FSOC Report Points to Digital Assets as Financial Risk

The Financial Stability Oversight Council (FSOC)  has identified 14 specific financial vulnerabilities impacting the markets in its annual report. The Council incorporates the participation of all the major US financial regulators, including the Secretary of the Treasury, who acts as the Chair of the Council.

The vulnerabilities reviewed fall into a range of broader categories: financial risks, financial institutions, financial market structure, operational and technological risks, and climate-related financial risk.

The Council has identified five vulnerabilities associated with market and credit risk: Commercial Real Estate, Residential Real Estate, Nonfinancial Corporate Credit, Short-term Wholesale Funding Markets, and Digital Assets. The growth of “nonbank financial institutions” (NBFIs) also garners attention from the Council.

The report mentions the failure of FTX, and other crypto firms, by name. Quoting the report:

“The decline in traditional asset prices was magnified in crypto-asset markets. Widely-traded crypto-assets experienced sharp price drops, with Bitcoin losing more than half of its value, and there were runs at multiple algorithmic stablecoins. Meanwhile, in November, crypto-exchange FTX and some affiliated firms declared bankruptcy. Alongside these developments, consumer and investor complaints about crypto activities continue to mount. While the scale of crypto-asset activities has increased significantly in recent years, interconnections with the traditional financial system are currently relatively limited, so these events left little imprint on broader financial markets.”

The report notes that over 46,000 people lost more than $1 billion worth of crypto assets due to scams and fraud. Additionally, the SEC claims over 23,000 tips, complaints, and referrals since the fiscal year 2019 involving digital asset activities.

Referencing the FSOC report on digital assets published this past October, the Council states that shortcomings in regulation continue to be a problem. Once again, the recommendation is made for Congress to pursue legislation providing explicit rulemaking for crypto, including spot markets and stablecoins.

There is a lot of gloom and doom in this report beyond digital assets. The Council states that “significant unaddressed vulnerabilities could potentially disrupt the provision of critical financial services, such as the clearing of payments, provision of liquidity, and the availability of credit needed to support economic activity.”

SEC Chairman Gary Gensler commented on the report noting that “nothing about the crypto markets is incompatible with the securities laws.”

“This is why bringing intermediaries and issuers of crypto securities tokens into compliance is so important.”

Gensler has stated on many occasions that most digital assets are securities and crypto exchanges must come in and register or the SEC may take action.

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