The International Monetary Fund (IMF) has said that co-movement of cryptocurrency and equities markets in Asia, especially in India, Thailand and Vietnam, calls for urgent regulation.
In a blog post, the IMF observed that retail and institutional investors in these three countries are among the top adopters of the crypto market, and it is high time for the financial regulators to step in and integrate the crypto and financial markets.
The global financial institution noted that the return correlation of Bitcoin and the stock market in India have increased ten fold since the epidemic, indicating that crypto offers modest risk diversification benefits. Furthermore, volatility correlations rose three times, indicating “possible risk emotion spillovers between the crypto and equities markets”.
The increase in crypto-equity correlations in Asia coincided with a significant jump in crypto-equity volatility spillovers in India, Vietnam, and Thailand, it added.
This signifies an increasing inter-connectedness between the two asset classes, allowing the impacts to be transmitted to financial markets.
It further observed that digitization of money will create an eco-friendly payment system and would accelerate the financial inclusion of people who can not afford to use traditional banks.
As cryptocurrency acceptance grows, the government agencies in Asia worry about the risks it poses. Consequently, they have increased their focus on regulation, and regulatory frameworks are being developed in various countries, including India, Vietnam, and Thailand. India levies a 30 per cent tax plus surcharges and cess on capital gains obtained from crypto assets, the highest tax bracket.
As long as crypto is unregulated, IMF observes, it poses a financial stability risk. Before the pandemic, the crypto market seemed insulated from the traditional financial market, the main selling point of the digital assets. Bitcoin and altcoins showed little correlation with the Asian equities markets, negating concerns about crypto causing financial instability.
A year-and-a-half into the pandemic, the global crypto market’s value increased 20-fold to $3 trillion in December 2021. As millions were staying at home and received government aid, crypto trading surged. Then in June 2022, when the central banks increased the interest rates to curb inflation, the crypto market plunged below $1 trillion.
Although the financial sector appears to be immune to these abrupt fluctuations, this may not be the case in future market cycles. Retail or institutional investors, who own both crypto and traditional financial assets, may get affected. Large crypto losses may cause these investors to rearrange their holdings, potentially generating financial market volatility or even default on traditional liabilities, the New York-headquartered global financial institution noted.
As Asian investors poured money into cryptocurrency, the correlation between the success of the region's equity markets and crypto assets like Bitcoin and Ethereum grew. While correlations between Bitcoin and Asian equity markets were minimal before the pandemic, it has increased drastically since 2020, it added.
"They should establish clear guidelines on regulated financial institutions and seek to inform and protect retail investors. Finally, to be fully effective, crypto regulation should be closely coordinated across jurisdictions," the IMF said in the blog post.