Britain plans new safeguards for stablecoins that go bust in wake of Terra's collapse

Britain wants to make sure stablecoins don't end up threatening the wider financial system following the collapse of controversial crypto project Terra.

The government on Tuesday proposed amending existing rules to manage the failure of stablecoin firms that may pose a "systemic" risk. The proposal is separate from previously announced plans to regulate stablecoins under laws governing electronic payments.

"Since the initial commitment to regulate certain types of stablecoins, events in cryptoasset markets have further highlighted the need for appropriate regulation to help mitigate consumer, market integrity and financial stability risks," the government said in a consultation paper setting out its proposals.

"The government considers that it is important to ensure existing legal frameworks can be effectively applied to manage the risks posed by the possible failure of systemic DSA [digital settlement asset] firms for the purposes of financial stability."

Stablecoins are cryptocurrencies whose value is pegged to a traditional asset, most often the U.S. dollar. TerraUSD, a so-called "algorithmic" stablecoin, was meant to follow this arrangement using a mix of code and partial backing from bitcoin and other digital tokens. But it imploded earlier this month, taking an associated token called luna tumbling with it. Panic over the debacle has erased hundreds of billions of dollars from the entire crypto market.

That has, in turn, caused concern for regulators, who are worried about the risks posed by stablecoins to the broader financial system. Tether, the world's biggest stablecoin, saw more than $10 billion in redemptions in the weeks following Terra's collapse, fueling fears of a 2008-style "bank run" with knock-on effects for other financial markets. Though Tether says its token is fully backed by assets held in a reserve, critics remain unconvinced and have called for a full audit.

The government is looking to implement additional safeguards to existing legislation around insolvency of firms operating key financial market infrastructure. Such a provision would take into account the return or transfer of the private keys that protect users' funds. The Bank of England would serve as the lead regulator enforcing the rules. A consultation on the proposal is currently underway and will close on Aug. 2.

Glen Goodman, an independent crypto trader, said the proposal was "pretty dramatic."

The government has "effectively accepted that some stablecoins may become as systemically important as banks and so should be treated as special cases and assisted if they're failing," he said.