Breakingviews: Crypto poses systemic risks that need swift remedy

Cryptocurrency businesses are getting big enough to have their problems spill over into the broader financial system. Yet U.S. regulators aren’t keeping up. U.S. Securities and Exchange Commission Chair Gary Gensler told the Financial Times on Wednesday that digital asset trading platforms are now a $2 trillion industry while some coins, like Tether, are backed by fiat currencies. Regulators need to get on the horn reigning in assets.

So-called stablecoins, or cryptocurrencies that are backed by assets like the dollar or euro, may not be so secure in a crisis. Many issuers claim they have the funds on hand to pay digital currency holders if the market seized up and all users redeemed their stablecoins at the same time. But assets backing many of these currencies show that can be a shaky pledge. For example, Tether, the largest stablecoin with about $67.5 billion in circulation, makes up around 55% of the total market.

A good chunk of it is backed by less liquid instruments. As of the end of June, cash and bank deposits made up only 10% of Tether’s assets while Treasuries made up about 24%, according to its independent accountant’s report. Almost half was backed by commercial paper and certificates of deposit at about $31 billion. That equals about 20% of the total short-term corporate debt held by prime money market funds, according to data from the Investment Company Institute.

That’s a worry for the broader market. Investors took their cash out of prime money market funds in March 2020, causing a drop in commercial paper investments. Borrowing costs for short-term corporate debt reached their highest level since the 2008 financial crisis, according to a working group of U.S. financial agencies.

The sudden pricing mismatch forced the Federal Reserve to step in with a backstop facility to ease pressure. Fitch Ratings warned in July that a sudden mass redemption of Tether could affect “the stability of short-term credit markets.”

Establishing liquidity rules that require holding a certain amount of the safest assets like U.S. dollars, would help shore up the stability of stablecoins. It’s also an area where regulators, who are studying the asset, have more real-world experience, making it the ideal test case. If they don’t speed it up, they may find a broader crisis on their watch.

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