The crypto-asset universe has increased dramatically in both size and complexity since the end of 2020, expanding beyond Bitcoin. Following a deep dive into crypto-asset leverage and crypto lending, we conclude that if the present trajectory of growth in the size and complexity of the crypto-asset ecosystem continues, and if financial institutions become increasingly involved with crypto-assets, then crypto-assets will pose a risk to financial stability. This article therefore abstracts from a specific discussion on risks and developments in stablecoins which, as shown by the recent TerraUSD crash and Tether de-peg, are not as stable as their name suggests and cannot guarantee their peg at all times. This special feature provides an update on crypto-asset market developments and a general overview of risks stemming from unbacked crypto-assets and DeFi, given the way in which they have evolved and their specific characteristics and risks. Risks to financial stability in the euro area stemming from crypto-assets were seen as limited in the past. Despite recent declines, they remain similar in size to, for example, the securitised sub-prime mortgage markets that triggered the global financial crisis of 2007-08. While crypto-asset markets currently represent less than 1% of the global financial system in terms of size, they have grown significantly since the end of 2020. Major players in the payments industry have also stepped up their crypto-asset-based services, enabling easier retail access. This exuberance stems from, among other things, perceived opportunities for quick gains, the unique characteristics of crypto-assets (for instance programmability) compared with conventional asset classes, and the benefits perceived by institutional investors with regard to portfolio diversification. This also raises concerns over money laundering, market integrity and consumer protection, and may have implications for financial stability.ĭespite the risks, investor demand for crypto-assets has been increasing. Crypto-assets lack intrinsic economic value or reference assets, while their frequent use as an instrument of speculation, their high volatility and energy consumption, and their use in financing illicit activities make crypto-assets highly risky instruments. The different segments of crypto-asset markets include unbacked crypto-assets (such as Bitcoin), decentralised finance (DeFi) and stablecoins. 1 IntroductionĬrypto-assets are currently the subject of intense policy debate. It is important to close regulatory and data gaps in the crypto-asset ecosystem to mitigate such systemic risks. Systemic risk increases in line with the level of interconnectedness between crypto-assets and the traditional financial sector, the use of leverage and lending activity. The stellar growth, volatility and financial innovation currently seen in the crypto-asset ecosystem, as well as the rising involvement of institutional investors, show how important it is to gain a better understanding of the potential risks that crypto-assets could pose to financial stability if trends continue on this trajectory. Published as part of the Financial Stability Review, May 2022. Prepared by Lieven Hermans, Annalaura Ianiro, Urszula Kochanska, Veli-Matti Törmälehto, Anton van der Kraaij and Josep M.
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