Bitcoin is a risky and speculative asset, says the European Central Bank (ECB) in its latest Financial Stability Review (FSR).
The report, which analyzes economic scenarios in the Eurozone during the Covid-19 pandemic, notes that economic recovery has been delayed due to the third wave of Coronavirus infections. Some sectors were affected more than others. These include trade, transport, travel, arts and entertainment. Other sectors, however, are recovering rapidly.
In any case, the progress of vaccination campaigns should create a rebound in economic activity during 2021.
In the investment section, the report notes what happened in January with respect to Gamestop, although it does not mention it explicitly. The report mentions that small investors, coordinating on social networks, bought and raised prices of small-cap stocks that other investors were heavily exposed to, leading to large losses. The bankruptcy of the hedge fund Archegos Capital Management is also mentioned, this time explicitly.
The episode serves the ECB to reiterate that:
“Intense speculation, especially if leveraged, can cause financial institutions to suffer concentrated losses”.
The ECB on Bitcoin
Speaking of Bitcoin, the European Central Bank’s report reads:
“Signs of exuberance have also been observed in the renewed interest in crypto-assets, although financial stability risks appear limited. The surge in bitcoin prices has eclipsed previous financial bubbles like the “tulip mania” and the South Sea Bubble in the 1600s and 1700s”.
The ECB resorts to history, citing the speculative tulip bubble of the 1600s. At that time, the tulip craze swept through Holland, with prices soaring, but then at the slightest hint of a drop in demand, the bubble burst with devastating consequences for traders.
The South Sea bubble, on the other hand, refers to the South Sea Company, the British limited company founded in 1711 which was supposed to consolidate and reduce the cost of the national debt and to do exclusive trade with South America. Its popularity grew, the British bought its shares on the promise of gains from trade that for geopolitical reasons simply could not happen. Until the bubble burst and even prominent politicians who had invested in it were disgraced.
In short, the ECB does not seem very optimistic about the future of Bitcoin judging by the examples. Indeed, it continues:
“While this has largely been driven by retail investors, some institutional investors and non-financial corporations are also demonstrating a growing interest. Its price volatility makes bitcoin risky and speculative, while its exorbitant carbon footprint and potential use for illicit purposes are grounds for concern”.
Once again, therefore, the bias that bitcoin is being used for illicit purposes seems to prevail.
However, the report concludes:
“Crypto-assets are still not used widely for payments, and euro area institutions have little exposure to crypto-linked financial instruments, so financial stability risks appear limited at present”.
In short, at the moment the exposure is quite limited, so much so that the ECB does not seem to need to worry about it. And who knows whether this will be a good or a bad thing.