The US regulators who make up the Financial Stability Oversight Council (FSOC) have signalled their concerns that bitcoin and blockchain technology pose risks to financial security and may result in changing market structure if cryptocurrency reduces the importance of traditional centralised intermediaries, increasing the challenge for regulation
The FSOC, whose members include the Securities and Exchange Commission (SEC), the Treasury Department, the Office of the Comptroller of the Currency, and the Federal Reserve, made the observations in its 2016 annual report, the first time that digital currencies have been mentioned.
The report states: ‘Like most new technologies, distributed ledger systems also pose certain risks and uncertainties which market participants and financial regulators will need to monitor.’
It warns that it is currently not possible to evaluate risks adequately, stating: ‘Market participants have limited experience working with distributed ledger systems, and it is possible that operational vulnerabilities associated with such systems may not become apparent until they are deployed at scale.’
The report goes on to say that in recent months, bitcoin trade confirmation delays have increased dramatically and some trade failures have occurred as the speed with which new bitcoin transactions are submitted has exceeded the speed with which they can be added to the blockchain. It adds a further warning about potential fraud concerns: ‘Similarly, although distributed ledger systems are designed to prevent reporting errors or fraud by a single party, some systems may be vulnerable to fraud executed through collusion among a significant fraction of participants in the system.’
In addition, the FSOC notes that distributed ledger systems have the potential to change the way some asset classes are traded and settled. It says that financial regulators have traditionally worked with those market infrastructures and firms which facilitate trading and settlement, such as exchanges, dealers, and clearinghouses, to monitor markets and, in some cases, regulate market activity.
‘To the extent that distributed ledger systems ultimately reduce the importance of these types of more centralized intermediaries, regulators will need to adapt to the changing market structure. ‘Furthermore, since the set of market participants which makes use of a distributed ledger system may well span regulatory jurisdictions or national boundaries, a considerable degree of coordination among regulators may be required to effectively identify and address risks associated with distributed ledger systems,’ the FSOC reports.
FSOC’s 2016 annual report is here.
