FSOC urges Congress to pass stablecoin legislation to stabilize global finance

Key Takeaways:

• FSOC Flags Stablecoins as “Potential Risk” to Financial Stability.
• High market concentration and lack of appropriate regulatory frameworks are critical challenges.
• Urges comprehensive federal regulation of stablecoins due to their systemic risks.

In recent years, the U.S. Financial Stability Oversight Council (FSOC) has identified that the market for stablecoins is concentrated, with a single company holding about 70 percent of the sector’s total market value.

Tether holds about 70% of the stablecoin’s market value

Stablecoins play an indispensable role in the provision of liquidity both in the cryptocurrency market and DeFi protocols. In addition, they reduce the price volatility seen in any other cryptocurrency while offering a much more stable means of transacting. Yet, with this dependency falling on only a few more dominant coins, their security and feasibility become increasingly under question within such volatile times.

As the use of stablecoins for both transactions and investments continues to increase, the need for a clear and effective regulatory framework has never been more urgent. Efficient regulation would protect investors and ensure future stability in the financial system.

The total market capitalization of the stablecoin market is valued at $205.48 billion, where Tether represents about 66.3% of the figure, with $136.80 billion, per CoinMarketCap.

Although FSOC did not name the company, it warned that if this dominance continues to grow, its failure could disrupt crypto-asset markets and create spillovers to the traditional financial system.

In September, investors concerned that Tether did not publish third-party audits increased its vulnerability to a liquidity crisis similar to the FTX collapse.

More News: Tether to launch British Pound Sterling (GBP)-pegged token in early July

Stablecoins present significant challenges to “efficient market regulation mechanisms.” The report also uses the high market concentration of a few stablecoins as evidence of flaws in the system’s structure. This was well underlined by the 2022 collapse of TerraUSD, or UST, which showed that the stability promised by their issuers is not always maintained by stablecoins.

In May 2022, the stablecoin TerraUSD lost its peg to the U.S. dollar in a few days after $2 billion was withdrawn. What was supposed to maintain a 1:1 value with the dollar plummeted to just $0.09.

FSOC underscored that stablecoin issuers operate outside or fail to comply with a comprehensive federal regulatory framework.

While some are subject to state-level oversight that mandates periodic reporting, many others provide limited verifiable information about their assets and reserve management, said FSOC.

FSOC also mentioned that this presents challenges to effective market discipline and increases the risk of fraud.

It is against this background that the FSOC recommended immediate action by the U.S. government to set up a regulatory framework for stablecoin issuers.

FSOC recommended a regulatory framework for stablecoin issuers

The Council recommends that Congress enact legislation to establish a comprehensive federal regulatory framework for stablecoin issuers to address risks to crisis, payment system risks, market integrity, and investor and consumer protection.

The council expressed that if no action is taken, its members will consider the steps to take.

The CEO of Tether, Paolo Ardoino, recently commented that the new European regulatory framework will pose a problem in terms of banking for stablecoin issuers and, in general, could become an existential threat to the whole crypto space. Under the MiCA regulations, stablecoin holders will be obliged to vest at least 60 percent of their reserves in European banks. That means, according to Ardoino, the possibility of creating credit up to 90% of the reserves could create “systemic risks” for the stablecoin issuers.

The conclusion would be the warnings from FSOC that stablecoins remain a potential risk to financial stability can’t simply go unnoticed. The insufficient solid standards for managing risks in highly concentrated markets by a few are proving a challenge that regulators face quite well.

This, in that case, will be awfully perilous to the entire financial system if crises were to happen. And hence, FSOC accordingly calls upon Congress to enact urgently this legislation needed to protect investors and ensure market integrity. Sustainable development of stablecoin will reach its full fruition with a clear and effective legal framework reducing risks to build public trust in this kind of asset class in the future.

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