Financial Crisis

Could Bitcoin trigger a financial crisis like in 2008?

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The price of bitcoin was close to 20,000 $ at the end of last year, and although the cryptodevice has since fallen, there are signs that a lack of regulation could hurt investors and trigger the next financial crisis. Despite the innovative technology of the blockchain and the great opportunities it offers for speeding up transactions, many problems can be associated with the monetary products that use it - such as Bitcoin and other cryptosystems. According to the author, a lecturer in financial law and regulation at the University of East London, global measures for the use of digital money should be implemented quickly to avoid a systemic crisis as in 2008.
 
En the first place, it is interesting to examine how the market for cryptomoney has been able to develop outside any concrete regulatory framework, which entails a number of potential risks.
 
In order for a cryptomoney to work like money, it must meet three conditions:
  • First, it should be used as a medium of exchange so that people can use it to buy and sell. This is the most promising feature of blockchain technology, as it facilitates transactions. peer-to-peer in various sectors of activity.
  • Secondly, it must be a store of value. But because of the volatility of Bitcoin prices, this cryptomony does not meet this requirement. According to a report by Goldman Sachs, bitcoin was six times more volatile than gold in 2017.
  • Thirdly, it must be a unit of account, that is, a unit used to represent the actual value or actual cost of an item. Again, because of its volatility, only a few companies are currently prepared to accept Bitcoin before they know the details of its conversion into their national currency.
Importantly, cryptocurrencies would not need to be classified as money in order for them to trigger a financial crisis. They only need to be treated or traded as financial securities and/or commodities, and enough systemically important financial institutions need to hold and trade them for a crisis effect to occur, as in 2008.
 

Financial Security

Bitcoin and other cryptocurrencies already work in many ways as a financial security such as a stock or commodity. Already, these cryptocurrencies have been used primarily by startups as a means of financing projects or business ideas by issuing digital "tokens" to subscribers who pay using mechanisms that include encryption currencies such as Bitcoin or through a specially created currency to acquire proprietary securities in the company or project.
 
Some companies have used this mechanism (ICO) to raise funds to launch companies. These start-ups would have been unable to raise funds through the traditional Initial Public Offering (IPO) method because of regulatory requirements that they would probably not have been able to meet. Indeed, as part of an IPO, companies must be listed on a national stock exchange and, in order to do so, must meet prospectus requirements, including disclosure of their accounts. This is designed to protect retail investors and preserve market integrity. But by avoiding any requirement to access public financing through exchanges or intermediaries, it becomes cheaper, faster and easier for new companies to raise funds to finance their activities. Since the beginning of 2017, startups have raised more than $1.5 billion through the ICO.
ICOs are not subject to the same regulatory scrutiny as IPOs. Instead, a company seeking financing through a COI is simply asked to publish a white paper outlining the company's basic objectives, the cost of setting it up and how it would be done. And that's it.

READ UP : ICO, three letters that will change startup funding and ICO: the challenge of effective regulation

But because the company uses the blockchain and issuing is done through a digital transaction system, the identity of those who subscribe to tokens is hidden. The true identity of the issuing company can also be disguised, regardless of the statements contained in the white paper, which poses a potential threat to subscribers.
Since the true identities of the parties are largely unknown and there is little regulation in this area, companies seeking financing in this way are not currently required to know their subscribers, for example to comply with anti-money laundering requirements. This makes these platforms easy targets for those who want to circumvent the law.
 

Commodity

Bitcoin has no intrinsic value and its price surge in December 2017 was largely fuelled by speculation. This phenomenon is generally used as an argument to justify the idea that it is indeed a bubble. This is the case when an asset is trading at a price that significantly exceeds its intrinsic value.

READ UP : Bitcoin, an archetypal bubble ready to explode?

There's not much to be done before this bubble bursts, other than to increase regulation or wait for another one. cyber attack as was recently the case in Korea, leading to a dramatic drop in the price of Bitcoin.
 
But the question on everyone's lips is: if the bubble bursts, could it trigger a financial crisis of the same magnitude as the one in 2008? This would depend on whether cryptocurrencies and their derivatives could pose a systemic risk to the financial system. And it is a possibility.
One need only recall how, in 2007, the decline in the value of U.S. mortgage-backed securities and their derivatives held by financial institutions led to a credit crunch among banks, precipitating the financial crisis a year later.
 

Back to the future

The interest of financial institutions in bitcoin derivative contracts can't help but worry when we look back on the events of the not-so-distant past. The worst-case scenario could, for the moment, be discarded. Indeed, cryptomoney does not present such a risk because it is not common. But it is clear that a growing number of systemically important financial institutions are engaged in cryptography. commerce of cryptographic currency like Bitcoin. Once the cryptocurrency becomes more widespreadThe situation could turn around very quickly and exposure to digital money poses a real systemic risk.
It should not be forgotten that part of the reason for the introduction of digital money was dissatisfaction with banks and other financial institutions. And it is not surprising that Bitcoin was developed within a year of the credit crunch. While the introduction of cryptocurrency may have been seen by some as a panacea for preventing a financial crisis of the magnitude of 2008, it could nevertheless lead to the next financial crisis if no action is taken to regulate it.
 
Iwa Salami, lecturer in financial law and regulation at the University of East London
 
This article was originally published in TheConversation-UKeditorial partner of UP' Magazine
 

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