The Bank of England is worried that cryptoassets are increasingly being connected to the financial system — and that it took just $1.2 trillion to trigger the subprime mortgage crisis.
A “massive collapse” in cryptocurrency prices is a “plausible scenario,” a senior Bank of England official has warned.
Deputy governor Sir Jon Cunliffe said such a downfall could one day destabilize some of the world’s biggest economies too — not least because of how cryptoassets like Bitcoin are increasingly being connected to the financial system.
During a speech, he pointed out how the total market cap of cryptocurrencies has risen from $776 billion at the start of 2021 to $2.3 trillion today. Although this may not seem large given how the entire global financial system is worth $250 trillion, Sir Jon added:
“As the financial crisis showed us, you don’t have to account for a large proportion of the financial sector to trigger financial stability problems — sub-prime was valued at around $1.2 trillion in 2008.”
Sir Jon said that regulators shouldn’t classify new technologies as “dangerous simply because they are different,” and conceded that crypto can deliver “radical improvements in financial services.”
Nonetheless, his concern lies in how many coins have “no intrinsic value and are vulnerable to major price corrections” — with leveraged trades on the rise in largely unregulated spaces.
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A Doomsday Scenario
Although Sir Jon predicted that retail investors, family offices and high net worth individuals could be left with “very sore heads” if the value of Bitcoin was to plummet, his main concern lies with those who enter into leveraged positions. He said:
“A severe fall in the value of cryptoassets could trigger margin calls on crypto positions forcing leveraged investors to find cash to meet them, leading to the sale of other assets and generating spillovers to other markets.”
And on the issue of decentralized finance, Sir Jon said “the difficulty to trace end users provides a unique set of challenges for regulators” — and even if rules were in force, there may be no one for central banks to hold accountable if things go wrong.
While he thinks that cryptocurrencies bring limited financial stability risks at present, Sir Jon thinks “this might not be the case for much longer” — and bringing the digital assets sector within the regulatory perimeter would ensure that the “potentially very large benefits” of this technology can “flourish in a sustainable way.” He concluded:
“Regulators internationally and in many jurisdictions have begun the work. It needs to be pursued as a matter of urgency. Technology and innovation have driven improvement in finance throughout history. Crypto technology offers great opportunity. As Emerson said: ‘If you build a better mousetrap the world will beat a path to your door.’ But it has to be a truly better mousetrap and not one that simply operates to lower standards — or to no standards at all.”
