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FRM Part II · FRM Exam Part II · Regulating the Crypto Ecosystem: The Case of Unbacked Crypto Assets

A bank is considering a policy to limit spillovers from unbacked crypto assets to the financial system. Which observation about the structure of the market best supports concern that stress in crypto could transmit to traditional finance?

Leveraged positions, links to stablecoins and growing institutional exposures support the concern. Together they create channels for forced selling, collateral shortfalls and funding stress to spill from crypto markets into regulated institutions. Claims of isolation or low volatility are inconsistent with how the market actually behaves.

  1. ACrypto markets are entirely isolated because no regulated institution holds exposure
  2. BLeveraged positions, stablecoin links and growing institutional exposures can transmit price shocks via fire sales and funding channelsCorrect
  3. CUnbacked assets are legally senior claims on bank balance sheets
  4. DCrypto price volatility is lower than that of government bonds, limiting contagion

Explanation

Leverage, interconnection with stablecoins used as collateral and trading liquidity, and rising institutional involvement create channels for forced selling and funding stress to reach regulated entities. Isolation is overstated, unbacked assets are not bank claims, and their volatility is much higher than that of government bonds.

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