Cryptocurrencies are no longer an unpopular asset in today’s world. The speed with which these digital assets are being embraced by all populations has raised concerns among certain members of the International Monetary Fund (IMF). As “crypto assets are no longer on the fringes of the financial system,” IMF staff advocates for a global framework that can guide the regulation and supervision of crypto assets. “There is a growing interconnectedness between virtual assets and financial markets,” according to a report written by Tobias Adrian, Tara Iyer and Mahvash S Qureshi who work at the IMF.
The report added that cryptocurrencies such as Bitcoin have evolved from an obscure asset class that initially had a few users and have become a big part of the digital asset revolution. In the process, they have raised concerns regarding financial stability.
According to the report, the market value of the crypto assets rose to nearly $3 trillion in November 2021, from $620 billion in 2017. That suggests an increase of more than three times. Despite the volatility, these assets have been widely adopted by both retail and institutional investors.
The correlation of crypto assets with traditional companies such as stocks has increased dramatically as adoption has increased, according to the report.
According to IMF research, the correlation between cryptocurrency assets and traditional holding companies “raises the risk of contagion in the financial markets”.
The report added that given the high volatility and valuation of cryptocurrencies, their “increased co-movement” could pose a challenge to financial stability, especially in countries where cryptocurrency use is common.
The authors conclude that it is therefore necessary to develop a “comprehensive, coordinated global regulatory framework” to guide national legislation and supervision and mitigate the financial stability risks of the cryptocurrency ecosystem.
The paper was written after an analysis of the spillover effects of prices and volatility between crypto and global stock markets, which have surged in 2020-21 compared to 2017-19. This could be the result of the liquidity taken by central banks during the COVID-19 pandemic.
Given the increasing risks posed by the interlinkages between crypto and stock markets, IMF staff proposed a global regulatory framework to encompass the key uses of crypto assets and the requirements for financial institutions handling these assets.