Biden's Block on US Cryptoasset Custody Poses Threat to Institutional Adoption
Lack of standardised custodianship threatens to halt cryptoasset integration into US and global economy
With institutional interest toward cryptoassets rising, the need for compliant, secure, technology-driven crypto custody solutions is once again becoming apparent.
The storage of cryptographic keys is the main structural difference between traditional securities markets and crypto markets in terms of custody, even though the general concepts of custody in both types of market environments are similar. Cryptoassets, which are underpinned by blockchain technology, use alphanumeric code to denote holdings — similar to a password — in the form of public and private keys. A public key allows the user to transact with cryptocurrencies and is typically a wallet address. By comparison, private keys provide the ability to prove ownership of the crypto funds associated with a particular public address. It is these keys that must be kept private, otherwise the crypto assets that the keys are linked to can be accessed.
While an owner can self-custody their cryptoassets, the demand for institutional third-party custody is growing dramatically. One reason is the preference of owners to involve experienced intermediaries to safeguard their keys (and thereby bear some burden in case the keys are lost). Another reason is regulatory – certain institutional investors are obliged to use accredited custodians to safeguard their assets.
However standardised custody of cryptoassets remains elusive, with a shortage of reliable custodian services in critical markets thanks to regulatory roadblocks, with the US being a prime example.
US President Joe Biden has seemingly never been an avid supporter of cryptoassets, and has been accused of trying to ‘destroy’ the crypto industry in the US with stringent crypto tax and Bitcoin mining proposals. At the same time, Biden’s policies are slowing institutional adoption of cryptoassets in the US.
Currently, The Securities and Exchange Commission (SEC) requires banks and non-banks that perform custodial services to place digital assets (which includes cryptoassets) on their balance sheets. The conventional method of securities accounting keeps custodied assets off a financial institution’s balance sheet. Custodians have to hold a commensurate asset on-balance sheet “at initial recognition” and “at the same time,” the digital asset is custodied. On top of this, the transition to the Basel III requirements from July 2025 will make a growing balance sheet even more costly for banks, with less capital available for lending activities. Ultimately, if a bank were to custody cryptoassets according to the SEC’s rules, the on-balance sheet rules would affect their other regulatory obligations such as their capital and liquidity requirements. As such banks and non-banks in the US are deterred from keeping cryptoassets in custody.
In response to this problem, and following industry backlash, The House Financial Services Committee last month voted in favour of overturning the SEC guidelines that prevent banks from getting involved in cryptoasset custody.
However, this week, Biden vetoed the resolution to overturn the SEC’s cryptoasset custody rules, casting doubt over the future of institutional cryptoasset custody in the US. With the US presidential election taking place in November this year, it seems the verdict will have a significant bearing on the future of cryptoassets in both the US and global economy, with Republican opposition candidate Donald Trump maintaining a pro-cryptoasset stance, unlike his Democratic Party counterpart.
As such, this institutional cryptoasset custody void, for the time being at least, will have to be filled by crypto-native firms rather than licensed banks. For example, crypto exchange Kraken unveiled a digital asset custody solution for institutional investors in the US in March 2024. However, relying on typically unlicensed crypto-native firms rather than recognised banking institutions for cryptoasset custody may lead to lower institutional confidence toward cryptoassets and as a results, hinder adoption.
In truth, having a standardised cryptoasset custody framework is currently one of the main bugbears of financial institutions seeking to increase their exposure to cryptoassets. Regulatory developments in critical economies such as the US require structural changes if the cryptoasset industry, on an institutional level at least, is to realise its full potential. While Biden remains at the helm, this seems unlikely.