The arrival of digital currencies in emerging markets could spark “cryptoization” of local economies, eroding the exchange and capital controls and upsetting financial stability, the International Monetary Fund (IMF) said.
In its Global Financial Stability Report, the IMF urged for robust and globally consistent standards to govern the crypto market, which has surged in value in recent years, more than doubling this year alone for a market capitalization of over $2 trillion.
According to US blockchain researcher Chainalysis, digital currencies have gained popularity, with emerging and developing market economies such as Vietnam, India and Pakistan seeing rapid growth in some measures of adoption.
In theory, cryptocurrencies offer a cheaper and quicker way of sending money across borders. Its supporters often say digital tokens like stable coins could also help protect savings from high inflation or fluctuations in local currencies.
The crypto ecosystem is flourishing with new digital currencies, exchanges, wallets and miners but many of these entities lack strong operational, governance and risk practices. To mitigate these risks, national regulators should enact global standards to govern the cryptocurrencies, the IMF said.
The unstable macroeconomic policies and inefficient payment systems are among the drivers of cryptocurrency adoption in emerging economies, along with the lure of quick gains that has also excited investors across the world, the Fund stated.
Factors like the low credibility of central banks and weak domestic banking systems that can fuel “dollarization” can also contribute to growing crypto use. Dollarization is where a foreign currency, typically the US currency, is used in addition to, or instead of, a domestic currency. High inflation or the instability of a domestic currency are among the drivers of the process.
Wide adoption of stable coins, digital tokens designed to hold a steady value and seen as useful for savings and commerce, could also pose significant challenges by reinforcing existing dollarization forces, the IMF said.
Dollarization can impede central banks’ effective implementation of monetary policy and lead to financial stability risks through currency mismatches on the balance sheets of banks, firms, and households.” Cryptoization” could also become a threat to fiscal policy, with digital assets possibly facilitating tax evasion, the IMF added.
The fund urged developing nations to strengthen macroeconomic policies and consider the possible benefits from issuing central bank digital currencies as a response to the rise of crypto.