Nobel Prize in Economics winner: Currency Crisis of Crypto Assets is coming!

On August 4, 2024, the Nobel Prize winner in Economics published an article titled "The Currency Crisis of Crypto Assets is Approaching" to warn about the disaster risks brought by stablecoins and the lax regulation of encryption!

The article points out that the traditional advantages of the American financial system lie in strict transparency requirements and risk control, which are the cornerstone of economic stability established by the rules set after the Great Depression in the 1930s.

However, the relaxed regulation of stablecoins in the "GENIUS Act" poses hidden dangers: it allows issuers to invest reserves in high-risk assets without setting capital adequacy measures, which could lead to a run and repeat the mistakes of the 1929 financial crisis.

What is more dangerous is that the CLARITY Act may revive 1920s-style rent-seeking and fuel the use of Crypto Assets in illegal transactions. Although a few may become rich as a result, this "watering and fishing" legislative tendency of the U.S. Congress could lead to catastrophic consequences for the world, facing a new round of financial panic, massive unemployment, and the destruction of wealth.

Original Content:

Under the emerging legislative framework in the United States, the country is gradually becoming a major center for Crypto Assets-related activities. However, Congress's eagerness to cater to the demands of the crypto industry poses a serious risk of economic damage to both the United States and the world, including mass unemployment and wealth destruction.

Washington, D.C. - The United States has passed an important digital currency bill (the "GENIUS Act"), and another bill (the "CLARITY Act") has also been approved by the House of Representatives, awaiting further review. This positions the United States to potentially become a major hub for Crypto Assets activity, and as Donald Trump stated, to become the "Crypto Capital of the World." However, those supporting this new legislation should think carefully.

Unfortunately, the crypto industry has gained enormous political influence through means such as political donations, to the extent that the original intention behind the GENIUS Act and the CLARITY Act is to prevent reasonable regulation. The final outcome is likely to be an epic cycle of boom and bust.

The historical advantages of the U.S. financial markets are being weakened

Historically, the main advantage of the US financial markets compared to those of other countries has been the higher level of transparency, which allows investors to better understand risks and make more informed decisions. In addition, the US has established strict rules on conflicts of interest, requiring fair treatment of investors (including protecting their assets through appropriate custodial arrangements) and imposing limits on the risk exposures of many financial institutions.

This framework was not formed by chance, nor is it purely a product of market competition, but rather stems from wise laws and regulations formulated in the 1930s (after a major disaster) and has been gradually improved in a reasonable manner since then. These rules are the main reason why the United States is able to conduct business activities easily, bring new ideas to market, and raise funds for various innovations.

Any entrepreneur, even in an emerging industry such as Crypto Assets, may resist these rules, claiming they are "unprecedented." However, the risks brought by financial innovation not only affect individual investors but can also impact the entire financial system. The core goal of regulation is to protect the overall economic security.

Lessons from History: The Cost of Financial Crises

Many major economies, including the United States, have paid a painful price for this. Over the past 200 years, they have experienced severe financial turmoil and even systemic collapse. Among them, the stock market crash of 1929 triggered the Great Depression, leading to the closure of numerous banks and the destruction of the wealth and dreams of millions of Americans. Avoiding a repetition of history has always been an important goal for policymakers.

However, the "GENIUS Act" has not advanced this goal. The Act establishes a regulatory framework for stablecoins, an emerging and important digital asset. Stablecoins are issued by U.S. and foreign companies and claim to be pegged to a specific currency (such as the U.S. dollar) or commodity to maintain value stability. For investors active in Crypto Assets trading, stablecoins are very practical as they allow them to enter and exit specific Crypto Assets without relying on traditional (non-Crypto) financial systems. We can foresee that many institutions, including non-financial companies like Walmart and Amazon, will have huge demand due to their desire to bypass existing payment systems.

The Business Model of Stablecoins: A Potential Disaster

The business model of stablecoin issuers is similar to that of banks: they hold user funds at zero interest (according to the law) while investing reserves to earn interest rate spreads. As a result, issuers have a strong incentive to allocate part of their reserves into high-risk assets in pursuit of higher returns. This will become a major source of vulnerability, especially when issuers are approved by state-level agencies with lax regulations.

From the perspective of systemic risk, the main flaw of the "GENIUS Act" is its failure to effectively address the inherent risks of stablecoin runs, as it prevents regulators from establishing strict capital, liquidity, and other safeguards.

So, when a stablecoin issuer (whether domestic or foreign) encounters difficulties, who intervenes? And with what authority can they prevent issues from spreading to the real economy like in the 1930s?

If only the ordinary bankruptcy law applies to bankrupt stablecoin issuers, investors will inevitably bear heavy costs, including lengthy delays in fund recovery.

This will almost inevitably exacerbate the run on other stablecoin issuers.

Furthermore, if one of the goals of the "GENIUS Act" is to maintain the status of the US dollar as the global reserve currency and boost demand for US Treasury bonds (as its supporters claim), then why does Article 15 of the Act allow foreign issuers to invest their reserves in their own (high-risk) government debt, even if that debt is not denominated in US dollars?

It is foreseeable that foreign regulators will tacitly allow or even encourage such arrangements. However, this means that the so-called "stablecoin" will be primarily supported by non-dollar assets while bearing fixed dollar debts.

What consequences will this arrangement face once the US dollar appreciates significantly? The answer is obvious: a liquidity crisis, panic of insolvency, and destructive runs.

Greater Trouble: The Threat of the CLARITY Act

If a version of the CLARITY Act is passed in the Senate, greater troubles will follow.

This legislation will allow the largest scale of conflicts of interest and self-dealing since the 1920s.

In addition, due to the GENIUS Act and the CLARITY Act potentially fostering the use of stablecoins (and even broader Crypto Assets) in illegal financial transactions, national security will also face significant concerns.

Conclusion: Who benefits, who suffers?

The United States may truly become the "World Crypto Capital," and under its emerging legislative framework, a small number of wealthy individuals will undoubtedly become even richer.

However, Congress is eager to pave the way for the encryption industry, which exposes the United States and the whole world to the real risk of a repeat of financial panic, potentially resulting in severe economic damage - including massive unemployment and the destruction of wealth.

*Source:

*Author Biography: *Simon Johnson (2024 Nobel Prize in Economic Sciences laureate, former Chief Economist of the International Monetary Fund, currently a professor at the MIT Sloan School of Management, academic director of MIT's "Shaping the Future of Work" initiative, and co-chair of the CFA Institute Systemic Risk Council. He co-authored "Power and Progress: Our Thousand-Year Struggle Over Technology and Prosperity" with Daron Acemoglu (PublicAffairs, 2023).)