FSB advises early action to contain emerging risks from cryptoassets
16 February 2022 Switzerland
Image: AdobeStock/BillionPhotos.com
The rapid growth of cryptoasset markets could present a threat to global financial stability, according to a report from the Financial Stability Board (FSB) released today.
The report, “Assessment of Risks to Financial Stability from Crypto-assets”, warns that the pace and scale of cryptoasset expansion, their increasing interconnectedness with the “traditional” financial system, and related structural vulnerabilities, could cause financial stability risks to accelerate rapidly.
This demands timely and pre-emptive assessment of the policy responses available and steps to close potential regulatory gaps, arbitrage opportunities and fragmentation, says the Basel-based organisation.
In the report, the FSB focuses on vulnerabilities associated with three parts of the cryptoasset marketplace, notably unbacked cryptoassets (e.g. Bitcoin), stablecoins, and decentralised finance and cryptoasset trading platforms.
Given the close relationship between these three segments, these need to be considered “holistically” when evaluating risks to financial stability.
The FSB notes that cryptoasset market capitalisation increased by 350 per cent during 2021 to US$2.6 trillion, although still a small percentage of aggregate assets in the global financial system.
However, as linkages tighten between cryptoasset markets and the regulated financial system, this may increase the wider danger to global financial stability. Threats may also derive from liquidity mismatches, credit and operational risks that make stablecoins subject to sudden runs on their reserves.
The FSB also reflects in the report on the greater use of leverage by some traders, concentration risks at digital asset trading platforms, and opacity and a lack of regulatory oversight in some parts of the market.
These concerns may be exacerbated in some cases by weak investor understanding of potential risks associated with cryptoasset investment, along with threats presented by moneylaundering, cybercrime and ransomware.
Currently, the FSB notes, stablecoin is used predominantly as a bridge between traditional fiat currencies and cryptoassets. If a stablecoin were to fail, however, liquidity within the broader cryptoasset ecosystem (including DeFi) could be constrained, resulting in trading disruption and potential stress in those markets.
This stress could also spill over into short-term funding markets if stablecoin reserve holdings were liquidated in a disorderly manner, the FSB concludes.
The report, “Assessment of Risks to Financial Stability from Crypto-assets”, warns that the pace and scale of cryptoasset expansion, their increasing interconnectedness with the “traditional” financial system, and related structural vulnerabilities, could cause financial stability risks to accelerate rapidly.
This demands timely and pre-emptive assessment of the policy responses available and steps to close potential regulatory gaps, arbitrage opportunities and fragmentation, says the Basel-based organisation.
In the report, the FSB focuses on vulnerabilities associated with three parts of the cryptoasset marketplace, notably unbacked cryptoassets (e.g. Bitcoin), stablecoins, and decentralised finance and cryptoasset trading platforms.
Given the close relationship between these three segments, these need to be considered “holistically” when evaluating risks to financial stability.
The FSB notes that cryptoasset market capitalisation increased by 350 per cent during 2021 to US$2.6 trillion, although still a small percentage of aggregate assets in the global financial system.
However, as linkages tighten between cryptoasset markets and the regulated financial system, this may increase the wider danger to global financial stability. Threats may also derive from liquidity mismatches, credit and operational risks that make stablecoins subject to sudden runs on their reserves.
The FSB also reflects in the report on the greater use of leverage by some traders, concentration risks at digital asset trading platforms, and opacity and a lack of regulatory oversight in some parts of the market.
These concerns may be exacerbated in some cases by weak investor understanding of potential risks associated with cryptoasset investment, along with threats presented by moneylaundering, cybercrime and ransomware.
Currently, the FSB notes, stablecoin is used predominantly as a bridge between traditional fiat currencies and cryptoassets. If a stablecoin were to fail, however, liquidity within the broader cryptoasset ecosystem (including DeFi) could be constrained, resulting in trading disruption and potential stress in those markets.
This stress could also spill over into short-term funding markets if stablecoin reserve holdings were liquidated in a disorderly manner, the FSB concludes.
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