Balance sought between encouraging innovation and protecting financial systems

The regulation of digital assets has become a global priority, as governments and supervisory authorities attempt to balance innovation in payments and blockchain applications with the need to safeguard financial stability.

Yet, the debate is often clouded by a lack of clarity about what is being regulated. A sharp distinction must be drawn between unbacked crypto-assets (such as Bitcoin, Ethereum and Litecoin) and stablecoins (such as Tether, USD Coin and Binance USD).

The former, once regulated, may develop into another speculative asset class, still opaque and vulnerable to fraud and money laundering. Stablecoins, by contrast, are backed by reserves and are growing rapidly, although they carry systemic risks that reach deep into the banking sector, sovereign debt markets and even monetary independence.

In Europe, the Markets in Crypto-Assets Regulation (MiCAR) is now being implemented, bringing more than 1,000 service providers under a licensing regime, designed to improve transparency, reserve management and investor protection.

European policymakers are particularly concerned about the dominance of the US dollar in stablecoin issuance – roughly 99 per cent of all stablecoins are USD-denominated – which has spurred efforts to accelerate the development of a digital euro.

The aim is not only to protect financial stability but also to preserve monetary sovereignty in a market increasingly shaped by dollar-backed instruments.

The US has taken a supportive stance, primarily through executive orders issued by President Trump and legislation. The GENIUS Stablecoin Act, passed in June 2025, requires issuers to hold 100 per cent of reserves in cash or short-term Treasuries, reinforcing existing market practices and making stablecoins among the largest investors in US government debt.

The Federal Reserve has softened earlier guidance that discouraged banks from engaging in crypto activities. While some attention has been paid to the creation of a strategic Bitcoin reserve, this remains limited, funded only by proceeds from anti-money laundering confiscations.

A far more significant development is the regulatory framework itself, which has legitimised stablecoins and opened the door for deeper banking sector integration.

Asia presents a mixed picture. Singapore and Hong Kong have emerged as regional leaders, attracting more than $20 billion in crypto inflows in 2025, while China continues to enforce strict bans. Japan has introduced a licensing framework requiring exchanges to maintain minimum capital reserves of ¥100m.

These divergent approaches reflect the tension between encouraging innovation and protecting financial systems from volatility and abuse.

The economic impact of regulation is complex. On one hand, compliance costs are high, driven by legal expertise, software systems and anti-money laundering measures. On the other, regulation provides legitimacy that attracts institutional investors and promotes blockchain innovation.

Tax revenues are already significant: Germany reported €1.2 billion in crypto-related gains in 2024, while the US Internal Revenue Service collected more than $3.5 billion in 2025. Stablecoins in particular have become fiscal and financial heavyweights, with global capitalisation approaching $300 billion and annual transaction volumes exceeding $8.5 trillion.

Tether and Circle (issuer of USD Coin) are now among the largest holders of US Treasury bills, underscoring the scale of their impact on sovereign debt markets.

The key question is how quickly this market will continue to grow and where the next wave of demand will originate from.

Financial stability remains the overriding challenge. Stablecoins threaten to disintermediate bank deposits (thus depriving banks of their traditional source of cheap and stable funding), weaken monetary policy transmission and undermine capital controls.

Their deep interconnections with the banking sector and sovereign debt markets mean that shocks in the crypto sphere can ripple into the broader financial system.

Meanwhile, unbacked crypto-assets continue to pose risks of fraud and money laundering, as highlighted by high-profile cases such as Sam Bankman-Fried.

Policymakers are attempting to mitigate these risks by imposing strict supervisory requirements on transparency and reserve adequacy; however, critics argue that excessive oversight stifles innovation and drives activity to less regulated jurisdictions such as Dubai and Switzerland.

The global nature of crypto markets means that national regulation alone is insufficient. Offshore centres host many of the largest exchanges and issuers, including Binance and Tether, making cooperation and information sharing essential.

The Financial Stability Board’s recent thematic review of crypto-asset regulation underscores the gaps in implementation across jurisdictions and the need for coordinated action. Without such cooperation, regulatory arbitrage will probably continue to undermine efforts to create a safe and transparent ecosystem.

Looking ahead, digital asset regulation is expected to evolve into a structured and mature system, much like derivatives did after decades of crises and reform.

Analysts suggest that crypto exchange-traded funds and tokenised securities could surpass $1 trillion in assets under management globally within five years.

The path forward is quite clear: innovation must be promoted but not at the expense of investor protection and financial stability. Striking that balance is the one-way road toward a sustainable future for cryptocurrencies and stablecoins.