Katherine Ross

The Federal Reserve says it will expand how it oversees the crypto activities of US regulated banks.&nbsp;



The move by the US central bank falls under the “novel activities supervision program” the <a href="https://blockworks.co/tag/federal-reserve">Federal Reserve</a> introduced on Tuesday, which includes cryptocurrencies and additional emerging asset classes. It also covers applications of distributed ledger technology that have the “potential for significant impact on the financial system.”



According to a published <a href="https://www.federalreserve.gov/supervisionreg/srletters/SR2307.htm">outline</a> of the program’s aims, regulators will “enhance the supervision of novel activities” such as “crypto-asset custody, crypto-collateralized lending, facilitating crypto-asset trading, and engaging in stablecoin/dollar token issuance or distribution.”&nbsp;



The <a href="https://www.federalreserve.gov/newsevents/pressreleases/bcreg20230808a.htm">program</a> will also focus on distributed ledger technology (DLT), and other “technology-driven partnerships with nonbanks to deliver financial services to customers.”



The program is designed to ensure, the Federal Reserve said in <a href="https://www.federalreserve.gov/supervisionreg/srletters/SR2308.htm">documents</a> Tuesday, that state member banks will “place controls to conduct the activity in a safe and sound manner.”



The Fed <a href="https://www.federalreserve.gov/supervisionreg/srletters/SR2307.htm">said</a> that “given the novelty” of new technologies — including crypto — questions “may not be sufficiently addressed by existing supervisory approaches, and may raise concerns for the broader financial system.”



This oversight includes projects that use <a href="https://blockworks.co/tag/distributed-ledger-technology">DLT</a>, as well as traditional banking entities that engage in certain crypto activities, such as lending deposits or payments. <a href="https://blockworks.co/tag/tokenization">Tokenization</a> was also a key area of focus the regulator outlined.&nbsp;



The program will be folded in under current supervisory processes, according to a statement from the Fed, with “program experts working alongside current supervisory teams to oversee banks engaged in novel activities.”



“The Program will help ensure that regulation and supervision allow for innovations that improve access to and the delivery of financial services, while also safeguarding bank customers, banking organizations, and financial stability,” the Fed said.



It wasn’t immediately clear which firms would be subject to the Federal Reserve’s more stringent oversight. 



State member banks have been tasked with obtaining written approval from the Fed prior to using DLT or “similar technologies to conduct payments activities as principal, including by issuing, holding, or transacting in dollar tokens.”



But the financial regulator said that, on the banking side, all banks “supervised by the Federal Reserve,” including those with $10 billion or less in consolidated assets” would fall under the program’s jurisdiction. The classification suggested that regional financial operators would fall under that umbrella — not just bulge-bracket banks.&nbsp;



It also added that the program is “risk-based” and the “level and intensity of supervision will vary based on the level of engagement in novel activities by each supervised banking organization.”



Updated Tuesday, Aug. 8 at 5:35 pm ET: Added context about state member banks.



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distributed ledger technology

Federal Reserve to expand oversight of crypto-related activities at banks

In a new report on central bank digital currencies (CBDCs), the French central bank examined how to integrate a CBDC from technological and policy perspectives.



To roll out “responsible adoption,” the bank wants to seek energy-efficient solutions to the energy consumed by the technology needed to operate a CBDC.&nbsp;&nbsp;



The Banque de France also found that issuing a wholesale CBDC as a complement to a retail <a href="https://blockworks.co/tag/cbdc">CBDC</a> would allow for wholesale CBDCs to be a “safe settlement asset solution” on distributed ledger technology (DLT).&nbsp;



“The G20 has also identified the issuance of a CBDC — both retail and wholesale CBDCs — and of multi-wCBDC arrangements as a way of facilitating cross-border payments,” the <a href="https://www.banque-france.fr/sites/default/files/media/2023/07/21/rapport_mnbc_2023.pdf">study</a> found. 



This is <a href="https://blockworks.co/news/french-central-bank-trades-oats-on-private-blockchain">not the first time</a> the Banque de France has focused on how DLTs can be used for CBDCs. The report notes that, “DLT has attracted interest from public authorities and the financial industry as it could pave the way for better integration of the various market and post-trade processes.”



The transparency that technology such as DLT brings has been both praised and criticized. While the easy access to data and tracking of payments could provide more oversight and possibly “contribute to enhanced financial stability,” there are concerns about the need for confidentiality or privacy.



Banque de France proposes several measures to ensure confidentiality while preserving the underlying technology. These solutions include access control, identity mixers, settlement engines, and confidential tokens are just a few of the suggestions from the French bank.



Using an identity mixer would allow “the ability for a single identity to send multiple transactions without revealing that the transactions were sent by the same identity.” While access control ensures that users can only access certain data.&nbsp;



A decentralized settlement engine would be “capable of settling all kinds of operations and upon which a distributed application implementing business workflows has been created.”



However, the bonus of having such clear transaction records means that law enforcement can use DLT to “improve their capacity for market supervision and oversight. This increased supervisory capability can contribute to overall financial stability.”



“We have demonstrated that our DLT solution is flexible and can be interoperated with TARGET solutions and other DLT solutions. We are also keen to keep abreast of developments in the field of cross-border payment and explore new concepts” <a href="https://www.banque-france.fr/en/communique-de-presse/banque-de-france-publishes-second-report-share-lessons-learned-its-wholesale-cbdc-experiments-using">said</a> Emmanuelle Assouan, Banque de France’s director general of financial stability and operations.



The European Union has been testing and prototyping what a digital euro would look like and <a href="https://blockworks.co/news/eu-digital-euro-uses-utxo">will decide on whether it’ll continue</a> to test such a token this fall.



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cbdcs

Using distributed ledger technology for CBDCs could improve security and efficiency: French bank

Sebastian Sinclair

Distributed ledger technology (DLT) such as enterprise blockchain could unlock $20 billion in annual savings across global clearing and settlement costs.



That’s according to a report from the Global Financial Markets Association (GFMA) in collaboration with Boston Consulting Group and two other law firms. The GFMA is a global body representing interests of capital markets participants and stakeholders.



Its report evaluates opportunities and risks associated with settling global trade on DLT-based systems. 



Despite the promising outlook, the GFMA acknowledged widespread adoption of DLT in securities markets has yet to occur, largely due to a lack of institutional interest alongside poor liquidity and risk management.



Investor demand for securities running on DLTs is likely to hinge on fixed-income offerings (corporate bond markets), and tokenized &#8220;illiquid and private asset classes like investment funds.”



“The global value of tokenized illiquid assets is estimated to be worth about $16 trillion by 2030, from a base of [around $0.3 trillion] today,” the report said. “New instruments (e.g., tailored frequency income payments) through product innovation may also act as a key value driver to serve client needs.”



DLT is a broader term that encompasses various decentralized technologies, while blockchain is a specific implementation of DLT with differing governance, consensus mechanisms, scalability and use cases.



Adam Farkas, GFMA chief executive said DLT holds growth potential and calls for a regulatory framework supporting stability, responsible innovation and fair competition.



“Policymaking should focus on creating a regulatory framework that supports financial stability and responsible innovation in digital asset markets,” Farkas said in a <a href="https://www.gfma.org/banks-call-for-regulators-to-take-more-innovative-approach-to-dlt/" target="_blank" rel="noreferrer noopener">statement</a>.



The executive also urged officials to “find a way forward” ensuring stability and protections, while also allowing the industry and wider economy to grab hold of the benefits the nascent tech promises.



Australia’s planned DLT overhaul of its primary securities exchange is perhaps the most prominent attempt at running a major settlement system on the technology.



The ASX ultimately <a href="https://blockworks.co/news/blockchain-not-bitcoin-is-dead-australian-bourse-cans-dlt-shift" target="_blank" rel="noreferrer noopener">canned the idea</a> late last year after spending $170 million.



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Tokenized Assets, Distributed Ledgers Could Save Finance Billions: GFMA

Ben Strack

<div id="highlights-block_615609d849c97" class="highlights">
 <ul>
 <li>Visa’s research team, comprised of scientists and engineers focused on emerging technologies, began developing a framework for blockchain interoperability in 2018</li>
 <li>UPC hub can be a bridge connecting regulated stablecoins with CBDCs in the future, company says</li>
 </ul>
 
</div>



Visa has shared insights on a theoretical system that would connect different blockchain networks to allow central banks, businesses and consumers to transfer digital currencies.



“As the number of [distributed ledger technology] networks increases, each with varying design characteristics, the likelihood that transacting parties are on the same network decreases,” Visa wrote in a <a href="https://arxiv.org/ftp/arxiv/papers/2109/2109.12194.pdf" target="_blank" rel="noreferrer noopener">recently published whitepaper</a>. “Thus, it is crucial to facilitate payments that are universal across networks, scalable to massive loads and highly available.”



Dubbed by the company as the Universal Payment Channel (UPC), the digital hub seeks to solve the problem of transferring digital currencies that rely on various tech stacks and protocols, as well as different compliance standards and market requirements.



Visa’s research team began developing a framework for interoperability that would work across different blockchain networks in 2018, Catherine Gu, Visa’s global central bank digital currency (CBDC) product lead, wrote <a href="https://usa.visa.com/visa-everywhere/blog/bdp/2021/09/29/making-digital-currency-1632954547520.html?utm_source=OrganicSocial&amp;utm_medium=VisaNewsTwitter&amp;utm_campaign=UPC&amp;linkId=133846438" target="_blank" rel="noreferrer noopener">in a blog post</a> published on Thursday.



“We believe digital currencies have the potential to extend the value of digital payments to a great number of people and places, but to achieve this vision, several key design challenges must be addressed,” a Visa spokesperson told Blockworks. “Given our history in building and scaling networks that move money reliably and securely, we have expertise to share in this space.”



The whitepaper is not a plan to launch a product or capability, but rather a theoretical contribution to the global community, the representative added.



“What excites us is UPC’s potential,” the spokesperson said, “and we are exploring how UPCs can solve the challenge of interoperability.”



<h3 class="wp-block-heading">How would it work?</h3>



The potential future payment network would be built on top of blockchains without being subject to the limitations on interoperability, scalability and availability that these types of payment solutions currently face.



A party looking to send funds through the UPC system would register with the hub by providing their public key, according to the whitepaper. A channel is opened between a registered client and the server when the server deploys an instance of the UPC smart contract on the ledger used by both parties and initializes the contract.



<div class="wp-block-image"><figure class="aligncenter size-large"><img loading="lazy" decoding="async" width="1024" height="757" src="https://blockworks-co.imgix.net/wp-content/uploads/2021/09/Steps-for-off-chain-1024x757.jpg" alt="Visa " class="wp-image-8828" srcset="https://blockworks-co.imgix.net/wp-content/uploads/2021/09/Steps-for-off-chain-1024x757.jpg?w=1024 1024w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/Steps-for-off-chain-1024x757.jpg?w=300 300w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/Steps-for-off-chain-1024x757.jpg?w=768 768w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/Steps-for-off-chain-1024x757.jpg?w=347 347w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/Steps-for-off-chain-1024x757.jpg?w=353 353w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/Steps-for-off-chain-1024x757.jpg?w=296 296w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/Steps-for-off-chain-1024x757.jpg?w=80 80w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/Steps-for-off-chain-1024x757.jpg?w=1536 1536w" sizes="auto, (max-width: 1024px) 100vw, 1024px" /><figcaption>Source: Visa</figcaption></figure></div>



The channel is then pre-funded when the client and the server make deposits into the contract’s address. The channel is closed when either or both parties settle their off-chain balances. These channel operations require on-chain transactions by one or both parties, and finally, a UPC payment transaction between the two clients is performed purely off-chain.



The protocol requires the UPC hub to authorize every payment that happens between the parties off the ledger as a way to check its validity.



UPC would also offer quicker transaction speeds than the largest existing blockchain networks. In April 2021 the Ethereum network’s throughput was limited to 16.5 transactions per second, compared to VisaNet’s 65,000 transactions per second.



“UPC’s specialized payment channels would be established off the blockchain and leverage smart contracts to communicate back with the various blockchain networks, delivering high transaction throughput securely and reliably and improving speeds overall,” Gu explained.



<h3 class="wp-block-heading">The CBDC use case</h3>



Among the use cases for this payment network is cross-border payments between independent CBDC networks. Central banks around the world have shown an increasing interest in exploring digital forms of central bank money that can be used directly by consumers, merchants and financial institutions, Gu noted, and many central banks in the coming years will likely implement some form of a digital ledger.



Federal Reserve chairman Jerome Powell <a href="https://cms.blockworks.co/powell-guidance-around-fed-tapering-could-come-at-next-meeting/">noted last week</a> that the Fed would soon publish a discussion paper about a CBDC. He said the agency was still evaluating whether to issue a CBDC, and if so, what form it would take. Powell noted that “it’s more important to do this right than to do it fast.”



For cross-border CBDC payments, such as international remittances, where the sender and receiver rely on their respective banks or wallet providers to send and receive funds on their behalf, UPC technology can be used as a bridge between the CBDC systems.



<div class="wp-block-image"><figure class="aligncenter size-large"><img loading="lazy" decoding="async" width="1024" height="759" src="https://blockworks-co.imgix.net/wp-content/uploads/2021/09/CBDC--1024x759.jpg" alt="Visa" class="wp-image-8825" srcset="https://blockworks-co.imgix.net/wp-content/uploads/2021/09/CBDC--1024x759.jpg?w=1024 1024w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/CBDC--1024x759.jpg?w=300 300w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/CBDC--1024x759.jpg?w=768 768w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/CBDC--1024x759.jpg?w=347 347w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/CBDC--1024x759.jpg?w=352 352w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/CBDC--1024x759.jpg?w=296 296w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/CBDC--1024x759.jpg?w=80 80w, https://blockworks-co.imgix.net/wp-content/uploads/2021/09/CBDC--1024x759.jpg?w=1460 1460w" sizes="auto, (max-width: 1024px) 100vw, 1024px" /><figcaption>Source: Visa</figcaption></figure></div>



“We believe that for CBDCs to be successful, they must have two essential ingredients: a great consumer experience and widespread merchant acceptance,” Gu wrote in the blog. “It means the ability to make and receive payments, regardless of currency, channel, or form factor.”



With the combination of scalability and interoperability features that the UPC technology provides, UPC hub can be a bridge connecting regulated stablecoins with CBDCs in the future, Visa said in the whitepaper.&nbsp;



Visa’s research is the latest example of the company’s participation in the crypto space. It <a href="https://cms.blockworks.co/visa-bolsters-crypto-division-with-new-hires-promotions/" target="_blank" rel="noreferrer noopener">announced in June</a> new hires and promotions in an effort to help advance the adoption and use of bitcoin, stablecoins, non-fungible tokens (NFTs), DeFi and public blockchain networks.&nbsp;



Less than two weeks later, Visa revealed <a href="http://v" target="_blank" rel="noreferrer noopener">its partnerships with 50 crypto platforms</a> on card programs that allow users to convert and spend digital currency at 70 million merchants. The company reported at the time that consumers spent more than $1 billion worth of cryptocurrency on goods and services through Visa’s crypto-linked cards during the first half of 2021.



Visa also made its <a href="https://cms.blockworks.co/visa-steps-into-the-metaverse-with-first-nft-purchase/" target="_blank" rel="noreferrer noopener">first NFT purchase</a> last month for $150,000 in Ethereum, and Cuy Sheffield, the company’s head of crypto, <a href="https://cms.blockworks.co/visa-head-of-crypto-says-cryptopunk-wont-be-companys-only-nft/" target="_blank" rel="noreferrer noopener">told Blockworks</a> that Visa plans to continue adding NFTs to its collection.