The continued fallout of the Ukraine war and crashing crypto are creating heightened financial stability risks, the Financial Stability Board of international regulators warned.
In a letter to G20 finance ministers and central bankers, Klaas Knot, chair of the FSB warned of spillover effects due to volatility in commodity markets.
“The volatility in commodity markets following Russia’s invasion of Ukraine has highlighted the risk of financial strains in these markets – through large margin calls, undetected leverage and concentrated exposures,” he wrote.
In a press briefing, Knot told reporters the volatility has spotlighted the complex links between commodities and the rest of the financial system, adding that, for the most part, markets have handled it well.
“Markets withstood the significant volatility in commodity prices in February and March of 2022 with no sort of major disruptions, perhaps a small exception for the London Metal Exchange nickel market”, he said.
A combination of the three factors mentioned by Knot contributed to a nickel price surge, leading to a short squeeze. The LME cancelled some $4bn in trades and the episode is now subject to two lawsuits and a regulatory review by the Financial Conduct Authority and the Bank of England.
Supervisory bodies including the European Securities and Markets Authority, the International Organisation of Securities Commissions and the International Monetary Fund have also noted the nickel debacle was a sign of underlying problems within the asset class.
Knot said that commodity market stress is not over, and as volatility continues it becomes more difficult to predict market conditions. There could be liquidity issues in commodities and beyond.
“It calls for continued vigilance and deep dives into the behaviour of commodity traders. That’s an example of something on the FSB’s work program,” Knot said.
His letter also warned of the stability risks crypto assets were creating, most notably stablecoin failures and their position as a keystone asset.
“The failure of a market player may not just impose large losses on investors and threaten market confidence. It could also quickly transmit risks to other parts of the crypto-asset ecosystem and spill over to important parts of traditional finance, such as short-term funding markets,” his letter said.
Regulation of crypto-assets remains nascent. So far, only the EU has outlined what digital asset regulation will look like.
The FSB recommends that any regulation should follow a “same activity, same regulation” approach.
Knot told reporters: “It is clear that we must move ahead with our work to address risks in this ecosystem. An effective regulatory framework must ensure that crypto-asset activities posing similar risks to traditional financial activities are subject to the same regulatory outcomes in order to create the necessary conditions for safe innovation.”
The Bank for International Settlements and IOSCO also published a report on 13 July arguing stablecoins should be subject to the same international standards that govern payments, clearing and settlement.
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