BIS Warns Stablecoins Pose Financial Stability Risks

The Bank for International Settlements (BIS), an organization representing major central banks worldwide, has expressed skepticism about the viability of stablecoins as a cornerstone of the future monetary system. In its annual economic report, the BIS, which includes members such as the Federal Reserve, the Bank of Japan, and the European Central Bank, stated that stablecoins do not meet the requirements necessary for a robust monetary arrangement. Stablecoins are a type of cryptocurrency pegged to traditional assets like the U.S. dollar.

The report highlighted that cryptocurrencies have become a preferred method for circumventing security measures and engaging in illicit activities. The anonymity provided by wallet addresses, while protecting privacy, also facilitates illegal uses. Stablecoins can circulate without the oversight of issuers, raising concerns about their potential use in money laundering and terrorism financing. Additionally, stablecoins lack the settlement functions provided by central banks, which ensure stability and trust in traditional financial payments.

The BIS also raised concerns about the conflicting demands of achieving true stability in stablecoins and establishing a profitable commercial model involving liquidity or credit risks. The report warned that the loss of monetary sovereignty and capital flight are significant concerns, particularly for emerging markets and developing economies. If stablecoins continue to grow, they could pose financial stability risks, including the risk of a sell-off of safe assets.

The BIS acknowledged that the future role of stablecoins remains uncertain but emphasized that they should at most play a supplementary role in the monetary system. The report underscored the need for stablecoins to be subject to stringent regulatory oversight to mitigate the risks they pose. The BIS's stance reflects a broader concern among central banks about the potential disruption that stablecoins could cause to the existing financial order.

The BIS's report also compared stablecoins to private banknotes from the free banking era in 19th-century America, which were often traded at different exchange rates depending on the issuing institution. This comparison underscores the lack of the "unconditional acceptance" principle that central bank-issued currencies enjoy, where the public and financial institutions trust the currency without questioning its value or the issuer's credibility.

Furthermore, the BIS pointed out that stablecoins fail to pass the elasticity test because the issuer's balance sheet cannot be expanded at will. This limitation, combined with the lack of measures to prevent fraud, financial crimes, and illegal activities, poses significant risks. The BIS acknowledged that while stablecoins could potentially play a supporting role in the financial system if properly regulated, their future role remains unclear beyond serving as a gateway to the cryptocurrency ecosystem.

The BIS also highlighted three major risks associated with stablecoins: the erosion of monetary sovereignty, lack of transparency, and the risk of capital flight in emerging markets. Despite these concerns, the BIS recognized the technological value of tokenization, suggesting that a platform centered around central bank reserves, commercial bank money, and government bonds could form the basis for the next generation of currency and financial systems.