The cryptocurrency sector has grown in value by almost 200% in 2021. From just below $800 billion in January to more than $2.3 trillion currently. Interestingly, the market cap of the crypto space has risen from $16 billion five years ago.
One senior Bank of England policymaker has now warned that digital currencies like bitcoin might trigger a financial meltdown unless governments and authorities around the world step forward with tough regulations.
Likening the growth of cryptos to the volatile roller coaster of the US sub-prime mortgages before the 2008 financial crisis, the deputy governor of Sir Jon Cunliffe insisted that there was a growing danger that financial markets might be rocked in the coming years by an event of similar magnitude.
Bitcoin and Ethereum tumbled in value earlier this year. However, they have now recovered ground to reach near all-time highs with Bitcoin now tackling resistance around the $58K-$59K level. Barely five years ago, one bitcoin was trading at $700 (£513) compared with $57,500 (£42,000) today. Ethereum has nearly doubled in value since July trading above $3,500.
Cunliffe has been playing an important role in monitoring cryptos in recent years working as an adviser to the G20’s financial stability board. He has also been a major advisor to the central banks’ overarching advisory body, known as the Geneva-based Bank of International Settlements. All these years, he has not changed his tune. He always calls for strict regulation of cryptos.
Being a majorly respected ex-Whitehall mandarin with contacts in the central bank and political circles, his warnings might grab the attention of many senior Treasury officials in Washington, the United Kingdom, and Tokyo. The explosive growth of the crypto market in the past five years seems to have caught the attention of many governments and authorities globally.
The executive believes that while the finance sector was massive in 2008, governments need to be wary of overreacting to financial innovations. But, he says that there are reasons to be worried about the traders who are using digital currencies that might become worthless overnight. He explained:
“Of course $2.3tn needs to be seen in the context of the $250tn global financial system. But 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 about $1.2tn in 2008.”
Most of the speculation in sub-prime mortgages in the United States was pushed by low-income households that were using mortgages with ultra-low interest rates. Cunliffe stated that there was a lot of evidence that speculators were starting to borrow money to acquire crypto assets. This scenario has increased the risk of a crash that might impact the wider financial system majorly.
Currently, most of the surveys conducted suggest that spending on cryptos is backed with just $40 billion of borrowed money. However, there was compelling evidence that the traders were largely speculating on the future value of various cryptos.
According to Cunliffe, the traders on the Chicago Mercantile Exchange (CME) were handling around $2 billion of crypto purchases daily. In that context, the popularity of futures trading seems to be attracting hedge funds and other speculators. The senior Bank of England policymaker stated:
“The bulk of these assets have no intrinsic value and are vulnerable to major price corrections. The crypto world is beginning to connect to the traditional financial system and we are seeing the emergence of leveraged players. And, crucially, this is happening in largely unregulated space.”
He also stated:
“Financial stability risks currently are relatively limited but they could grow very rapidly if, as I expect, this area continues to develop and expand at pace. How large those risks could grow will depend in no small part on the nature and the speed of the response by regulatory and supervisory authorities.”
There was also a major conflict brewing between the need to develop market standards in “a painstaking, careful process” and the speedy growth of digital trading. Cunliffe insisted that the guidelines drafted by various regulatory bodies and global financial markets had taken around two years to write and compile. During that time, the trading platforms for digital currencies have expanded by up to 12 times.