BoE’s Cunliffe: Cryptos’ financial stability risks can only go upwards

Payments-like prudential framework should be extended to stable coins

Date published
October 13, 2021 Categories

Sir Jon Cunliffe, deputy governor at the Bank of England, warned that while a crypto asset correction would not cause financial stability risks at the present stage, “all else equal, the current trajectory implies that this may not be the case for very long.”

Speaking at Sibos 2021 on Wednesday, Cunliffe noted that crypto assets have grown dramatically over the past year from $800bn to $2.3trn – a nearly 200 percent surge that underpins the segment’s rising appeal to both retail and institutional investors.

“Crypto technologies offer a prospect of radical improvements in financial services,” he said. “However, while the financial stability risks are still limited, their current applications are now a financial stability concern for a number of reasons.”

Risks of crypto-market contagion currently remain low as most banks have little exposure to crypto assets other than providing agency services, Cunliffe added. For hedge funds, they make up around 3 percent of assets under management but are growing.

Other central bankers hold a similar view that the rapid expansion of crypto markets could change their systemic relevance soon, and therefore are keeping a close eye on related developments.

As the asset class continues to grow, Cunliffe said the interconnectedness of financial markets could prompt spillover effects, such as those seen with the dash for cash in money market funds in March of last year.

“A large fall in crypto valuations could affect investor risk sentiment more broadly, causing investors to sell other assets that are judged to be risky and those perceived to have a similar investor base.”

Bringing crypto markets into the regulatory fold could help manage these risks while enabling the wider market to reap the benefits they carry.

“Bringing the crypto world effectively within the regulatory perimeter will help ensure that the potentially very large benefits of the application of this technology to finance can flourish in a sustainable way,” he said.

Stable coins

Though stable coins remain only a small part of crypto assets – accounting for $130mil, or about 5 percent of the overall market – they like the broader asset-class are growing rapidly.

Citing a report released last week by the Committee on Payments and Market Infrastructures at IOSCO, Cunliffe said the Principles for Financial Market Infrastructures that apply to systemic payment systems should be extended to stable coins, which are likely to become systemic.

“This is crucial to ensure that confidence in the coin can be maintained in normal times and in stress.”

Like existing payments systems, payments made using stable coins should be backed by the highest-quality liquidity.

“To this end the guidance also covers users’ claim on the issuer and/or the underlying assets, and their right to redeem in central bank or commercial bank money at par at least by the end of day.”

The report is now under consultation, but it will be up to individual jurisdictions to implement its proposed guidelines.

Cunliffe added that, while it wasn’t the responsibility of regulators to protect business models – pointing out the fact the banking industry has adapted to new technologies and new player successfully over the years – “financial stability authorities do have a legitimate interest in ensuring any transition is smooth and does not generate instability.”

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