Federal Reserve Vice Chair: ‘Crypto Platforms Are Highly Vulnerable to Deleveraging’

On Friday (July 8), Dr. Lael Brainard, who “took office as the Vice Chair of the Board of Governors of the Federal Reserve System on May 23, 2022,” spoke at a Bank of England Conference in London, UK.

Dr. Brainard has “served as a member of the Board of Governors of the Federal Reserve System since taking office on June 16, 2014, to fill an unexpired term ending January 31, 2026.”

Her comments about regulation of the crypto space were made during a speech titled “Crypto-Assets and Decentralized Finance through a Financial Stability Lens”.

Here are a few interesting highlights from Dr. Brainard’s speech:

We are closely monitoring recent events where risks in the system have crystallized and many crypto investors have suffered losses. Despite significant investor losses, the crypto financial system does not yet appear to be so large or so interconnected with the traditional financial system as to pose a systemic risk. So this is the right time to ensure that like risks are subject to like regulatory outcomes and like disclosure so as to help investors distinguish between genuine, responsible innovation and the false allure of seemingly easy returns that obscures significant risk…

This is the right time to establish which crypto activities are permissible for regulated entities and under what constraints so that spillovers to the core financial system remain well contained… Contrary to claims that crypto-assets are a hedge to inflation or an uncorrelated asset class, crypto-assets have plummeted in value and have proven to be highly correlated with riskier equities and with risk appetite more generally… The collapse of Terra and the previous failures of several other unbacked algorithmic stablecoins are reminiscent of classic runs throughout history… crypto platforms are highly vulnerable to deleveraging, fire sales, and contagion—risks that are well known from traditional finance—as illustrated by the freeze on withdrawals at some crypto lending platforms and exchanges and the bankruptcy of a prominent crypto hedge fund… we have seen how decentralized lending, which relies on overcollateralization to substitute for intermediation, can serve as a stress amplifier by creating waves of liquidations as prices fall…

A digital native form of safe central bank money could enhance stability by providing the neutral trusted settlement layer in the future crypto financial system. A settlement layer with a digital native central bank money could, for instance, facilitate interoperability among well-regulated stablecoins designed for a variety of use cases and enable private-sector provision of decentralized, customized, and automated financial products.

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