business model.

P: In my case, I don't need bitcoin custody because I got my casa multisig and know how to do custody. But say I could take 80,000 UKP risk or I could pay 1% of my- I would happily pay for custody of my pounds in my bank account if I knew it was 100% backed because I absolutely cannot have the risk that I cannot make payroll.

C: Yes, because that would be catastrophic for you. The Fed has blocked you from having that choice if you were a US company by prohibiting Wyoming SPDI banks from getting access to Fed master accounts. It's far from over yet. We're in a big fight. It's going to take some time. I didn't walk into this anticipating that this fight was going to end like htis. I didn't want to be here. Our board didn't want to be here. But this is how the Fed has forced it. We're fighting like hell.

P: Why is the Fed doing this? In Lyn's article she says that the reason they are against this is that if you have a full-reserve bank then it would suck up all the liquidity from the rest of the sector and everyone would put their money there which would be bad for the other banks.

C: I don't think so. I'll tell you why. It's because Custodia our business plan was not to pay interest on deposits at all. Traditional banks can pay interests on deposits. How? They can afford to because they are making money on loans so they share some of the profits with the customers by paying interest. My reaction to that argument which we heard in the Wyoming legislature back in 2018 before the charter was enacted: if the traditional banks are so afraid of competition from a bank that is not going to be paying interest then you really shouldn't be coddled by the regulation. Let competition happen. Let people choose whether the certainty of keeping a deposit in a full reserve bank is worth it to them relative to the interest rate that they could be getting by lending their deposit to a bank pays them interest. It's a simple calculation and not everyone is going to make the same decision. Markets work.

P: Is there a problem here that big banks are not independent enough from the Fed?

C: Of course they're not independent from the Fed.

P: But is this one of the issues? Should there be a line drawn between the Fed and the banks?

C: Well, you can't. I'll tell you why. Most of the central banks work this way. The regional federal reserve banks are owned by the private banks. They are quasi-private entities, but when they do administrative functions there's definitely ambiguity and they like to claim that they are private entities when they need that and they like to say no we're doing government functions when it's in their interest and sometimes they flip back and forth. But ownership wise? It is true that they are owned by the banks. The way that the Fed works is that there's a government agency that sits on top- the Federal Reserve Board of Governors- which is subject to all the government agency laws and requirements. Then the 12 regional federal reserve banks are legally owned by banks as private institutions by their members so you cannot segregate the two because the shares of the regional federal reserve banks which is where the balance sheets are. People talk about the Fed's balance sheet but really it's an amalgamation of the 12 regional banks' balance sheets. Those entities historically were formed by private commercial banks and then of course when the Fed was formed in 1913 they basically created was effectively what became the Board of Governors which is a federal agency. It's a creature from Jekyll Island. It was a corrupt bargain in 1913 ironically during the progressive era. That's when progressives in the United States obtained positions of real power. The progressives tried to nationalize banking back then, and I think the progressives are trying to nationalize banking now. I think a lot is going to come out about Custodia Bank's situation that will stun people about how much politicization and coordination there is of a lawful applicant to a federal agency. At this point, we're fighting. Something wrong happened to Custodia Bank. I'm making a trip to Washington, DC because Congress wants to know exactly what happened to Custodia. We have evidence and I'll be sharing it.

P: Well, I hope Senator Cynthia Lummis has your back on this. I would have thought there are a few other senators who have your back too in terms of this. I want to know, and you come tell me when you can. I want to cover two more subjects. I want to talk about Signature. It seems like the FDIC took Signature over while they were still solvent. Next I wanted to talk about QE 2 infinity.

C: Barney Frank of Dodd-Frank Act who was on the board of Signature-- and Dodd-Frank was the wall street reform act just after the GFC happened 15 years ago. He did tell both CNBC and Bloomberg yesterday I saw two different interviews quoting him as saying yes this was a solvent bank and yes there were big withdrawals but if we had opened on Monday we would have been a going concern. That is a staggering statement. Shareholders are coming out and saying something bad happened here. Notice the theme? Custodia Bank had the very same thing happen to us. It's a politicization and it was designed as part of a hit coordinated between the White House, the Federal Reserve, the FDIC, and Congress on a bank that was favorable to an unfavorable industry. The truth will be told, okay. The facts will ultimately come out. This is why an independent investigation needs to happen and Congress needs to take this on. When Elizabeth Warren said she didn't think the Fed should be investigating itself? She's right. She didn't want Jay Powell to be leading the investigation. I said on twitter that a bi-partisan coalition or the GOA needs to look at this. There were some corrupt things that happened here in the move against the digital asset industry. Federal agencies have far outreached their statutory authority. How do you deal with that? Congress could look into it. GOA will look into it. Reporters can and are looking into it. Then there's the judicial branch where litigation is a remedy for agency overstep.

C: In Signature's case, it does look like the state's banking authority in NY stepped in before the FDIC. It actually came out that the FDIC was usrprised that they were handed Signature on Sunday evening. When the FDIC takes over a bank, they take in their examiners at 5pm on Friday and then they receive the bank and usually they have it sold to a buyer by Monday morning. Well wait a minute, what happened here? FDIC didn't even get involved with Signature until Sunday afternoon? That tells you that something odd and illegal happened here. There are threats to sue over this and boy I sure hope that people were wronged in that situation if that's indeed the case do to pursue their legal remedies in the judicial system because that's the way for folks who are victims of agency over-reach to have their rights restored.

P: There's a lot to go on that. What about the end of QT and QE to infinity? In 2019 we talked about this- you were saying htey were running out of bullets. I fear now that there's a yo-yoing towards very high inflation. Lyn was telling me that inflation will be the big topic of the next decade. They tried to reduce inflation and now we're seeing liquidity coming back which may drive inflation. I don't want to say hyperinflation but are we going to see more inflation?

C: Yes. The system's stability is so low as we just witnessed- just last week we had Jay Powell testifying in Congress and the house and the senate-- he said the banking system was stable and then 2 days later we had this crisis. The guy leading supervision at the Fed said bank runs don't happen to Fed supervised banks right as a SVB bank run was happened. They didn't see it coming. I would encourage people interested in the historical context to go read the book "When Money Dies" by Adam Ferguson. He's a British historian who wrote this book in the 1970s about the hyperinflation in Germany and Hungary. What you learn as you read that book is that the amplitude of the crises increases and the frequency of the crises increase as the money is dying. We know that the traditional financial system is inherently unstable and we have known this for decades. It doesn't mean that it collapses tomorrow. It could. But it could also still go for decades. I am critical of the broken clock economists who have been saying the dollar is going to crash any moment now. They have been saying that since Nixon closed the gold window. They have been wrong for so long. I think they will ultimately be right but why is this the case? The US had the balance sheet to keep doing what we have been doing. Evneutally we will hit a wall and then they will be right. It feels like it will be in our lifetime. Plan accordingly. Bitcoin is up 30% since this bank run started on Thursday. I'm sure those who wanted to kill it are mad as hell that bitcoin is up 30% in their face. Needless to say, the system is fundamentally unstable. Bitcoin's price is volatile but the bitcoin system is very stable. The US dollar may not be volatile but the system is inherently unstable and I'll close with a Talleb argument that basically if you constantly put out forest fires then when the conflergation finally comes it might burn the whole thing and it might even burn the bacteria in the soil and it will take decades for the forest to re-forest itself. That's what I worry about. By saying the US can't have a recession because the Fed will constantly ease into that, then all we're doing is drawing down the balance sheet capacity to support the additional debt being issued and there will come a day when the balance sheet is the only thing that matters. The Keyesnesians are in charge and they don't think the balance sheet matters but I think the balance sheet is the only thing that matters. We just don't know when that point will be.