Crypto will pose financial stability risks

The European Central Bank (ECB), in its Decrypting financial stability risks in crypto-asset markets report, observes that crypto assets, especially unbacked ones like Bitcoin (BTC), point to a growing threat to financial stability.

It’s all happening in crypto…

It’s been a downward trajectory for cryptocurrencies in the market, with prices of crypto assets plummeting since last November.

Bitcoin (BTC), for one, has seen its value against the US dollar decline by more than 50%. The entire crypto market has lost over $1.6 trillion in market capitalization. In a bear market, the losses could yet see another leg down.

But the massive losses across the sector seem not to have stemmed a key trend seen over the last couple of years – a growing interconnectedness and integration of crypto into the financial sector. The upward trajectory, in this case, relates to institutional investors’ increased investments into the space, as well as the integration of crypto into services across the financial sector.

Decentralized finance (DeFi) and the need to diversify portfolios are also among the major trends despite the falling prices.

Regulate crypto as it poses systemic risks

Not for the first time, the European Central Bank (ECB) says a global regulatory approach is needed- and fast.

In its latest review report of cryptocurrencies and their potential to increase financial stability risks, the ECB notes that contagion from crypto’s volatility so far remains significantly small.

However, “systemic risk increases in line with the level of interconnectedness between the financial sector and the crypto-asset market, the use of leverage and lending activity,” the bank said. 

“If current growth and market integration trends persist, then crypto-assets will pose a risk to financial stability,” the bank noted, urging regulators to work towards closing gaps and arbitrage possibilities. 

According to the ECB, crypto is a global market that presents a global issue, and which therefore requires the efforts of all regulatory players across the world.

Attention towards cryptocurrencies is likely to be amplified across the regulatory landscape following this month’s dramatic collapse of Terra (LUNA) and the algorithmic stablecoin TerraUSD (UST).