OSFI Calls for Consultation on Treatment of Crypto Asset Exposures | Dentons

[ad_1]

There has been a rapid increase in the number and types of crypto assets in recent years, with estimated market capitalization reaching all-time highs while attracting both institutional and retail investors. While the relative exposure of banks, insurers, trust companies, and other financial institutions to crypto assets is not currently high, the size of the crypto asset market itself and the risks associated with market volatility warrant further examination. Recognizing this trend, regulators around the world are analyzing the risks associated with crypto assets, including liquidity risk, credit risk, and Know-Your-Customer / Anti-Money-Laundering (AML / KYC) risk, and seek to establish the framework to regulate these assets.

On July 5, 2021, the Office of the Superintendent of Financial Institutions (OSFI) issued a letter (letter) to Federally Regulated Financial Institutions (FRFIs) requesting their comments on the prudential treatment of exposures to crypto assets, which we explore in this preview.

Consultation document of the Basel Committee on Banking Supervision

The letter released by OSFI follows up on the Basel Committee on Banking Supervision (BCBS) 1 consultation paper published a month earlier on June 10, 2021. The BCBS seeks comments on its preliminary proposal for prudential treatment of the issue. exposure of banks to crypto assets and proposing to classify crypto assets into two groups:

Group 1: Traditional tokenized assets and stable coins that meet a certain set of conditions including: The crypto asset represents a legal claim in the jurisdictions where the underlying asset is issued Significant risks of the crypto asset and the network on which it operates, including distributed ledger or similar technology, are mitigated Specified functions, such as redemptions, transfers or settlement, are performed by regulated entities Group 2: All other crypto assets not captured by Group 1.

Group 2 crypto assets are considered higher risk and, according to the BCBS, should receive more conservative prudential treatment compared to Group 1.

OSFI consultation

OSFI issued the letter seeking industry comment based on questions posed in the BCBS consultation paper as well as specific questions directed to the FRFI. OSFI has indicated that it supports the development of a risk-sensitive prudential framework for exposures to crypto assets and will use feedback received from FRFIs to inform the regulation of FRFIs in this space, and to ensure that Canadian perspectives are well represented in international discussions on the subject.

The consultation seeks comments from FRFIs on 18 issues raised by the BCBS consultation paper appended to the letter as well as the following six questions to help OSFI develop its own framework:

How would the capital treatment proposed for crypto assets in the BCBS consultation paper interact with your current or envisaged business models in this space? Are there any other regulatory capital or other prudential perspectives, beyond those considered in the BCBS paper, that OSFI should consider in more detail with respect to indirect exposures to crypto assets, for example through exchange-traded funds (ETFs) of crypto assets? Are there any additional risks associated with hedging a cash settled exposure with direct exposure (and vice versa) that should be considered, such as basis, operational or technological risks? Are there other considerations regarding non-bank FRFIs that OSFI should take into account when developing a prudential framework for crypto assets? Can you identify any existing crypto assets that you believe should qualify for Group 1 treatment and which are not based on the proposed classification requirements? What changes to the classification conditions would be necessary to allow these crypto assets to qualify for Group 1 treatment? For Group 2 crypto assets, the BCBS consultation paper does not recognize the netting of long and short positions, while it notes that there are additional risks for speculative short positions. Is this a prudent treatment of capital with appropriate incentives?

Comments from FRFIs on the six issues set out above as well as issues raised by the BCBS consultation paper appended to the letter can be submitted to OSFI at [email protected] until September 30, 2021. FRFIs are also encouraged to submit comments directly to the BCBS on its consultation document by September 10, 2021.

Final thoughts

With the significant growth of the crypto asset market globally and the ongoing international consultations on how these assets should be regulated, OSFI has provided a unique opportunity for FRFIs to engage in discussions and help shape the regulatory framework for crypto assets in Canada. Feedback from industry is also important as the framework may impact OSFI’s capital guidelines. OSFI has released draft capital guidelines for banks, insurers and trust companies, which are expected to come into effect in January 2023. OSFI’s current and interim capital guidelines currently do not contain any explicit requirements or criteria for crypto assets. Given the degree of market volatility associated with crypto assets and OSFI’s overall prudential approach, it is possible that FRFIs may be required to maintain a larger “buffer zone” for crypto exposure than they are required to. would do so for exposure to other asset classes.

FRFIs wishing to submit comments should further review the BCBS letter and consultation document and be aware of the upcoming fall deadlines set out above.

1. The BCBS is a global standards body for the prudential regulation of banks. Providing a forum for cooperation between central banks and banking supervisors, the BCBS seeks to strengthen the regulation, supervision and practices of banks around the world in order to improve financial stability. The BCBS has no formal supranational authority, but relies on the commitments of its members (45 members from 28 jurisdictions, including the Bank of Canada and OSFI) to fulfill its mandate.

Special thanks to Jaspal Nagra (summer student) for his help with this article.

[ad_2]