‘Ponzi schemes under a high tech veneer’: Top Fed official compares crypto to tulip frenzy

The already volatile industry has had a pronounced period of uncertainty, exacerbated by the collapse of Sam Bankman-Fried’s FTX in November. The ensuing contagion has thrown firms into turmoil and toppled others, including the California-based bank Silvergate, which announced on Wednesday it would begin to wind down operations.

In his address, Barr remarked that crypto assets weren’t just used by people with ample money for speculation but also by people with limited savings, citing that one-fifth of Americans say they have owned some form of crypto.

While Barr said that it’s important to support innovation and growth for new technology, it’s also important to consider the risks to investors and consumers, especially for the relatively nascent sector.

“But when it comes to certain crypto assets, some of which have no intrinsic value beyond the faith of their owners, the law of gravity will eventually apply, as it did with the tulip frenzy in Holland more than 400 years ago,” Barr warned.

‘Ponzi schemes under a high-tech veneer’

As he noted, one of the issues in crypto is that creators cite the decentralized nature of the technology as a source of protection for users, while in reality purveyors are often looking for ways to operate outside of supervisory and regulatory oversight. As a result, Barr said that consumers are prone to cases of fraud and abuse, which he described as “Ponzi schemes under a high-tech veneer,” referencing the collapse of FTX. He also cited the risks of money laundering and terrorist financing.

The Federal Reserve and other banking regulators have taken a strong stance on crypto in recent weeks, issuing a series of guidances on how the banking industry should approach the sector, which some in the industry say has dissuaded banks from working with crypto companies. The failure of Silvergate—the first by an FDIC-backed bank since 2020—will likely heighten banks’ hesitance toward crypto firms.

“Our overall stance is that, at this stage of the development, banks should take a careful and cautious approach to engaging in crypto asset-related activities and the crypto sector,” Barr said.

Finally, Barr called for federal prudential regulation and supervision of stablecoins, a form of crypto tokens that are typically pegged to an underlying asset. Regulators such as the Securities and Exchange Commission and the Commodity Futures Trading Commission have expressed diverging views on how to classify stablecoins in the absence of legislation. Barr warned that an unregulated, unsupervised deposit-like asset “could create tremendous disruptions.”

He said the Fed is working with other regulatory agencies to clarify how crypto activity can be conducted in a safe and sound manner, adding that it is working toward providing additional clarity around risk management practices and creating a specialized team of crypto experts.

“We will work to support innovation by establishing the guardrails essential for sustainable, safe, and transparent markets,” Barr said.