Calling for New Regulatory Framework, BoE Governor Says Crypto Becoming Threat to UK Financial Stability

UK Crypto

Cryptocurrency is growing fast enough that it may soon become a systemic risk to U.K. financial stability, the Bank of England warned in a report released on Monday (Dec. 13).

The BoE’s Financial Stability report for December focuses on four areas of risk: COVID and the economy, bank resiliency, mortgage measures and crypto-assets.

The crypto-asset market “probably isn’t a financial stability risk today, but it has all the makings of something that could become one,” BoE Governor Andrew Bailey said at a press conference. “At the current rapid pace of growth, and as these assets become more interconnected with the wider financial system, crypto-assets will present a number of financial stability risks.”

Last month, Sir Jon Cunliffe, the BoE’s deputy governor for financial stability, warned in an interview with Today UK News that time is “getting closer.”

Also see: Regulators Feel the Pressure as Banks, FinTechs and Crypto Firms Vie for Wallet Share

While Bailey did not specify all the risks in his remarks, he gave an example, arguing that a “large fall in crypto-asset valuations may cause institutional investors to sell other financial assets and potentially transmit shocks through the financial system,” adding that “the use of leverage can amplify such spillovers further.”

Calling for a new regulatory regime for crypto both in the U.K. and globally, Bailey called on banks and other financial institutions to “take an especially cautious and prudent approach to any adoption of these assets until such a regime is in place.”

Although no major British banks have reported direct exposure to crypto-assets as yet, some are starting to offer a variety of services, such as crypto-asset derivatives trading or custody services.

The crypto market continues to grow rapidly, increasing tenfold since early 2020 to about $2.6 trillion last month, equivalent to 1% of global financial assets, the FPC said.

Crypto’s Dangerous 1%

Noting that the total market value of crypto-assets has grown tenfold in the past two years, Bailey pointed out that they represent about 1% of global financial assets. That was using a $2.6 trillion market cap in November, when crypto briefly broke $3 trillion during a bull rally. It is currently at about $2.1 trillion — nearly half that of bitcoin.

Bailey also called the “vast majority” of crypto-assets “unbacked,” with the report putting that figure at “around 95%.”

As cryptocurrencies “have no intrinsic value, [they] are vulnerable to major price corrections, and so investors may lose all of their investment,” he said. That’s a point BoE officials have made many times before.

Related news: SEC Turning Attention to Crypto Exchanges

The report repeated the central bank’s call for “enhanced regulatory and law enforcement frameworks, both domestically and at a global level,” saying it is “needed to influence developments in these fast-growing markets.”

That said, it did point out that such regulations should balance the risks crypto poses with the need to support financial innovation and competition.

Instability Ahead

The bank, which has been investigating the potential benefits of a central bank digital currency (CBDC) aggressively this year, is also concerned with stablecoins — particularly global ones like Facebook’s Diem (formerly Libra) project, the report said. It argued that legislation should be passed to “bring systemic stablecoins into the Bank’s regulatory remit.”

That’s a concern that grew in urgency last week, when Meta (formerly Facebook) announced that the Novi digital wallet it created for Diem would support the dollar-denominated Paxos stablecoin on Meta-owned WhatsApp.

Read more: Is Paxos the New Diem? The Stablecoin Issuer’s Facebook Pilot Just Expanded to 2B WhatsApp Customers

As the world’s most popular messaging service, WhatsApp has two billion customers.

“We often hear that people use WhatsApp to coordinate sending money to loved ones, and Novi enables people to do that securely, instantly and with no fees,” Stephane Kasriel, Novi’s incoming leader, said on Dec. 10. “Payments will appear directly in people’s chat.”

That is exactly what has terrified central bankers, financial regulators and elected officials around the globe since the Libra/Diem project was announced. The concern is that a stablecoin on such a large platform could bypass national currencies, taking control of the broader financial system away from authorities.