The Financial Stability Board issued a report concluding that crypto-assets do not currently pose a “material risk” to global financial stability. However, if crypto-asset markets became more significant, market liquidity risks, volatility risks, leverage risks, and technological and operational risks “could possibly lead to financial stability implications,” claimed the FSB.

According to the FSB, today, crypto-asset ownership appears limited among a few market participants. This limits market depth and diminishes the ability of markets to handle large trading volumes. Moreover, noted the FSB, the value of crypto-assets is not derived from the value of underlying assets but from speculation. As a result, to date, the prices of crypto-assets have been “highly volatile.” Additionally, said the FSB, the distributed ledger technology underlying crypto-assets has “limited or no formal governance structure,” and may be subject to “technological errors and limitations.” Among other things, observed the FSB, “[d]ecentralisation and lack of or inadequate governance makes it difficult to resolve technological limitations or errors and may lead to uncertainty and ‘hard forks’ [in proof of work governance structures] by a subset of miners.”

The FSB expressed concern that if crypto-assets were more widely used, “negative developments involving crypto-assets could undermine confidence in certain aspects of the financial system and in financial regulators.”

The FSB indicated that, going forward, it will continue to monitor the risk of crypto-assets to financial stability on an “ongoing basis.” Established in 2009, the FSB is an international organization comprising representatives of national authorities responsible for financial stability in material international financial centers that monitors and makes recommendations about the global financial system.

Among other developments these past two weeks involving crypto-assets:

  • ICO Claiming SEC Approval Halted by SEC: The Securities and Exchange Commission obtained an emergency order from a federal court in California against Blockvest, LLC, a purported digital asset-related financial products and services company, and Reginald Ringgold, III, the claimed founder of Blockvest, in connection with the firm’s initial coin offering of its BLV digital token. According to the SEC, the defendants falsely claimed that their ICO received regulatory approval from the SEC when it did not, and misrepresented that Blockvest had a relationship with Deloitte, a public accounting firm, when it did not. The SEC also charged that the defendants misrepresented their status with the National Futures Association even after being warned to stop such false claims by NFA. The emergency order froze defendants’ assets and temporarily prohibited them from violating the anti-fraud laws.  
  • trueEX Submits Self-Certification of Bitcoin Physically Delivered Swap Contract to CFTC: trueEX LLC – a Commodity Futures Trading Commission swap execution facility – submitted to the Commission new product terms and conditions for a physically delivered uncleared bitcoin swap contract that will be available solely to eligible contract participants. The contract size of the swap, as proposed, will be one bitcoin, and would have maturity dates of the last Friday of the nearest three serial months, and the nearest four months in the quarterly cycle of March, June, September, and December. Each trueEX participant trading bitcoin swaps must first appoint a settlement agent that will provide cash settlement services, including margining and final settlement. Holders of bitcoin swap contracts will be subject to initial and variation margin obligations; the contracts do not appear intended to be fully collateralized. Absent objection, trueEX amended rules and regulations will be effective no earlier than October 17, 2018.  
  • FinCEN Issues Iran Warning to Crypto Exchanges: The Financial Crimes Enforcement Network of the US Department of Treasury issued an advisory to help financial institutions, including money service businesses engaging in cryptocurrency activities, comply with US sanctions against Iran, the Government of Iran or Iranian financial institutions unless exempt. FinCEN warned virtual currency providers that have Bank Secrecy Act and US sanctions obligations to be aware of and have appropriate systems to comply with all relevant sanctions and anti-money laundering/combating the financing of terrorism requirements. Among other things, FinCEN indicated that relevant institutions “should consider reviewing blockchain ledgers for activity that may originate or terminate in Iran.”  
  • SEC Reconsiders GraniteShares Bitcoin ETFs: The Securities and Exchange Commission sought comments on Cboe BZX Exchange, Inc.’s proposed rule change to authorize the listing and trading of shares of the GraniteShares Bitcoin Exchange Traded Fund and the GraniteShares Short Bitcoin ETF. In August 2018, the SEC’s Division of Trading and Markets, pursuant to delegated authority, disapproved the proposed rule change, but the Commission promptly indicated it would review the determination. Each fund proposes to track bitcoin futures contracts. The SEC will accept comments to the proposed rule change proposal for 21 days following the publication of its notice in the Federal Register.

My View: The crypto-asset market is very small today compared to other financial assets. According to the FSB, the market capitalization of crypto-assets peaked on January 8, 2018, at an estimated US $830 billion, 35 percent of which was attributable to bitcoin. As of October 4, market capitalization had declined to approximately US $210 billion. This represented .9 percent of the market capitalization of the S&P 500 on that date, and 2.8 percent of the global value of gold.

Views on the potential benefits of distributed ledger technology and associated crypto-assets are widely divergent. Last week Nouriel Roubini, Professor of Economics at the Stern School of Business, New York University, testified before the US Senate Committee on Banking, Housing and Community Affairs that “[b]itcoin and other cryptocurrencies represent the mother of all bubbles” and that “blockchain is the most over-hyped – and least useful – technology in human history.” Alternatively, Peter Van Valkenburgh, Director of Research at Coin Center, argued before the same subcommittee that “the benefits of [blockchain] technology are real.” He said that digital cash offers “efficiencies that existing electronic transmission cannot,” digital identity “may solve many of our online security woes,” and the internet of things “may spur greater security, competition, and an end to walled gardens of non-interoperability for connected devices.”

(Click here to access the published version of Mr. Roubin’s testimony, and here for Mr. Valkenburgh’s presentation.)

We are less than 10 years from the mining of the first 50 genesis bitcoins. Today the hype of distributed ledger technology and crypto-assets is likely far louder than the number of effective use cases. However, it is hard to imagine that elements of DLT – application of strong cryptography to support blockchains, transactions validated by a consensus protocol designed to be trustless, the capability to transmit and access a store of value anywhere and anytime, and the ability to code technology to self-execute contractual terms – are important innovations that continue to be developed and advanced. No one can predict whether any crypto-asset or specific blockchain existent today will survive tomorrow or even be around in today’s form. However, DLT and crypto-assets of some kind are likely to be with us for a long time.