In little more than a decade the cryptocurrencies they have gone from a niche activity to a phenomenon that undermines the traditional financial system; despite the decline suffered in 2022, the market capitalization of the crypto ecosystem is measured in trillions of dollars, and there are thousands of cryptocurrencies in circulation. Yet this innovative instrument does not appear suitable to play a significant role in the monetary system: this is the opinion expressed in a report by the International Bank of Settlements (Bis), “The crypto ecosystem: key elements and risks”recently sent to the finance ministers and central bank governors of the G20 countries.
There crypto-finance, it is recognized, presents elements of true innovation, such as programmability and composability, functionalities that could allow to automate and integrate seamlessly the sequences of financial transactions; together with the tokenization, there is the potential to reduce the need for the manual interventions that currently delay transactions and create costs. The arguments in favor stop there; cryptocurrencies, it is pointed out, have so far failed to exploit innovation for the benefit of society, remain largely self-referential and do not finance real economic activity. But there is more, the world of cryptocurrencies suffers from inherent deficiencies in terms of stability and efficiency, as well asattribution of responsibility (accountability) and integrity. What happened recently, it is underlined, has revealed the wide divergence between the "crypto" vision and reality. “The implosion of the cryptocurrency trading platform ftx it is only the most obvious manifestation of the vulnerabilities of the sector. Rather than providing a more resilient financial architecture, cryptocurrencies have shown the same well-known vulnerabilities of traditional finance, but in an amplified way”, reads the report which examines the key elements of the crypto ecosystem and indicates its structural flaws and risks.
The structural defects
First, the crypto ecosystem is subject to a high degree of fragmentation and is characterized by congestion and high fees, faults that stem from the economics of the validator incentive system rather than the technology. In a "pseudo-anonymous" cryptographic system, validators do not risk their reputation and anonymity prevents accountability; they need to be rewarded appropriately to avoid being tricked into fraud or embezzling funds, and since they have the choice of which transactions to validate and process, busy times see users being offered higher fees for processing their transactions. “Congestion and high fees mean payment systems based on decentralized blockchains they will remain relatively slow and expensive”; the innovative elements of cryptocurrencies, it is then observed, can after all be replicated or incorporated into the more secure and reliable traditional financial system.
A second weakness concerns the concentration. For supporters of cryptocurrencies, decentralization guarantees the security of the system, in reality, however, a de facto concentration of decision-making power is often observed. “While centralization is not in itself a structural flaw, it does introduce new risks and undermines the arguments of cryptocurrency and decentralized finance (DeFi) proponents that point to its supposed decentralized nature,” the report points out. The concentration stems in part from the effects of congestion in decentralized platforms with proof of work systems; to reduce congestion, the new proof-of-stake blockchain require validators to escrow their coins, but this can lead to a concentration of power and coins on a small number of validators, since the operational costs are mostly fixed. “Taken together”, is the conclusion, “the key points of this report suggest that the inherent structural defects of cryptocurrencies make them unsuitable to play a significant role in the monetary system”.