New York Fed: The current crypto industry has limited impact on financial stability, but continued expansion may pose risks

The New York Fed this month released a report on the impact of digital assets on financial stability. The report concluded that the risks so far are small due to the limited size of the industry. But if the industry becomes larger, it may pose risks to the broader financial system. It identified many of the risks outlined in previous reports, but with some nuances. The report mentioned that digital assets have experienced huge booms and busts, and multiple factors have exacerbated price volatility. Among them is funding risk or run risk. A range of digital asset participants have experienced runs, including CEX, cryptocurrency lending institutions, stablecoins, and even DeFi protocols. In addition, the industry also uses high leverage, which exacerbates other risks, and the crypto ecosystem is highly interconnected. The lack of a strong and cohesive regulatory environment exacerbates these vulnerabilities, the report wrote, more because many cryptocurrency entities are located overseas or entities like DAO lack clear legal status. Given the focus of the assessment on financial stability, the New York Fed did not focus too much on the threat of stablecoins to the singularity of currency, but paid special attention to the interconnectedness of stablecoins in the crypto ecosystem and the mainstream economy. "They appear to not only exacerbate the instability of the digital ecosystem, but also pose systemic risks," the report said. The report argues that maturity transformation may also occur if stablecoin assets are illiquid or have long maturities. It acknowledges that the asset quality of large stablecoins has improved over time. However, 15% of Tether's assets are still relatively risky. The easy switching between stablecoins may amplify the risk of stablecoin runs. Decentralized stablecoins, such as DAI (now USDS), are considered riskier because DAOs take longer to react. Regarding interconnectivity, stablecoins are used in lending protocols, so a run on stablecoins would cause users to withdraw their loans and borrowing rates to rise sharply. The report also points out that if large stablecoins suddenly liquidate a large amount of US Treasuries, then this could affect mainstream financial markets.