Does Numisma open or close the door for more novel banking charters?

Bloomberg News

Now that a bank with a special purpose charter has gained access to the Federal Reserve’s financial services, experts are divided on whether it will be the first of many or the first and only.

Last week, Numisma Bank became the first institution without deposit insurance to be granted a so-called master account with the Fed since the central bank revised its policies around account approvals. It did so with the backing of a Connecticut licensing regime that allows uninsured banks to operate within the state. 

This development has raised questions among policy experts and analysts about how easy it will be for other banks and other states to replicate that success. 

“It does suggest that, in at least some cases, these state chartered institutions without a federal regulator might still get Federal Reserve accounts,” said Julie Hill, a law professor at the University of Alabama and expert on master accounts. “The question remaining is how big of an opportunity that is.”

Numisma is a de novo bank with a business model centered on distributing U.S. bank notes around the globe. The Federal Reserve Bank of New York granted it conditional approval for a master account in March before giving it full access on May 29, according to Jorge Perez, Connecticut’s banking commissioner.

Before the approval, it was unclear that a state chartered institution without insurance through the Federal Deposit Insurance Corp. or the National Credit Union Administration could actually obtain a master account. The Fed’s guidelines say that such firms — known as Tier 3 applicants — may be eligible for accounts after an extensive review process. But in practice, three Tier 3 institutions — all of which sought to operate under specialized state charters — have been denied accounts in the past 16 months. 

Michele Alt, a partner at the consulting firm Klaros Group, said the approval is likely to result in a surge of upstarts and applicants trying to duplicate Numisma’s success. 

“The Connecticut Department of Banking’s phone is going to be ringing off the hook with others seeking CUBs — Connecticut uninsured bank charters,” Alt said. “The public takes very general takeaways from regulatory actions … so, we’ll see a rush to mimic the features — at least the features that are known — about Numisma’s application.”

A number of states around the country have begun offering novel banking charters, overseen by state banking regulators, in recent years. Many of these — including New York’s so-called BitLicense, which dates back to 2015 — focus on firms operating in the virtual currency space, but several have been crafted with an eye toward banking digital assets. These include Wyoming’s special purpose depository institution, or SPDI, charter and a similar regime established in Nebraska.

Georgia, meanwhile, has established a special charter for merchant acquirer limited purpose banks, or MALPBs, which aims at payments groups. While the license was established more than a decade ago, it lay dormant until earlier this year, when the banking technology firm Fiserv applied for one. 

Connecticut’s uninsured charter has been on the books for a quarter of a century, but has similarly gone largely ignored until recently. This is partially the result of Perez promoting the license as a means for attracting upstarts looking to enter the wholesale banking space — his department even petitioned the state legislature to change the name of the license to “innovation bank charter” to reflect its revamped mission. 

The license bars holders from receiving retail deposits and places other restrictions on entities that, in theory, would limit the impacts on consumers or the banking system more broadly should the entity fail. 

Numisma CEO Vivek Tyagi praised the state’s regulatory regime.

“The State of Connecticut is well-recognized as the foundational home for large banking and insurance enterprises,” Tyagi said in a written statement to American Banker. “Governor [Ned] Lamont’s leadership has enhanced Connecticut’s standing as a business-friendly state that has a robust financial services-related talent pool. Connecticut Department of Banking Commissioner Perez and his team provide robust regulatory oversight combined with the highest levels of professionalism and responsiveness.”

Even so, securing a Connecticut charter does not guarantee a firm a master account with the Fed. In December, The Narrow Bank, another de novo bank licensed under the state’s uninsured regime, had its application for a master account rejected after a review process that spanned more than six years. 

The New York Fed denied TNB’s bid on the grounds that the bank’s business model — which centered on doing nothing but paying depositors an interest rate only slightly below the federal funds rate — could be disruptive to the transmission of monetary policy if it proliferated through other institutions. 

Because of these and other outcomes, some legal experts believe the real difference maker for Numisma was its business model, which would see the bank act more like a logistics company for cash than a traditional bank. 

“It’s clear that they’re doing something that the Federal Reserve probably wants to affirmatively encourage,” Hill said. “The Federal Reserve is worried about the state of the dollar abroad and having access to dollars abroad, and because there are a dwindling number of firms doing so, the Fed might well have been more lenient in accepting this Connecticut chartered bank because they really want what the bank is going to provide.”

If this is the case, some legal scholars worry the Fed could be setting the wrong precedent. State regulatory regimes have long sought to foster innovation, allowing for business or technological experimentation to take place on a small scale and ideally make the state the center of an emerging industry or technology. David Zaring, a banking law professor at the University of Pennsylvania’s Wharton School of Business, said that if the Fed is too restrictive in allowing those experimental banks to access the financial system, beneficial innovations may not be able to take root.

“If it’s service providers, then, who are the only kinds of people who benefit from this sort of charter experimentalism, then some of the benefits of competition are going to be lost,” Zaring said.