Crypto contagion risk is low today, but a European watchdog is keen to keep it that way.
A new report from the European Systemic Risk Board (ESRB) found that the industry’s economic impact is minimal, but recommends policy options that would allow EU bodies to better monitor the crypto sector and mitigate any risks.
Among other suggestions, such as actively monitoring contagion and education, the ESRB also highlighted the importance of monitoring leveraged trading in the crypto industry.
“Leverage in the crypto-asset world is only a problem if there are connections with the traditional financial system—something that needs to be monitored,” it read.
Assessing the state of crypto trading in Europe today, the European watchdog’s report also suggests that “coordination and cooperation” between Europe and countries abroad is crucial to ensuring that this economic impact does indeed stay low. This is due to the “cross-border nature” of cryptocurrencies, said the ESRB.
It's expected to generate further discussion around the matter, specifically how to ensure that the risks related to the interconnection of crypto and traditional finance remain low.
"The approach should be to further monitor the situation and not implement strict policies preemptively, in particular as the risk for banks from direct exposure to crypto-assets has already been limited by the Basel Committee’s mandate that crypto-assets other than tokenized RWAs and stablecoins should have a risk weight of 1,250%, which effectively requires banks to back these assets 1:1 with the bank’s regulatory capital," partner and chief legal officer at Europe-based investment firm Greenfield Capital Christian Zimmermann told Decrypt.
Last December, the Basel Committee introduced a suite of banking standards for institutions looking to gain access to cryptocurrencies, some of which were also adopted by the European Parliament's Economics and Monetary Affairs Committee in January.
The report may also inform a future review of Europe's landmark Markets in Crypto Assets (MiCA) regulatory framework, which set a unified standard for crypto asset regulation across EU member states.
Regulatory bodies in the EU have been watching crypto markets and DeFi closely following a turbulent period for the industry.
In the last 18 months, a bear market brought down the price of Bitcoin by 77%, Luna's primary developer was arrested in Montenegro on fraud charges, and the implosion of FTX caused a crisis of faith for many investors and customers.