KUALA LUMPUR (March 30): While digital assets could revolutionise several aspects of financial services, Bank Negara Malaysia (BNM) said the widespread use of these assets could undermine the effectiveness of the central bank’s policies.
“The widespread usage of digital assets for payments may lead to currency substitution, akin to "digital dollarisation". In the event digital assets become widely used as a means of payment instead of the ringgit, this may undermine the efficacy of the bank’s monetary policy.
“Consequently, this may impact the bank’s ability to manage inflation and implement effective countercyclical policies to foster sustainable economic growth,” it said in its Annual Report 2021 released on Wednesday (March 30).
BNM added that digital assets could also give rise to macro-financial risks, affecting both the financial system and economy, in that if the public finds it more attractive to keep their savings in digital assets such as stablecoins — a type of digital asset that aims to maintain a stable value — this could cause large shifts of deposits away from banks.
It said such shifts may increase the banks’ dependence on costlier and less stable funding sources such as wholesale deposits, which may in turn drive up the cost of financing for borrowers and increase vulnerabilities to bank runs.
“Stabilisation mechanisms during periods of systemic stress — such as deposit insurance, countercyclical capital and liquidity measures and liquidity backstop arrangements — that support bank-intermediation activities would also be rendered less effective,” said the central bank.
Moreover, it said digital assets could also be exploited to circumvent foreign exchange policy measures, which could destabilise capital flows and complicate the management of exchange rate volatility.
The exposure of financial institutions to digital assets could also lead to heightened liquidity, market, credit and operational risks for these entities, added the bank.
It also raised concerns over money laundering and terrorism financing due to the lack or absence of customer identification; issues around consumer protection given the vulnerability to cyber attacks; and the volatility in value of digital assets which could risk investors’ wealth.
New sources of risks are also emerging from stablecoins and decentralised finance (DeFi), it said, pointing out that stablecoins can experience runs if investors doubt the value of the underlying assets used to back the stablecoins.
“Large-scale redemptions of the stablecoins may trigger a fire sale of the underlying assets. This could create disruptions in financial institutions and markets (e.g. short-term funding markets) in which such assets are invested.
“If DeFi becomes widespread, its vulnerabilities and growing interconnectedness with the financial system might undermine financial stability. Such vulnerabilities include high leverage, liquidity mismatches, and limited shock absorbers such as banks which can provide liquidity during periods of stress,” it said.
At its current size, however, BNM said digital assets are not likely to pose systemic risks to the financial system, although this may not be the case if the rapid growth continues.
“Given this, we are pursuing a prudent and pragmatic approach to promote responsible innovation, while ensuring the attendant risks are adequately managed,” it said.
BNM said this would allow it to harness the benefits while mitigating the associated risks, adding that it will continue to support public-private partnerships and international collaborative efforts to advance the principles of responsible innovation in the digital asset space.
Read more stories from the BNM Annual Report 2021 here.