The deputy governor for financial stability at the Bank of England has called on regulators to speed up their work amid the crypto winter.
Sir Jon Cunliffe, speaking at an event at the British High Commissioner’s Residence in Singapore, said technology cannot remove all financial risks and that future regulation should be designed on the principle of ‘same risk, same regulation’.
He added that appropriate regulation will support innovation.
“Crypto technologies offer the prospect of substantive innovation and improvement in finance,” he said. “But to be successful and sustainable innovation has to happen within a framework in which risks are managed: people don’t fly for long in unsafe aeroplanes.”
$2 trillion has been wiped off the cryptocurrency market value since last year – it currently stands at $874 billion – with the high-profile collapse of the Terra ecosystem and stablecoin triggering a nosedive in recent months.
“The first lesson is that finance carries inherent risks. Technology can change the way these risks are managed and distributed, but it cannot eliminate them,” continued Cunliffe.
“Most obviously, financial assets with no intrinsic value – that is to say with no real economy assets backing them and no means of generating revenue – are only worth what the next buyer will pay. They are therefore inherently volatile, very vulnerable to sentiment and prone to collapse.
“The majority of crypto-assets in in circulation today fall into this category and are proven to have very erratic swings in value, in both directions.
“The proponents of crypto assets like Bitcoin have argued that their technological design enables them to function as a hedge against economic volatility and inflation – a sort of ‘digital gold’. The reality, however, is that they behave as a very speculative, risky asset.”
Since November, against the background of a weakening global economy, higher inflation and tighter monetary policy, gold has lost 7% of its value, while Bitcoin has lost 70%.
“History is littered with examples of similar speculative assets that have made a very large amount of money for those that got out in time – and that have cost those who did not an equally large amount,” said Cunliffe. “Technology does not make assets with no intrinsic value a safe or a one-way bet.”
Turning to regulation, he continued: “Regulators need to get on with the job of bringing the use of crypto technologies in finance within the regulatory perimeter… crypto is not ‘over’.
“Regulators, myself included, made clear when crypto reached its highs last year that it was not yet large enough or integrated enough into the rest of the financial system to be an immediate systemic risk. However, we also made clear that given the speed of growth and the growing connections with conventional finance, it could pose such a risk relatively quickly and we needed to get on with the work of bringing it within the regulatory perimeter. Recent events have not, in my view, changed that assessment.”
Cunliffe says the extension of the regulatory framework to encompass the use of crypto technologies must be grounded in the iron principle of ‘same risk, same regulatory outcome’.
“The starting point for regulators should be to apply the same regulation to the risks inherent in the provision of a financial service no matter how it is provided,” he explained.
“But differences in technology may mean that existing regulation may not work in this new context or, indeed, may not effectively manage the risk. Implicit in our regulatory standards and frameworks are the levels of risk mitigation we have judged necessary.
“Where we cannot apply regulation in exactly the same way, we must ensure we achieve the same level of risk mitigation – in other words, the ‘same regulatory outcome’.
“And, if and when for certain crypto related activities this proves not to be possible, where we can find no way to mitigate and manage the risk to the extent necessary, that is to say to the extent such risk is managed in other parts of the financial system, we should not let activities proceed.”
Cunliffe closed the speech by saying “ innovation and regulation are friends, not enemies”.
“Speculative crypto assets may have a limited future – but we can see that a range of other use cases are being proposed and developed in both the crypto and the non-crypto world,” he said.
“A separate but rapidly developing field is the deployment of crypto technologies and smart contracts in the exchange, clearing and settlement of financial securities. Today, in mainstream finance these activities are carried out in sequence by separate entities at significant cost. However, some of the protocols that have begun to be developed in the crypto world have pointed to the possibility of collapsing these activities into a single entity and automating through the use of smart contracts.
“If successfully developed, such technologies could simplify the network of relationships that need to be maintained for trading in shares and bonds and lead to lower costs, greater speed and greater transparency for end investors.
“It is, of course, impossible to say how successful and how disruptive these technologies will ultimately prove to be in finance. History has many examples of technologies that promised much but failed to deliver.
“Given the pace of change and the disruption we have seen in other sectors of the economy it would be very unwise for financial regulators to ignore these developments. But it would also be unwise for innovators and the authorities alike to forget that to be successful and sustainable, technologically driven innovation needs regulation.
“A succession of crypto winters will not, in the end, help the deployment and adoption of these technologies and the reaping of the benefits that they may offer.”