The European Systemic Danger Board (ESRB) was released a report on Thursday outlining the top 3 nightmare scenarios in which a cryptocurrency industry crisis could bleed in and pose “systemic risk” to the broader financial system.
The top danger listed is a potential run on a “large reserve-backed stablecoin,” such as Tether (USDT) (USDT) or USD Coin (USDC).
Cryptocurrencies Connection to TradFi
In its 77-page report, the ESRB claimed that as the volatile cryptocurrency industry grows, so as well does its connection to the mainstream financial world.
The board doesn’t believe this interconnectedness poses any sort of “systemic risk” to “fundamental services” in the immediate future, noting “only sporadic correlation betwixt the booms and busts of crypto-assets and traditional finance.”
That stated, there are a variety of ways that this danger can manifest down the line. These include a failure to identify how forms of interconnectedness develop, and further adoption of cryptocurrency technologies within traditional finance itself.
At this time, one of the main connections betwixt cryptocurrency and TradFi are reserve backed crypto stablecoins. These are crypto-assets that remain price pegged to a relatively price-stable, non- cryptocurrency investment like fiat currency or gold, and are backed by reserves containing those assets.
“A run on a reserve-backed crypto stablecoin would generate forced selling of marketable debt and withdrawals from banks,” wrote the ESRB. “ There is always the possibility that this could Becomes a broader panic.”
Crypto Stablecoin Panic
Crypto Stablecoin panic is nothing new to the cryptocurrency industry. In May 2022, Tether (USDT) suffered withdrawal pressure within the billions of dollars in May 2022, but still managed to keep its peg to the dollar. USDC depegged for numerous days in March 2023 after the collapse of Silicon Valley Bank, which held much of the reserves backing the coin, prompting numerous holders to flee into USDT.
Cryptocurrency is likewise connected to TradFi through banks and other institutions that facilitate conversions betwixt cryptocurrency assets and fiat currency. The board pointed out that these institutions can likewise face runs and fail – much like Silicon Valley Bank, Silvergate bank, and Signature Bank in March.
“ In general, at this point, this report concludes that the connections betwixt the crypto- investment and traditional financial worlds remain incredibly modest.”
Aside from a crypto stablecoin run, the board argued that a boost of prominence in cryptocurrency assets within the payment system could cause danger to transmit into the TradFi world. The International Monetary Fund (IMF) has warned of similar dangers surrounding El Salvador, to which it recommends abandoning Bitcoin (BTC) as legal tender.