Decentralized finance yet to pose ‘meaningful risk’ to stability — EU regulator
Decentralized finance (DeFi) is yet to pose a meaningful risk to overall financial stability but does require monitoring, according to the European Union’s financial markets and securities regulator.
On Oct. 11, the European Securities and Markets Authority (ESMA) released a report titled Decentralized Finance in the EU: Developments and Risks. Aside from discussing the nascent ecosystem's benefits and risks, the regulator concluded it is yet to pose a sizeable risk to financial stability.
The total crypto market capitalization is just over $1 trillion, and DeFi total value locked is a mere $40 billion, according to DefiLlama. Comparatively, the total assets of financial institutions in the EU amounted to around $90 trillion in 2021, according to the European Commission.
The report said that the total crypto market is about the same size as the EU’s twelfth largest bank or 3.2% of the total assets held by EU banks.
The ESMA also looked into several crypto contagions of 2022, including the collapse of the Terra ecosystem and FTX, noting that this crypto “Lehman moment” still had “no meaningful impact on traditional markets.”
Nevertheless, the regulator observed that DeFi has similar traits and vulnerabilities to traditional finance, such as liquidity and maturity mismatches, leverage, and interconnectedness.
It also highlighted that although investors’ exposure to DeFi remains small, there are still serious risks to investor protection due to the "highly speculative nature of many DeFi arrangements, important operational and security vulnerabilities, and the lack of a clearly identified responsible party."
It cautioned that this could “translate into systemic risks if the phenomenon were to gain significant traction and/or if
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