Bitcoin and Banking: Financial systems collide

10 July, 2018

Bitcoin and traditional banks have always been uneasy bedfellows. In fact, bitcoin creator Satoshi Nakamoto launched bitcoin on the world in 2008 with the express purpose of toppling big banks' control over individual finances.

Satoshi's dream meant that folks should be free to pass money between one another without the interference of trusted third parties, the still-unknown Nakamoto wrote, relying on nothing but the trust built into bitcoin's code.

From the start, bitcoin has been seen as a legitimate challenge to the traditional banking sphere. It offers folks the option of storing monetary value outside of the federally regulated marketplace, making it unavailable for the kind of risky investments that sparked the 2008-2009 economic crisis. In essence, bitcoin cut big banks off from the easy source of liquidity they'd enjoyed for hundreds of years - the hard-earned money and savings accounts of average customers.

Moreover, bitcoin challenged the entire premise of the government-banking complex. Unruly citizens could not have their assets frozen if they were stored on a blockchain, and the government would have a hard time keeping track of funds for taxation, regulatory, and possibly criminal justice-related concerns if they never entered a bank with federal ties. Bitcoin promised the security of cash without all the unsavory hang-ups, with the speed and security traditionally offered by banks guaranteed by each individual blockchain participant.

It's no surprise, then, that banks and their chief executives have been among the most vociferous opponents of bitcoin and other cryptocurrencies. Lately, however, at least some of these folks appear to have seen the writing on the wall, and they are either softening their attitudes toward cryptocurrencies or trying to bring the whole blockchain ethos in house.1 We're going to take a brief survey of the state of bitcoin versus banks to get a better picture of what that relationship might look like in the near future.

Small Banks, Big Profits

Small, community banks appear to be taking a hard look at the potential advantages of cryptocurrency customers, according to a piece in the Wall Street Journal.2

Community banks feel less threatened by the often-volatile cryptocurrency world, and they're perpetually struggling to find a niche that separates them from the megabanks of Wall Street.

While most mega banks continue to rail against bitcoin - and why wouldn't they, as it threatens their existence - small banks are actively encouraging cryptocurrency companies and investors to combine their nontraditional assets with their tried-and-true infrastructure. While mega banks refuse to allow cryptocurrencies to be purchased with their proprietary credit cards, small banks like San Diego's Silvergate are making it easier for their customers to store value extracted from the crypto market within their walls.

"At what point as a banker do you pull your head out of the sand?” Silvergate CEO Alan Lane told the Wall Street Journal. “Every banker should be learning about the technology."

Big Banks, Small Steps

Even the mega banks appear to be coming around to the inevitability of a blockchain-led financial market. JP Morgan Chase, which has repeatedly dissed bitcoin and other cryptocurrencies in the past, quietly created a blockchain initiative branch about two years ago, and it named a head of crypto-assets strategy in May.3 This isn't the wholesale leap into cryptocurrency trading that's been the fever dream of the crypto world since the December all-time-high prices, but it's an at least tacit nod toward the fact that bitcoin is here to stay. The crypto-assets strategy head, Oliver Harris, will chiefly handle identifying blockchain-based fintech initiatives that JP Morgan can then bring to market.

Having a big, powerful bank in its corner is a guaranteed boon for the bitcoin market, even if it curls some bitcoin purists' toes. Big banks mean big money, and the extra liquidity they could potentially bring to the market should smooth out much of bitcoin's vaunted volatility. Less volatility, in turn, would spur even more institutional investment by traditionally conservative outlets, like hedge funds, 401ks, pension funds, and more, further suppressing volatility and creating a virtuous investment cycle.

Banking titan Goldman Sachs is taking a more direct route to cryptocurrency acceptance.4 In May, the investment bank brought on its very first cryptocurrency trader. This is a huge potential step toward full-on trading, market observers and eToro analyst Matthew Newton told The Independent.

Although Goldman Sachs will at first only involve itself in trading bitcoin derivatives to limit its potential exposure, full trading is likely only a few successful test cases away. After all, banks are in the business of making money, and there appears to be a power of money to be made in the bitcoin market.

"This shouldn't come as a huge surprise to anyone who has been paying attention to cryptocurrencies over the last 18 months. Any forward-looking financial institution needs to understand this technology and accept its enormous potential," Newton said in The Independent. "Despite some initial posturing, the reality is most big banks have already invested significant amounts in research and development into blockchain technology and cryptocurrencies themselves. It will still take time for institutional investors to fully come around - and the fact that Goldman won't be buying or selling actual coins suggest some skepticism remains - but there's a growing acceptance that these assets are here to stay."

A Long, Difficult Road

Despite leading moves by Wall Street staples like JP Morgan and Goldman Sachs, bitcoin adoption by major banks still faces major hurdles. One of the most concrete of these is the murky regulatory waters that most cryptocurrencies occupy in the eyes of the U.S. government.5 As federally backed institutions, banks are limited in exactly how and in what they can invest, ostensibly to protect their investors' funds. While this has not prevented banks from making risky investments in the past - like derivatives based on junk housing bonds - it does give banks and their lawyers significant pause when an asset class emerges that promises wild, three-digit percentage swings in a matter of hours or days. Moreover, this particular asset class is a direct competitor to the bank itself, offering a store of value to consumers with none of the associated red tape.

It's this red tape that remains at the heart of the bitcoin/bank divide. Simply put, there's no easy way to reconcile the two entities' reasons for existing. Bitcoin exists to put finances back into individuals' hands. Banks exist to protect those individuals from themselves and each other by providing a safe store of value. The two are contradictory in the worst possible way. Yet, synergies seem to be emerging. Small banks are lending a degree of respectability and safety to the cryptosphere while the tech - and the regulators - struggle to catch up. JP Morgan is looking to ride the coattails of fintech investments centered around the blockchain, and Goldman Sachs can see only dollar signs when it looks at the sheer amount of money being thrown around on wildcat cryptocurrency exchanges.

Reconciling bitcoin and banks will be a long, difficult road. Luckily, the journey is already underway.


1) Big Banks Could Eventually Warm Up to Bitcoin and Ripple, Forbes.

2) Bitcoin Needs Bankers, Too, Wall Street Journal.

3) JP Morgan Names Head of Crypto-Assets Strategy, Oliver Harris, Fortune.

4) Bitcoin Trading Comes to Goldman Sachs After Investment Bank Hire First Cryptocurrency Trader, The Independent.

5) US Crypto Regulatory Fight Has Everything But Rules, Bloomberg.