The Basel Committee is
investigating whether investments in cryptocurrencies would
increase banks’ capital requirements. The decision
could have an impact on the volatility of cryptocurrencies and
on institutional interest in the emerging asset class. But it
could also be a sign of regulators stepping up efforts to
understand this new market.
"A move to implement capital rules on
banks that are exploring crypto assets is a positive indicator
that cryptocurrencies are increasingly being seen as a
legitimate asset class," said BitBull chief executive Joe
The regulator is hoping to bolster the
rules under the Basel III regulation so that banks are
protected against short-term market volatility and losses. The
move comes amid fears that the erratic price changes, which
have been a feature of the market this past year, could
threaten bank stability if significant capital is invested.
An EU report released earlier this month
said cryptocurrencies will not challenge nor replace existing
currencies - it underplayed the risk of cryptocurrencies
threatening global bank stability. Jerome Powell, chairman of
the Federal Reserve said previously that the market was not big
enough to pose a threat.
"A move to implement capital
rules on banks that are exploring crypto assets is a
Yet the market has been generating more
interest from banks, fuelling the belief that it could be
considered a legitimate and common asset-class. In May, Goldman
Sachs appointed its first ever digital assets markets head,
Justin Schmidt, and is to open a bitcoin trading desk. Its new
chief executive, David Solomon, is understood to be keen on
cryptocurrencies. In the same month, JP Morgan followed suit,
appointing Oliver Harris as its new head of crypto asset
strategy, responsible for identifying crypto projects for the
firm to develop.
The Basel Committee is
considering whether to force banks to hold more capital in
reserve if the invest in cryptocurrency;
The potential rule change could
deter institutional interest in cryptocurrency, but it could
be positive in bolstering regulation which could lead to it
being considered as a legitimate asset class;
For institutional interest to
intensify, there needs to be firmer regulation and
Any change to the capital requirements could significantly
discourage institutional interest in cryptocurrencies and
derail what has been an encouraging few months for the
industry. Yet for some, the potential rule changes are a sign
that cryptocurrencies are being taken seriously by decision
This development could increase
transparency in a currently unregulated market that has had
challenges in the past when it comes to the integrity of some
actors. Concerns about money laundering, price manipulation and
security has dampened the optimism of many institutional
investors, but with increasing regulatory oversight both in
Europe and the US, bank interest has grown.
This has led the G20’s
financial regulator, the Financial Stability Board, to publish
a report that can help G20 nations identify crypto-assets and
metrics that highlight a greater level of risk.
But banks are not short of other concerns
at present with Brexit and an abundance of other regulatory
changes likely to be at the centre of attention.
"I believe that banks have bigger worries
and less appetite to deal with an asset which is still trying
to find own definition in the range of financial instruments,"
said Ikaros Matsoukas, a fintech consultant.
While regulation has gone some way to
clarify many uncertainties, the market landscape is far from
clear. A lack of test cases to illustrate what is considered to
be a security, amongst other things, remains and banks are
unlikely to go beyond dipping their toes in the water unless
more regulation is implemented which provides the investor with
more clarity and protection and brings initial coin offerings
firmly within the scope of a traditional financial asset.
Currently, banks could invest directly in
cryptocurrency and calculate their risk-weighted assets using
the current other assets definition under Basel III. Yet there
is not enough historical data available and the data that does
exist is not satisfactory and detailed enough to fully assess
The other issue is that cryptocurrency has
attracted prohibited trading practices, such as money
laundering and this is what deters bank investment in
cryptocurrency, according to Matsoukas.
"Regulation can bring more institutional
investment in cryptocurrency, not less," he said. "Regulation
on capital requirements to specifically include cryptocurrency
investing would only be effective if it is combined with
regulation on market infrastructure, like crypto
According to market insiders,
cryptocurrency exchanges are stepping up and implementing
know-your-customer and anti-money laundering procedures to
deter malicious practices, yet recent concerns about price
manipulation have emerged.
For banks themselves, cryptocurrencies do
not have a multiplier effect like fiat currency so banks would
be unable to issue more of these against a deposit and,
therefore, they would have to be treated differently.
Also, there are differing theories on how
cryptocurrencies would be effected in the event of a financial
crisis: whether investors would be encouraged to move capital
away from traditional investments and into less exposed areas,
or that the volatile nature of the asset would make investors
shirk away in an even more uncertain time.
"Bitcoin and Ripple are volatile against
main currencies, but it is unknown how they might be affected
by a systematic risk event," a fintech researcher at an
alternative investment firm. "I suspect Ripple might be
affected more as banks use that as a money transfer
For other tokens, like bitcoin, that are
not considered a security as yet, they could be considered as
an alternative option to traditional markets in times of
Regulation has certainly boosted interest
from banks so far, so while at first thought the rules could
dampen interest, the Basel Committee may be promoting an asset
they are suspicious of.
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