Risk Management Framework for Global Banks to Apply for Crypto

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The Basel Committee on Banking Supervision is one of the most important regulators for global banking standards. As per the Basel III norms, set by the committee in the wake of the 2008 financial crisis, banks are supposed to hold a requisite amount of liquid capital based on the risk of their lending portfolio and assets held. Each type of asset is given a certain risk weight, and according to Reuters, the committee is introducing crypto to the mix, November 1, 2019.

Managing Liquidity and Risk in Crypto

Cryptocurrencies have been broadly classified as “risk assets” with not much resistance from any party. Market participants and businesses in the space understand this asset class is incredibly volatile and structurally risky.

The boom in crypto lending has been noteworthy, but there are several risks to loans denominated in or backed by such risky assets.

Basel III norms dictate certain risk weights for each type of asset held by a bank. The committee proposes a prudent system of risk weighting for banks and lenders holding cryptoassets.

Genesis Capital’s recent report highlights the extreme demand for crypto loans. In a time where traditional financial institutions are struggling to find a demand for loans, businesses targeting crypto lending have been able to post flabbergasting growth.

The introduction of Basel III norms will have positive and negative implications. On the positives, banks will be allowed to hold cryptoassets and include them in their mix of risk-weighted assets, depending on the legality of the asset class in their jurisdiction. The main negative is that the committee is likely to hold crypto to a much higher risk weight, which would discourage banks from holding it as it would increase their liquidity requirements.

Will Traditional Finance Accept Permissionless Finance?

Up till now, the change in financial technology and the political revolutions of Bitcoin have been viewed as challenges, or obstacles, to global finance.

However, with regulators slowly easing up the notion of permissionless money and financial protocols, there may be a fragment of hope for the mainstream embracement of these technologies.

While this is indeed a far fetched narrative, one thing that can be banked on is the stimulation of retail sentiment for open finance protocols.

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