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Kansas City Fed rejects Custody’s master account application

The Federal Reserve Bank of Kansas City has denied Custody Bank’s request for a master account, according to a U.S. District Court filing.

The reserve bank disclosed the denial in a motion to dismiss filed in the US District Court of Wyoming on Friday afternoon. Custody is suing both the Kansas City Fed and the Fed Board of Governors over its long-delayed application for a master account, which grants access to the Fed’s various financial services, including its payment system.

In its filing, the Kansas City Fed and the Board of Governors argue that the ruling should render Custody’s lawsuit moot. The bank had tried to pressure the Fed into making a decision on its two-year application, claiming it had been subject to an unreasonable delay.

The Kansas City Fed’s rejection of Custody’s master account application came hours after the Board of Governors rejected the Wyoming-based digital asset bank’s bid to become a member bank of the state. The designation would have made the Fed Custody the lead supervisor and — according to the central bank’s recently issued Applications Review Framework — made it easier for the bank to receive a master account.

Nathan Miller, spokesman for Custody, said the bank plans to continue its litigation against the Fed, noting that the bank intends to challenge whether the bank has congressional authority to choose which institutions can have master accounts. Custody and others argue that any state custodian is entitled to access to the main account.

In a written statement, Miller accused the Kansas City Board and Fed of taking “coordinated action against” the bank and said the reasoning for the refusal was “misleading and wrong.”

“It will not protect American consumers, it will discourage responsible innovation, and it will provide even greater benefits to incumbent banks,” Miller said in a written statement. “Custodia Bank offered a safe, federally regulated, and solvent alternative to the reckless speculators and fraudsters whom the Fed allowed to enter the US banking system, with disastrous results for some banks. Custodia actively sought federal regulation, going to the beyond all the requirements that apply to traditional banks.”

The Kansas City Fed’s court filing did not reveal a reason for the denial. The reserve bank declined to comment on the decision on Friday afternoon.

In its rejection decision, the Board cited security and robustness issues related to Custodia’s “untested” business model, which provides custodial services for cryptocurrencies and requires the eventual creation of a stablecoin.

Custody filed a lawsuit against the Fed in June, arguing that not only had the Kansas City Fed taken too long to look into the matter, but that the Board of Governors had stepped in, violating the Fed’s stated policy that regional reserve banks they have exclusive authority over granting main accounts.

Both the Board and the Kansas City Fed made multiple attempts to have the case against them dropped, but the matter survived to go to trial, a rarity for legal disputes involving the central bank.

Following a preliminary hearing earlier this month, the parties have begun the discovery process, which involves requesting and disclosing information of material importance to the lawsuit. The revelations were to be made this summer, with a tentative trial date set for November 6.

Along with decisions from both the Kansas City Fed and the Board of Governors, the Fed also issued a policy statement on Friday, requiring federally controlled state banks without federal deposit insurance to be subject to the same rules on crypto activity as those that are both federally insured and regulated. The move was designed to align the oversight regimes for the Fed and the Office of the Comptroller of the Currency.

The White House also announced a “roadmap” to mitigate cryptocurrency risks, in which it orders regulatory agencies to “strengthen enforcement” and provide guidance on best practices in managing digital assets. He also called on Congress to allow regulators to have more oversight of the crypto space without greenlighting more engagement with the sector by mainstream institutions.

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