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US Justice Department probe into stablecoin Tether may have Taiwan angle

Tether once held reserves at Taiwanese banks

(Flickr, <a href="" target="_blank">Marco Verch</a> photo)

(Flickr, Marco Verch photo)

TAIPEI (Taiwan News) — While Taiwan is not known as a crypto hub, Tether kept part of its fortune stashed in banks on the island for some time — until its relationship with a financial institution acting as a bridge between East and West soured.

What is Tether?

Bloomberg reported Monday (July 28) that U.S. Department of Justice officials are probing the company behind the stablecoin Tether to see if it misled banks about the true nature of its business. Stablecoins like Tether are digital assets that are pegged to a real-world currency like the U.S. dollar or an asset such as gold.

Given the volatility of the cryptocurrency market, stablecoins are seen as a safe haven for assets during stormy seasons or as a way to remit capital to someone abroad without dealing with market fluctuations. Given China’s intense capital controls and lack of crypto exchanges with RMB trading pairs, Tether fills this role nicely and is in high demand in that country.

Tether’s controversy

Tether has attracted significant controversy over the question of whether it is fully backed by U.S. dollars. In Tether’s early days, its parent company, crypto exchange Bitfinex, was hacked, forcing some depositors at the exchange to take a “haircut,” losing some of their deposit.

As Tether shared accounts with its parent company, questions emerged as to how much of Tether’s assets were lost or loaned to Bitfinex to cover the losses. After all, without a 1:1 peg with the U.S. dollar, the inherent idea of Tether’s stability would be called into question.

In March, the question of whether Tether is sufficiently backed by dollar reserves was answered as part of a settlement with the New York attorney general. Tether’s cash backing? Around 75%.

As part of the settlement, both sides confirmed in a published statement that between mid-2017 and 2018, “Tether had no access to banking anywhere in the world, and so for periods of time held no reserves to back tethers in circulation at the rate of one dollar for every tether, contrary to its representations.”

Banks are institutionally skeptical of dealing with any firm even remotely involved in cryptocurrency. So while the question of whether Tether had reserves to back its tokens in circulation has been settled, investigators are now asking if the few banks that actually dealt with Tether in the past knew what they were getting themselves into, which is where Taiwan enters the equation.

Taiwanese banks and Tether

While Tether was spun out of its Hong Kong parent Bitfinex, it kept a material amount of its money in banks in Taiwan until at least early 2018. For those familiar with the business environment of Taiwan, this might seem peculiar.

Given Hong Kong’s internationally minded banks and low taxes, capital usually flows from Taiwan to Hong Kong. Given Taiwan’s comparatively high taxes and relatively unsophisticated capital markets, it would be odd for anyone to treat the country as a financial hub when neighboring Hong Kong is effectively synonymous with that term.

Nonetheless, Tether and its parent Bitfinex between them kept US$430 million on the island, and Tether alone had around US$50 million in deposits spread between a number of Taiwanese banks.

However, these banks’ key lifeline to the onshore U.S. dollar market, Wells Fargo, did not like the arrangement. On March 31, 2017, the bank told Tether and its Taiwanese partners it would cease banking correspondent services for all Tether-related transactions that strand Tether’s dollars in Taiwan.

Tether and Bitfinex later sued to try and get an American court to force Wells Fargo to resume processing its transactions, but that was unsuccessful.

After this, Tether became a bit of a banking vagabond, as the New York attorney general's office noted in its settlements, and did not have a permanent banking relationship, bouncing around from Quebec's Bank of Montreal to banks in Puerto Rico.

Tether itself took a hit, wobbling from its US$1 peg to US$0.91 for some time, but traders stayed loyal to it.

In a leaked recording, Phil Potter, a Bitfinex executive trying to calm the nerves of anxious customers, said, “We’ve had banking hiccups in the past, we’ve just always been able to route around it or deal with it, open up new accounts, or what have you… shift to a new corporate entity, lots of cat and mouse tricks.”

Eventually, Tether opened up an account with Bahamas-based Deltec bank and continues to have a permanent relationship with them. Tether’s market cap has grown aggressively in the last two years and is now worth over US$60 billion.

But why Taiwanese banks?

To be sure, neither Tether nor its parent Bitfinex has ever been formally accused in court of money laundering. Tether’s legal troubles were simply about the size of its reserves.

Still, questions remain as to why Tether set up shop in Taiwan.

Normally a pariah for banks, Tether might have been attracted by the perception that Taiwanese banks play fast and loose with know your customer and anti-money laundering rules.

In 2016, New York’s Department of Financial Services fined Mega Bank US$180 million for a “flagrant disregard of anti-money laundering laws” involving transactions that originated at Mega Bank’s Panama office and were routed through its New York branch.

“The branch’s chief compliance officer lacked familiarity with U.S. regulatory requirements. In addition, the chief compliance officer had conflicted interests because she had key business and operational responsibilities, along with her compliance role,” the DFS noted in its release.

In 2018, Mega Bank was fined once again and ordered to improve its oversight and control in terms of money laundering prevention.

Both of these events led to Taiwan significantly strengthening its anti-money laundering controls, first passing new legislation in June 2017. In late 2019, the Australia-based Asia Pacific Group on Money Laundering downgraded its alert level for Taiwan from the “enhanced follow-up” to the “regular follow-up” category, alongside Hong Kong and Macau.

Wells Fargo would have been well aware of the situation when making its decision to end correspondent services to Tether-related transactions at its Taiwanese partner banks.

Of course, it’s also more than likely that Taiwanese banks were also well aware of the situation. The Mega Bank scandal was an expensive lesson in compliance requirements, and there is nothing yet to suggest Tether’s Taiwanese banking partners were not adhering to the highest standard as far as compliance goes.

Tether, for its part, calls the whole thing clickbait. In a statement, it said the Bloomberg article was based on “unnamed sources and years-old allegations.”

If there were years-old allegations for regulators to look into, Tether’s Taiwan connection might be it — regardless of the veracity.