FSOC says it will seek to mitigate stablecoin risks if Congress doesn't

The Financial Stability Oversight Committee finalized its 2021 report at today's meeting.

The annual report recommends that federal and state regulators continue to scrutinize digital assets for potential risks to the financial system.

The Committee reviewed the recently released President's Working Group report on stablecoins, which elaborated on possible risks the tokens could pose to the financial system. That included concerns of runs on stablecoin reserves and the lack of clarity surrounding issuers' reserves. The PWG called on Congress to limit stablecoin issuance to insured depository institutions, basically banks. 

FSOC recommended that its member agencies, which encompass major financial regulators chaired by Treasury Secretary Janet Yellen, consider the PWG recommendations. If Congress fails to act, FSOC said it's prepared to take steps to mitigate the risks of stablecoins.

"The Council will also be prepared to consider steps available to it to address risks outlined in the PWG Report on Stablecoins in the event comprehensive
legislation is not enacted," said the report. 

More broadly, it recommended regulators collaborate and coordinate where their mandates intersect when it comes to issues related to digital assets, and both state and federal regulators use current tools at their disposal to oversee digital assets.

As for the use of other digital assets, FSOC said their use as an investment instrument remains "limited." The Committee said digital assets may not be appropriate for many investors due to their volatile price action.

"It appears that speculation continues to drive the majority of digital asset activity, though it is unclear what percentage of transactions may directly tie to economic activity given the pseudonymous nature of many transactions," said the report.

The report also turned its attention to the decentralized finance (DeFi) space, which has been a growing area of concern as regulators contend with varying levels of decentralization in protocols. The report outlined a variety of risks, including market value fluctuation, operational issues and cybersecurity risks. These are particular concerns for those who are over-leveraged, according to FSOC.  

"The use of leverage to obtain exposure to highly volatile digital assets increases the risk of a fire sale in the underlying asset: a decrease in asset values could trigger a cycle of sales to meet margin calls and further price declines, possibly spilling into other digital assets," said the report.

The report pointed to on-ramps and off-ramps between DeFi arrangements and the traditional financial sector as a potential risk factor, since these links "s may create a channel for a risk event in digital assets to spread to the broader financial system."

Both DeFi and stablecoins implicate a number of regulators, like the Securities and Exchange Commission and the Commodities Futures Trading Commission. The assets themselves and the platforms or services they're used in tandem with may be classified as securities, commodities or derivatives. If they do, they're beholden to the accordant regulator, said FSOC.