The crypto boom poses new challenges to financial stability
Dimitris Drakopoulos, Fabio Natalucci and Evan Papageorgiou |
02 October 2021 20:25:45
02, 2021, 20:27:25
In some emerging markets and developing economies, crypto may be driven by low central bank credibility, vulnerable banking systems, inefficiencies in payment systems and limited access to financial services, write Dimitris Drakopoulos, Fabio Natalucci and Evan Papageorgiou.
Crypto assets offer a whole new world of opportunities: quick and easy payments. Innovative financial services. Inclusive access to previously “unbanked” parts of the world. Everything is made possible by the crypto ecosystem.
But with opportunities come challenges and risks. The latest Global Financial Stability Report outlines the risks posed by the crypto ecosystem and offers some policy options to help navigate this uncharted territory.
WHAT IT IS, WHAT IS AT RISK: The total market value of all crypto assets exceeded US $ 2.0 trillion in September 2021, a 10-fold increase since the start of 2020. All an ecosystem is also thriving, teeming with exchanges, wallets, miners, and stablecoin issuers.
Many of these entities lack strong operational, governance and risk management practices. Crypto exchanges, for example, have faced significant disruption during times of market turbulence. There are also several high-profile cases of theft of customer funds linked to the hack. So far, these incidents have not had a significant impact on financial stability. However, as crypto assets become more mainstream, their importance in terms of potential implications for the wider economy is expected to increase.
Consumer protection risks remain significant given the limited or inadequate disclosure and oversight. For example, over 16,000 tokens have been listed on various exchanges and around 9,000 exist today, while the rest have disappeared in one form or another. For example, many of them do not have volumes or the developers have moved away from the project. Some were probably created purely for the purpose of speculation or even outright fraud.
The (pseudo) anonymity of crypto assets also creates data gaps for regulators and can open unwanted doors to money laundering, as well as terrorist financing. While authorities may be able to trace illicit transactions, they may not be able to identify the parties to those transactions. Additionally, the crypto ecosystem falls under different regulatory frameworks in different countries, which makes coordination more difficult. For example, most transactions on crypto exchanges are done through entities that primarily operate in offshore financial centers. This makes supervision and enforcement not only difficult, but almost impossible without international collaboration.
Stables – which aim to peg their value typically to the U.S. dollar – are also growing at lightning speed, their supply having quadrupled throughout 2021 to $ 120 billion. The term “stablecoin”, however, captures a very diverse group of crypto assets and can be misleading. Given the composition of their reserves, some stable coins could be subject to rushes, with spillover effects on the financial system. The races could be driven by investors’ concerns about the quality of their reserves or the speed at which reserves can be liquidated to cope with potential redemptions.
MAJOR CHALLENGES AHEAD: While the extent of crypto asset adoption is difficult to measure, surveys and other metrics suggest emerging markets and developing economies could lead the way. Most notably, residents of these countries have sharply increased their transaction volumes in crypto exchanges in 2021.
Going forward, widespread and rapid adoption can pose significant challenges by bolstering the forces of dollarization in the economy – or in this case crypto – where residents begin to use crypto assets instead of local currency. Cryptoization can reduce the ability of central banks to effectively implement monetary policy. It could also create risks for financial stability, for example due to financing and solvency risks resulting from currency mismatches, and amplify the importance of some of the risks mentioned above for consumer protection and integrity. financial.
Threats to fiscal policy could also intensify, given the potential of crypto assets to facilitate tax evasion. And seigniorage (the profits from the right to issue money) may also decrease. An increased demand for crypto assets could also facilitate capital outflows that impact the forex market. Finally, a migration of crypto “mining” activity outside of China to other emerging markets and developing economies can have a significant impact on domestic energy consumption, especially in countries that depend on forms of more CO2-intensive energy, as well as those that subsidize energy costs, given the large amount of energy required for mining activities.
POLICY ACTION: As a first step, regulators and supervisors need to be able to monitor rapid changes in the crypto ecosystem and the risks they create by quickly addressing data gaps. The global nature of crypto assets means that policymakers should improve cross-border coordination to minimize the risks of regulatory arbitrage and ensure effective oversight and enforcement.
National regulators should also prioritize the implementation of existing global standards. Standards focused on crypto assets are currently mainly limited to money laundering and proposals on bank exposures. However, other international standards in areas such as securities regulation, as well as payments, clearing and settlements may also be applicable and require special attention.
As the role of stablecoins increases, regulations need to be proportionate to the risks they pose and the economic functions they perform. For example, the rules should be aligned with entities that provide similar products (eg bank deposits or money market funds).
In some emerging markets and developing economies, crypto may be driven by low central bank credibility, vulnerable banking systems, inefficiencies in payment systems, and limited access to financial services. The authorities should prioritize strengthening macroeconomic policies and examining the benefits of central bank issuance of digital currencies and improving payment systems. Central bank digital currencies can help reduce crypto pressures if they help meet a need for better payment technologies.
Globally, policymakers should prioritize faster, cheaper, more transparent and inclusive cross-border payments through the G20 Roadmap on Cross-Border Payments.
Time is running out and action must be decisive, swift and well coordinated on a global scale to allow the benefits to flow, but, at the same time, address the vulnerabilities.
The piece is taken from www.blogs.imf.org