Rising from the ashes: central banks must embrace the fintech challenge to rebuild trust in times of crisis

In the ever-evolving landscape of finance, a new disruptor has emerged - FINTECH. With Bitcoin and its ilk gaining traction, the role of traditional central banks faces a formidable test. The ongoing Fintech surge has forced central banks to confront their own inertia in the realm of regulation, revealing a long-standing slumber that threatens the very essence of their monetary authority. They were slow to act in raising interest rates until recently, leaving the QE Quantitative Easing taps running freely too long and allowing inflation to build up in the financial system. This article explores the challenges ahead for the world's central banks within the context of a series of globally financial destabilizing events in 2022 and 2023.

For years, central banks have enjoyed a comfortable position as the guardians of a nation's financial stability. Armed with the power to control money supply, interest rates, and economic cycles, they have been the lighthouses in the tumultuous sea of global finance. Yet, as Cryptocurrencies challenge the established order, these institutions are facing a reckoning - one that exposes their inability to keep pace with innovation.

The rise of Cryptocurrencies is a story of decentralized power and a fresh narrative for the digital age. With blockchain technology underpinning these digital assets, the promise of financial democratization has gained fervent adherents. However, this democratization is not without risks. The very attributes that make Cryptocurrencies appealing - anonymity, cross-border transactions, and limited regulation - are what strike at the heart of traditional central banking.

Central banks have been slow to react to the Fintech phenomenon. Perhaps lulled by the familiarity of their well-trodden path, they've been caught off guard by the speed and scale of the Fintech surge. Their lack of timely response has exposed them to a situation where their control over monetary policy is at risk. The decentralized nature of Cryptocurrencies undermines their ability to influence economic conditions and react to crises. What's more, it challenges the very concept of centralized authority in the financial realm.

This regulatory slumber is not just an oversight; it's a deep-rooted complacency that has been allowed to fester for far too long. The absence of a robust regulatory framework has not only empowered Cryptocurrencies but has also left investors vulnerable to scams, frauds, and wild price fluctuations. While proponents of the Fintech movement argue for minimal intervention, the absence of any oversight can lead to a Wild West scenario where the vulnerable suffer the most.

Adding to the turmoil, the Swiss banking crisis of 2023 sent shockwaves through the global financial ecosystem. Switzerland (home of the BIS Bank for International Settlements), long hailed as the epicenter of both regulation and innovation, stood as a symbol of stability. The crisis in this financial haven not only underscored the vulnerability of even the most reputable institutions but also highlighted the urgent need for regulatory reforms that encompass the ever-evolving landscape of finance.

Saudi Arabia's SNB Saudi National Bank, unfortunate to have a substantial investment in Credit Suisse, felt the repercussions of this crisis acutely. The interconnectedness of the global financial system left no corner untouched, showcasing how crises have a far-reaching impact.

In the aftermath of the Credit Suisse collapse, a subsequent takeover by UBS led to an increase in moral hazard, with banks growing even bigger, raising concerns about the potential of being "too big to save." This dangerous dynamic has further eroded public trust in the financial sector's ability to safeguard the economy, especially as many top executives being appointed by UBS kept previous bonuses. The Swiss central bank, "Schweizerische Nationalbank" (SNB) played a crucial role in providing massive liquidity to ensure this takeover was a success.

Amidst this turmoil, the Bank of England has been actively exploring the implementation of a Stablecoin - a digital currency pegged to traditional assets like the British pound. This potential move signifies a recognition that the digital age demands innovation even from established institutions. It could be a step towards embracing the advantages of Cryptocurrencies while retaining regulatory control.

Furthermore, the HSBC takeover of the remnants of Silicon Valley Bank offers a glimmer of hope amidst the chaos. This strategic acquisition has swiftly provided HSBC with cutting-edge fintech capabilities. In a rapidly evolving landscape, such moves signify an embrace of innovation by traditional financial giants, which can help transfer technology and electronic regulatory interfaces to major central banks like the Bank of England.

Swift increases in interest rates in the past 18 months have not solely been due to higher inflation caused by heightened geopolitical tensions. Rather, they reflect the consequence of poor stewardship by major central banks around the world over the past 25 years. One could argue that this commenced with the Bank of England's decision under the guidance of the Labour Government in the late 1990s to dispose of its gold reserves at rock bottom prices coupled with poor financial regulatory oversight. Nothing was learned of the collapse of Long Term Capital Management (headed up by Nobel Prize winners Scholes and Merton), the Asian Financial Crisis 1997 or the Russian Sovereign Bond collapse of 1998 which set the scene for the Global Tech Crash at the turn of this century, as well as others. This lax approach to monetary policy has undermined the credibility of these institutions. Interest rates were too low for too long after the financial crisis of 2007/2008 which has fueled a bubble across all asset classes which in 2023 is now collapsing spectacularly. We also forget the Commodity Market Chaos of 2016.

In a twist of events, the collapse of FTX, a prominent player in the cryptocurrency space, further underlines the volatility of the financial landscape. On November 11, 2022, FTX announced the resignation of its CEO, Bankman-Fried, and the company's bankruptcy filing, with 101 debtors included in the Chapter 11 bankruptcy filing. By November 17, 2022, FTX officially collapsed, marking another reminder of the fragility of financial institutions in an era of rapid change.

Central banks must acknowledge that this is a wake-up call they can ill afford to ignore. The current trajectory of Cryptocurrencies poses a threat to monetary sovereignty and financial stability. The path forward involves a delicate balance - embracing the innovative potential of Cryptocurrencies while reasserting their authority to ensure economic security.

Regulation in this context does not imply a stifling of innovation. Rather, it's a recognition of the need to adapt and evolve. A proactive approach will allow central banks to harness the potential of blockchain and digital currencies while safeguarding against the inherent risks.

The era of Fintech is not a fleeting trend; it's a transformative movement that demands thoughtful, dynamic responses. Central banks must step up their game, collaborating across borders and engaging with the Fintech community to create a regulatory framework that doesn't stifle innovation but instead fosters.

In the end, the future of finance will likely be a hybrid of traditional and digital currencies, like the Bank of England's proposed Stablecoin. Central banks must rise from their slumber, redefining their role for this new epoch. Only then can they navigate the uncharted waters of Fintech, ensuring that the stability they've been entrusted with is not just preserved, but fortified for generations to come.

The Fintech challenge is a call to action, a clarion for central banks to reawaken from their regulatory dormancy and steer the financial ship with renewed vigor. The guardians of monetary policy must heed this call and forge a path that embraces change without sacrificing stability - for in the face of innovation, only those who adapt will thrive.

As the world witnesses the FTX collapse and its ripple effects, it's a stark reminder that even pioneering entities in the Fintech space are not immune to the challenges of this rapidly evolving landscape. The FTX collapse stands as a poignant lesson, underscoring the need for both innovation and vigilant oversight.

Central banks cannot afford to remain complacent any longer. The swift increases in interest rates over the past 18 months are not just a result of heightened geopolitical tensions and higher inflation. They also reflect a broader narrative of poor stewardship by major central banks across the world in the past quarter-century.

While Cryptocurrencies are the catalysts for this moment of reckoning, they are also the driving force behind the potential transformation of finance. Central banks must rise above their historical reticence and lead with agility. Their response will shape the financial landscape for generations to come.

In an era where the line between traditional and innovative finance is blurring, central banks must foster an environment that allows both stability and progress to coexist. As digital currencies and decentralized systems challenge the status quo, it's the role of central banks to rekindle the flame of innovation within themselves and take on the mantle of responsible change.

Let the lessons of the past serve as a catalyst for reform. The ghosts of financial crises past need not haunt the present and future. By embracing the challenges of Cryptocurrencies and adopting proactive measures, central banks can rewrite the narrative, transforming themselves from regulators of yesterday's finance to architects of tomorrow's financial landscape.

The journey ahead is not without its obstacles. Central banks must navigate a delicate tightrope, balancing innovation with stability, and responsiveness with caution. The allure of Cryptocurrencies lies in their potential to democratize finance, offering inclusivity and accessibility to those who were previously excluded from traditional banking systems. However, this allure is coupled with a darker side - the potential for illicit activities, money laundering, and financial chaos in the absence of a structured framework.

The Swiss banking crisis of 2023, Silicon Valley Bank and First Republic acted as a stark wake-up call, exposing the vulnerabilities of even the most esteemed financial institutions. Switzerland's reputation as a safe haven for finance took a significant blow, emphasizing the necessity for dynamic regulation that evolves in tandem with the financial landscape. The fallout from this crisis echoed across borders, revealing the interconnectedness of the global financial system. The crisis demonstrated that no economy is an island, and the ripple effects of instability can spread like wildfire.

Central banks, therefore, find themselves at a crossroads. The emergence of Stablecoins and digital currencies offers potential solutions to the challenges posed by Cryptocurrencies. By embracing these innovations, central banks can harness the power of blockchain technology to create digital assets that are both stable and transparent. Such initiatives, like the Bank of England's exploration of a Stablecoin, represent a willingness to evolve and adapt in response to the changing financial climate, though its consideration is very much at an embryonic stage.

The HSBC takeover of Silicon Valley Bank's remnants signifies a proactive step in the right direction. It showcases the financial industry's recognition of the need to integrate technology and traditional finance. The marriage of these two worlds brings forth the promise of enhanced efficiency, accessibility, and security, redefining the way financial services are provided and consumed.

The landscape of finance is shifting, and central banks must rise to the occasion with open minds and a willingness to adapt. The traditional role of these institutions as stewards of monetary policy is undergoing a profound transformation. As they navigate the uncharted waters of Cryptocurrencies, they must steer the ship towards a future that encompasses both stability and innovation.

This is not a time for half-hearted measures or slow responses. The rapid pace of change demands swift and agile action. Central banks must actively engage with the Fintech community, technology experts, and policymakers to co-create a regulatory framework that addresses the challenges while fostering an environment of responsible innovation, at arms-length.

The lessons of the past are invaluable guides for the future. The scars of previous financial crises have left indelible marks on economies and societies. However, these scars need not be a burden; instead, they can serve as a driving force for positive change. The ghosts of financial crises past can be transformed into the catalysts for a new era of financial responsibility and resilience.

As we stand on the precipice of transformation, central banks must rise from their slumber, shedding the complacency that has lingered for too long. They must be the vanguard of change, embracing the potential of Cryptocurrencies while safeguarding against their risks. The path ahead is challenging, but it's also filled with opportunities to shape a financial landscape that is inclusive, stable, and dynamic.

In conclusion, the Fintech challenge presents central banks with an unprecedented opportunity to redefine their role in the modern financial world. The emergence of Cryptocurrencies has shattered the status quo, exposing the vulnerabilities of traditional monetary systems. Central banks must rise to this challenge, reawakening from their regulatory dormancy and embracing change with renewed vigor. This is a pivotal moment that requires bold leadership, collaboration, and foresight that currently is apparently lacking.

The future of finance is being forged at the intersection of tradition and innovation. Central banks must navigate this crossroads with wisdom and courage, ensuring that stability and progress coexist harmoniously. By learning from the past, engaging with the present, and envisioning a future that embraces change, central banks can rebuild trust and secure the foundations of a resilient financial system for generations to come. Let's hope that they can be trusted!

(Disclaimer: The opinions expressed in this op-ed are solely those of the author and do not constitute financial advice.)