A recent paper regarding crypto assets and financial stability was released by the European Central Bank (ECB). In the paper it is highlighted that bitcoin or cryptocurrencies do not pose any serious threat to the stability in the euro zone.
The high price volatility of crypto-assets, the absence of central bank backing and the limited acceptance among merchants prevent crypto-assets from being currently used as substitutes for cash and deposits, as well as making it very difficult for crypto-assets to fulfil the characteristics of a monetary asset in the near future.
The paper pointed to the fact that the linkages of the crypto world with the currently operational financial world are very low which makes it less of an imminent threat. A significantly small portion of merchants is allowing buying of goods and services with bitcoin and other cryptocurrencies, meaning, that there is still a long way to go for cryptos to develop a significant threat to the banking system. There are not many on-ground facilities and services for people to use cryptos for everyday activities either. The crypto space is also highly unregulated as of now regarding which it states in the paper that:
“At the time of writing, the legal status of crypto-assets varied among countries, absent a common taxonomy of crypto-assets, and a shared understanding of how crypto-assets should be treated from a regulatory standpoint. Given the global dimension of the crypto-assets phenomenon, uncoordinated and/or inconsistent regulatory approaches undertaken at the country level may prove ineffective and create incentives for regulatory arbitrage. Whilst this need not pose an immediate threat to the financial system, it calls for vigilance at the level of the EU, to prevent a proliferation of national initiatives from triggering regulatory arbitrage and, ultimately, hampering the resilience of the financial system to crypto-asset marketbased shocks.”
Evidently, the ECB is currently worried about cryptos, disturbing the financial stability. But from where does this threat arises and how significant it is currently?
When the world witnessed 2008 global economic crisis, with the collapse of the banking system, the need for an alternative system of finance arose. In order to fulfill this void, bitcoin came to the scene, riding on the back of the revolutionary blockchain technology. Initially rejected by most of the financial world with a negative connotation forcefully attached to it in the media, bitcoin started to find its use-case in much heinous activities like money laundering and usage in the dark web. But as more capital flew into the blockchain world, in pursuit of decentralized control, positive usage of bitcoin started popping up.
In the past few years, much attention has been given to gift the digital asset a legislative clarity, so that more adoption at the institutional end can take place. This is expected to bring in a lot of money into the bitcoin world which has an overall market cap of over $140 billion (at press time), as compared to the trillion dollar market caps of other financial institutions. But the speed at which bitcoin is progressing on both the legislative and technological fronts, it is very much making its case strong against the banking system. But what are the flaws that make the banking system prone to an overthrow by cryptos?
The banking system is often characterized by its critics to be focused solely around the aspect of “debt”. As a result of this reason, global debt has risen to around $184 trillion. Even the biggest economy of the world, USA, is engulfed in an enormous national debt of over $22 trillion. Some attribute this issue to the fractional reserve system of banking. The more money a bank lend, the more it is able to print, thus allowing for more debts to be built up, a major flaw or you can say TRAP of the modern economy. Banks printing more money also results in the rise of inflation. Besides, the intermediary costs associated with banking transactions are also high, especially for the international ones. Using their debt-based strategies, banks can make many entities, even countries their economic slaves.
Cryptos rose in rebellion to this rotten centuries-old enslaving system of financial operation, put in place by banks. Since banks are centralized, they have control over the workflow of the entire framework. Cryptos provide a decentralized system of operation where the number of crypto coins in the network are usually capped (21 million for bitcoin) and everyone can participate in maintaining the network thus keeping a distributed-ledger.
Cryptocurrencies free one from the shackles of the banking system and this is why the general public, engulfed in severe financial problems, got attracted towards cryptos. Besides, the network presented cryptos are also global, with transactions taking place almost instantly with a very nominal transaction fee. Although there are a lot of shortcomings still associated with cryptocurrencies, especially regarding their usage in illicit activities, an alternative to the banking system has born and the banks are already afraid of it.
The flaws of the current global banking system were ripped open at the beginning of this year, when the Bank of England denied Venezuela‘s request of withdrawing its $1.2 billion worth gold from the bank’s reserves. If it were for bitcoin or other cryptos with a decentralized structure, things could have been different. It’s the events like these that exposed people to the prospects offered by cryptos and their viability in the global financial world. As stated by crypto bull, Anthony Pompliano, who is also the co-founder of Morgan Creek Digital, on this matter:
Venezuela’s request to withdraw its own gold of worth $1.2 billion from the Bank of England getting denied is the reason we should turn to bitcoin and the crypto system of financial transaction. This is another down for the Bankers and the banking system not letting the individuals to access their wealth.
The banking system definitely has its fair share of loopholes and flaws. Since the system has taken centuries to evolve and made its place in society, it is too entrenched to be extracted out of the global financial system for now. But cryptos have emerged and are growing at a rapid pace on both regulatory and technological fronts. Cryptocurrencies pose a threat to the current financial institutions and that is the reason they are often nullified and strictly opposed by them.