One of the most significant cryptocurrency banks, Silvergate, is in serious danger

Silvergate didn’t begin in the crypto space. In real estate, it all began. Nonetheless, the bank entered the Bitcoin market in January 2014. It was a turbulent year; Bitcoin started the year around $770 and ended the year above $300. Alan Lane, CEO of Silvergate, noted on a June 2022 episode of the Odd Lots podcast that:

Several of the companies that were being founded at the time to give services to this budding Bitcoin space, many of them were having to get and retain bank accounts. That was actually where we began, then.

The bank’s attention was on institutions, or other businesses, some of which deal with customers. One of Silvergate’s first clients was Genesis, the now-bankrupt crypto-lending division of DCG. The bank created the Silvergate Exchange Network, which gave cryptocurrency companies like Coinbase, Gemini, and Kraken a 24/7 means of transacting in dollars. In 2022, Lane declared, “We have them all. “All the significant ones. anyone who takes regulation seriously.

FTX is another of Lane’s customers.

Federal investigators are currently looking into Silvergate’s involvement in financing Sam Bankman-defunct Fried’s empire. The more urgent issue is that other Silvergate customers were alarmed by the failure of FTX, which led to a $8.1 billion bank run, wiping away 60% of its deposits in only one quarter. The Wall Street Journal kindly explained that the situation was “worse than that faced by the average bank that closed during the Great Depression.”

We learned through Silvergate’s quarterly statement that its third-quarter results were a complete disaster, a $1 billion loss. After afterwards, on March 1st, Silvergate filed an unexpected regulatory document. It claims that the quarterly numbers were actually significantly worse and that it’s doubtful the bank will be able to continue operating.

Coinbase, Galaxy Digital, Crypto.com, Circle, and Paxos have responded by announcing they’ll quit utilizing Silvergate, along with other, less well-known customers. The contentious stablecoin Tether, which has experienced its own banking issues, seems to remind us that it does not use Silvergate.

The long list of clients explains why Silvergate’s problems are terrifying. Because cryptocurrency is so dangerous, few few institutions will deal with it, and the majority of conventional banks don’t allow crypto clients to transact in dollars round-the-clock. There is just one other US bank that can provide access to banking that moves as quickly as cryptocurrency.

According to John Wu, president of Ava Labs,

If Silvergate falls out of business, it will force funds and market makers further offshore. The difficulty of obtaining actual cash money, or liquidity in financial parlance, is the problem. Transactions become more challenging when there is less liquidity.

According to Wu, the difference between the predicted and actual prices at which a trade is executed has already grown. Therefore the issues with Silvergate affect the entire crypto sector.

Stablecoins

A crucial on- and off-ramp from the great dollar (and mighty euro) into cryptocurrency was Silvergate’s SEN. All “controlled, US-dollar backed stablecoin issuers,” according to Lane, banked at Silvergate in 2022.

But, the SEN was crucial for creating and burning their tokens, which were generated when someone put a dollar in their Silvergate bank accounts, for stablecoins issued by Circle, Paxos, and Gemini, among others, according to Lane.

A crypto pass-through point was Silvergate. Theoretically, stablecoins backed by dollars have cash or assets that are similar to cash on hand. (There are doubts regarding the presence and value of the reserve, which is why Tether is controversial.) When someone deposited a $1 into, let’s say, USDC, Silvergate was supposed to create a token and burn a token when someone took a dollar out. As people leave the ecosystem and seek out currency, their money pass through Silvergate, according to Lane in 2022.

As you can see, I used the word “was.” This is due to Silvergate’s March 3 announcement that SEN would be suspended immediately.

In order to pay each other and anyone who wanted to cash out, Silvergate’s clients had to keep a large amount of cash on hand at the bank due to the dollar side of the transaction. Silvergate has a few options for how to profit from this. Buying one-month Treasury bills at the Fed and calling it a day is the safest course of action.

While this is finance, taking on more risk might also result in greater financial gain. Silvergate appears to have purchased bonds, then. (If you’re interested in the bloody details, Verge fave Matt Levine at Bloomberg has a more in-depth examination of how this worked.) The issue is not that the bonds were extremely risky; rather, it is that FTX caused a large-scale flight to dollars, forcing Silvergate to find a lot of cash quickly. Sadly, in order to fulfill its obligations, it had to sell its bonds at a loss. Strangely, the bonds were relatively safe — Levines observes that,

If its depositors had maintained their money with Silvergate, its bonds would have matured with enough of money to pay them back.

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