Bank of England says growth of crypto sector risks financial instability

The Bank of England says the rapid growth of cryptocurrency will create stability risks in the future.

In its recent Financial Stability Report, the Bank of England said the pace of growth in crypto markets means they could become riskier as they become increasingly linked to wider financial networks.

The BoE’s Financial Policy Committee noted direct risks to the stability of the UK financial system from crypto assets were currently limited.

“However, 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,” the report said.

“For example, a large fall in crypto asset valuations may cause institutional investors to sell other financial assets and potentially transmit shocks through the financial system.

“The use of leverage can amplify such spill overs further.”

‘Crypto assets have no intrinsic value’

According to the report, the market capitalisation of crypto assets has grown tenfold since early 2020 to around US$2.6tn in November 2021, representing around 1% of global financial assets.

Approximately 95% of this market is, the BoE said, made up of ‘unbacked’ crypto assets which have no underlying assets.

“Such crypto assets have no intrinsic value, are vulnerable to major price corrections and so investors may lose all their investment,” it said.

Innovation can bring a number of benefits, including reduced frictions and inefficiencies in financial services.

The Bank of England said these benefits could only be realised and innovation would only be sustainable if undertaken safely and accompanied by effective public policy frameworks that mitigate risks.

The Bank added that enhanced regulatory and law enforcement frameworks were necessary to influence developments in fast-growing markets “in order to manage risks, encourage sustainable innovation and maintain broader trust and integrity in the financial system. The FPC welcomes international work on these issues”.

The Financial Policy Committee also said it welcomed HM Treasury’s proposal for a regulatory regime for ‘stablecoins’ – a type of backed cryptoasset – used as a means of payment. This includes bringing systemic stablecoins into the Bank’s regulatory remit.