2022 was a very tumultuous year for crypto assets and decentralized finance. Bitcoin, the reference currency, used a long cryptographic winter that led it to close at $17,000, after having set maximums in 2021 at $69,000. This, together with a dynamic of exponential growth of crypto assets seen in the past, could pose a systemic risk for the financial system. Faced with this possibility, the European Union, through the European Systemic Risk Board, has requested financial institutions to develop a series of firewalls in the event of a crypto crisis and its possible contagion to the sector.
The body, which carries out an independent activity within the European Union and is in charge of saving financial stability, considers that the financial system could be contaminated by cryptos for various reasons. The first, due to its interconnection with the traditional financial system that is increasing over time. Also because their connections to the traditional financial system cannot be identified before they cause problems. Finally because they adopted similar technologies in the financial world.
The EU recognizes that the instability experienced last year did not infect the financial system and the real economy because they still have few ties, this does not mean that they will not increase in the future. For this reason, the EU has urged the authorities to take the necessary measures so that they can act in a timely manner in the event that these risks end up materializing.
The three measures they propose
To this end, the EU proposes that measures be adopted focused on three areas that they consider fundamental. The first is that the EU improve its capacity to monitor possible contagion channels between the crypto-assets sector and the traditional financial sector. The objective is to improve the monitoring capacity through the introduction of periodic reports, which will have to be carried out by those financial entities with exposure to crypto assets. In this regard, the European Systemic Risk Board proposes that in these cases the interconnection between the fund sector and the cryptoactive sector be followed. Finally, given the potential for contagion between trading platforms, it is proposed to introduce reporting requirements to map exposures between crypto asset trading platforms and other relevant entities.
The second measure would be to carry out assessments of the risks posed by crypto asset conglomerates and take advantage of the use of crypto assets and identify possible additional actions to reduce the observed risks. Here we already have an instrument that derives from the application of MiCA, and that could be useful to identify and assess the risks derived from crypto-asset conglomerates, given the potential for prudential, reputational or operational cumulative risks. Also, given the degree to which leverage can take place within the crypto asset market, it would be prudent to identify and assess the systemic risks arising from these positions.
Finally, it is sought that the authorities carry out a monitoring of the evolution of the market, focusing on operational resilience, decentralized finance and the staking of crypto assets and loans. For the whole is to ensure that potential risks to financial stability and for the effectiveness of macroprudential policy can be identified, assessed and reduced.
In other words, the agency requires banks, investment funds and issuers of stable digital currencies or providers of electronic wallet services to report their exposures to crypto assets.