During 2022, the collapse of a number of cryptocurrency schemes, coins and platforms meant many retail investors lost large amounts of money. Some of the more notable failures include the implosion of “stable coin” TerraUSD in May, the 54% yearly decline in the price of Bitcoin and the collapse of crypto trading exchange FTX.
Panetta argued that these events were correlated, reflecting structural factors and inadequacies in the functioning of the crypto market.
“These failures occurred in rapid succession, reflecting crypto players’ incredibly high leverage, their interconnectedness across the crypto ecosystem and their inadequate governance structures,” said Panetta.
The economist also commented on how little contagion there had been from the crypto failures to the wider market. However, Panetta disputed that the cryptocurrency generally would “self-combust” out of existence.
Gambling activity
According to central bankers, while unbacked crypto assets do not perform any socially or economically useful function, the assets are rarely used for payments and do not fund consumption or investment – ultimately they are better understood as a method of gambling than as an economic instrument.
“As a form of investment, unbacked cryptos lack any intrinsic value, too. They are speculative assets. Investors buy them with the sole objective of selling them on at a higher price,” he said. “In fact, they are a gamble disguised as an investment asset.”
“But it is precisely for this reason that we cannot expect them to disappear. People have always gambled in many different ways. And in the digital era, unbacked cryptos are likely to continue to be a vehicle for gambling.”
The social cost of crypto
Panetta also elaborated on the social costs of an unregulated cryptocurrency market. He pointed to the large losses experienced by investors in a variety of crypto businesses.
“Uninformed investors were left with significant losses,” he said. “It is not just cryptos that are being burnt.”
Beyond the immediate social consequences of an unregulated crypto market, the former Bank of Italy official commented that such digital assets allow for bad actors to evade taxes, launder money, finance terrorism and circumvent sanctions. Crypto, he said, also poses significant environmental questions.
“That is why we cannot afford to leave cryptos unregulated,” he said. “We need to build guardrails that address regulatory gaps and arbitrage and tackle the significant social costs of cryptos head-on.”
According to Panetta, this will not be a simple process.
“Like Ulysses, they must resist the beguiling crypto sirens to avoid falling prey to the industry’s intense lobbying. And on their journey, they must steer clear of the Scylla of poor regulation and the Charybdis of legitimising unsound crypto models.”
Current framework
Panetta applauded existing laws such as the EU’s Regulation on Markets in Crypto-Assets – but stated that “further work” was needed to ensure the entirety of the industry is regulated, including so-called “decentralised finance” activities such as crypto asset lending or non-custodial wallet services. Panetta proposed a framework similar to the existing regulation of online gambling.
“Regulation should acknowledge the speculative nature of unbacked cryptos and treat them as gambling activities,” he said. “Vulnerable consumers should be protected through principles similar to those recommended by the European Commission for online gambling. They should be taxed in accordance with the costs they impose on society.”