FRB Vice Chair Brainard Calls for "Strong Regulatory Guidelines" to Address Volatility Risk in Crypto Market

Federal Reserve Board Vice Chair Lael Brainard called for strong regulatory guardrails to enable digital asset market participants to build a "resilient digital native financial infrastructure."

In a speech at the Bank of England Conference, Ms. Brainard compared vulnerabilities in the digital asset market recently exposed by high levels of volatility to the risks faced in traditional financial markets. She asserted that despite being marketed as fundamentally different from traditional finance, "the crypto financial system turns out to be susceptible to the same risks that are all too familiar from traditional finance, such as leverage, settlement, opacity and maturity and liquidity transformation."

Ms. Brainard highlighted key takeaways from the recent price downturns in the crypto markets. She concluded that: (i) the collapse of cryptocurrency trading platform Terra shows how quickly an asset designed to maintain a steady value can become subject to a run and (ii) crypto platforms are highly vulnerable to deleveraging, fire sales and contagion, which traditional finance is already equipped to combat.

She stated that the recent losses incurred by retail investors highlight the "need to ensure compliance with existing regulations and to fill any gaps where regulations or enforcement may need to be tailored." She recommended drawing inspiration from existing, strong-rooted regulatory foundations when creating a framework for regulating digital assets. She also warned that digital asset markets pose the risk of spillover to the core financial system, a grave risk that would have a significant impact on all markets, though she noted that cryptocurrency has not yet become "sufficiently interconnected with the core financial system to pose broad systemic risk."