'Important to arrive at a common international approach to crypto': RBI

Financial Stability Report: The FTX turmoil, RBI said, revealed that crypto is highly volatile, exhibits high correlations with equities and does not act as a hedge against inflation

The Crypto market remains volatile, and cryptocurrencies form "an unstable ecosystem", the Reserve Bank of India (RBI) said in its Financial Stability Report (FSR) released on Thursday. To address financial stability risks and protect investors, it is important to arrive at a "common approach to crypto assets", the report added.

"Although the crypto assets market remains volatile, there have not yet been any spillovers onto the stability of the formal financial system. The accumulated experience, however, suggests that they form an unstable ecosystem and there is growing evidence that they remain highly concentrated and interconnected," it said.

The FTX turmoil, RBI said, revealed that crypto is highly volatile and exhibits "high correlations" with equities. It has also not served as a hedge against inflation.

"Contrary to claims that they are an alternative source of value due to inflation hedging benefits, crypto assets value has fallen even as inflation rose," the report said. Since its peak in November 2021, Bitcoin has fallen over 70 per cent.

"Leverage is a constant theme across the crypto ecosystem, making failures rapid and losses huge and sudden," it added.

'Considering various options'

To prevent further fallout, the RBI said it was considering various options internationally.

The first option was to apply the "same-risk-same-regulatory-outcome" principle and subject crypto to the same regulation applicable to traditional financial intermediaries and exchanges.

The second option was "to prohibit crypto assets since their real-life use cases are next to negligible". However, the challenge to this approach was that different countries have different legal systems and individual rights.

The third option being considered was "to let it implode and make it systemically irrelevant". The underlying instability and riskiness will ultimately prevent the sector from growing, RBI said.

This, too, had several risks as crypto may become more interconnected with mainstream finance and divert financing away from traditional finance with a broader effect on the real economy, the report added.

'Design appropriate policy approach'

RBI further said that policymakers must design an appropriate policy approach to mitigate financial stability risks and promote "responsible innovation".

"In this context, under India's G20 presidency, one of the priorities is to develop a framework for global regulation, including the possibility of prohibition of unbacked crypto assets, stablecoins and decentralised finance (Defi)", it said.

The report also recalled the Financial Stability Board's (FSB's) framework for international regulation of crypto assets which was introduced in October.

FSB had proposed that authorities should have "appropriate powers, tools and resources to regulate, supervise, and oversee crypto assets activities and markets, both domestically and internationally".

It also pitched for "promoting comprehensive governance and effective risk management frameworks".