Crypto and the Circle of Disintermediation

Banks have become increasingly vocal about their opposition to central bank digital currencies (CBDCs) such as the digital dollar in 2022, and have made it clear that they see CBDCs as an existential threat that could separate them from their customers, and the deposits used in lending which forms a large part of their business.

It is a role that has been played in recent years by cryptocurrencies and stablecoins, but what makes CBDCs somewhat ironic is that, unlike the privately issued digital assets such as bitcoin and USD Coin, CBDCs were not intended to disintermediate banks that cryptocurrencies and their fiat-pegged stablecoin offshoots were.

Disintermediation, after all, is where blockchain began. The Bitcoin Whitepaper’s very first sentence talks about its goal of allowing “online payments to be sent directly from one party to another without going through a financial institution.”

But crypto-disintermediating banks aren’t really a one-way street. First, non-crypto fintechs have the same basic goal: to get between the banks and their customers. Then there is the point that blockchain-based financial services – both centralized finance (CeFi) and decentralized finance (DeFi) – try, in many cases, to disintermediate FinTechs as disintermediating traditional financial institutions.

None of this has stopped the banks from frantically trying to adapt and adapt the tools to both crypto and FinTechs, cutting them out of the picture. It is in many ways a circle of disintermediation, with three players trying to move eyeballs, attention spans and wallets away from the others.

Disintermediating the Disintermediators

Last April, JPMorgan Chase CEO Jamie Dimon warned that FinTechs “are making great strides in building both digital and physical banking products and services,” Dimon said. “From loans to payment systems to investment, they have done a great job of developing user-friendly, intuitive, fast and smart products.”

This is partly why “banks are playing an increasingly smaller role in the financial system,” he said.

Yet FinTechs themselves are at risk of disintermediation by blockchain and crypto providers – they remain intermediaries after all. The advantages of programmable money powered by smart contracts, instant settlement, and the “trustless” nature of immutable blockchains that remove the need for trusted third parties (the second sentence in the Bitcoin Whitepaper) also make them vulnerable.

When it comes to cryptocurrencies, they are also fighting on two fronts: Trust on the banking side and ease of use on the FinTech side.

The bear market for digital assets known as crypto winters has provided both the same Comptroller of the Currency Michael Hsu recently said it had given regulators writing rules for digital assets roaring ahead at full speed: “A little more breathing room.”

Between that downturn and the disruption May’s $48 billion collapse of the TerraUSD stablecoin had on not only cryptocurrency investing but decentralized finance (DeFi) as well, banks and other traditional financial institutions have a bit more breathing room to formulate a plan for how to reacting to and defending against the disintermediation that blockchain digital ledgers, to say nothing of other non-crypto FinTechs, have as their fundamental goal.

Likewise

And yet, as Hsu’s comments suggest, pure-play crypto companies are increasingly at risk of being disintermediated from their own technology as banks and other FinTechs race to take advantage of some of the tools of DeFi without succumbing to its chaotic nature and lack of users on recourse.

The last point is a failing bankruptcy of many crypto borrowers in the wake of TerraUSD’s de-pegging showed quite clearly.

Beyond that, Dimon’s point about FinTechs creating products that are intuitive and easy to use is something that often doesn’t apply to crypto, especially on the DeFi side of the market.

Another failing crypto shares with FinTechs pointed out in an October study on “The Forces Disrupting Payments” by BNY Mellon is that their “solutions tend to be very niche” so businesses can’t have all their needs covered by one single provider – something traditional FIs are more able to do, albeit (as Dimon admitted) not always equally well on each individual financial product.

On the subject of customer confidence, note that blockchain data firm Chainalysis last month dubbed it “Hacktober” due to the more than $700 million looted from various crypto projects – bringing this year’s total north of $3 billion. It’s something that the company’s head of research, Kim Grauer, recently told PYMNTS’ Karen Webster is “not healthy for sustainable long-term growth.”

And given that blockchain transactions are not reversible even if there is a middleman, such as a crypto payment technology provider, in the transaction – no chargeback fraud is a selling point for merchants – the consumer protection and customer service offered by banks and FinTechs can be a major benefit should cryptos struggle with matching.

Whether one or two will win or just find a way to work together remains to be seen. But as the CBDC battle shows, the pie being shared is the banks’, and they’re not too eager to share.

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