Jon Cunliffe, the Bank of England’s deputy governor for financial stability, has warned that cryptocurrency might ignite a global financial crisis unless stricter restrictions implement.
Cunliffe compared the cryptoasset industry’s growth rate, from $16 billion five years ago to $2.3 trillion today, to the $1.2 trillion subprime mortgage market in 2008.
“When something in the financial system grows at a breakneck pace and in mostly unregulated territory. Both financial stability regulators must take note,” he explained.
Cunliffe acknowledged that governments and regulators must exercise caution in not overreacting or labeling such techniques as “hazardous” simply for being novel, but added that crypto technologies offer the promise of “dramatic advances” in financial services.
He argued, however, that while financial stability risks are currently minimal. The existing applications of cryptoassets constitute a danger to financial stability. The majority “have no inherent value and are susceptible to significant price corrections.”
Bitcoin and Ethereum
Bitcoin and Ethereum, the two major cryptocurrencies, fell by more than 30% early this year. Before recovering, and have been extraordinarily volatile since their inception. Prices are sensitive to various external causes, ranging from comments by Tesla CEO Elon Musk to Chinese government regulatory crackdowns.
“As the crypto sector begins to integrate with the existing financial system, we are seeing the appearance of leveraged actors. And, perhaps most significantly, this is occurring in a completely unregulated sector,” Cunliffe stated.
His remarks match those made in May by Bank of England Governor Andrew Bailey, who warned cryptocurrency investors that they should be prepared to lose their entire investment owing to the assets’ lack of “intrinsic value.”
The Financial Conduct Authority of the United Kingdom has also expressed concern about the dangerous nature of cryptocurrency investment.
Cunliffe stated that the danger to financial stability could develop fast if the market continues to expand at this rate. Still, the magnitude of such risks will depend on regulators’ and governments’ response times.
Bitcoin’s price has fallen by 10% in a single day on roughly 30 instances in the last five years, he noted, the largest being a nearly 40% drop following a cyber-attack on Seychelles-based bitcoin and cryptocurrency exchange BitMEX.
“The forward-looking question is what might happen if these cryptoassets continue to expand at scale, if they get more integrated into the regular financial sector, and if investing methods become more complex?” Cunliffe explained.
The ability of the system to absorb large market corrections, saddling some investors with painful losses. But avoiding a spillover effect on the real economy, is largely dependent on interconnection and leverage, Cunliffe noted.
These factors were present in the subprime mortgage market before 2008. They permitting the cascading consequences that eventually brought the global economy to a halt. Both are becoming more prevalent in the crypto area, Cunliffe suggested. He stated that authorities will manage this growing risk and ensure that the system is resilient to large corrections.
“While cryptocurrency finance operates in innovative ways, well-designed norms and regulation can and should enable risks to manage in the crypto sector in the same way they manage in traditional finance,” Cunliffe said.
Numerous regulators worldwide have begun developing a public policy framework for managing the exponential expansion of cryptoassets, but Cunliffe stated that this must be pursued urgently.
“Throughout history, technology and innovation have fueled advancements in finance. Cryptocurrency technology has tremendous opportunity. As [Ralph Waldo] Emerson put it, ‘if you design a better mousetrap, the world will beat a path to your door,'” he explained.
“However, it must be a truly superior mousetrap, not one that functions on lower — or no — standards.”