A new form of lending is emerging in Australia, and everyone, including the lenders, agrees it's risky

A handful of outfits are offering loans in exchange for cryptocurrencies. That is, within any given lending arrangement, Bitcoin and Ethereum, for example, are accepted as collateral

A new form of lending is emerging in Australia, and everyone, including the lenders, agrees it's risky.

So, what are we talking about here?

A handful of outfits are offering loans in exchange for cryptocurrencies.

That is, within any given lending arrangement, Bitcoin and Ethereum, for example, are accepted as collateral — an asset offered up as security for a loan.

This type of lending kicked off in 2017, and ramped up during the pandemic.

There are a few points to make here.

Firstly, some economists say, this is bonkers banking given cryptocurrencies are risky, volatile and have no intrinsic value.

Secondly, this lending practice is legal, and the lenders are licensed.

Thirdly, the borrowers in these lending contracts, the ABC has been told, are relatively wealthy.

Finally, it's worth asking the question: are these lenders playing a bigger game here? And what game could that be?

The fact is cryptocurrencies are pushing into areas of finance that, once upon of time, would have been considered ridiculous.

Now, millions of Australians are reported to own at least one cryptocurrency, a few Australian firms are engaging in lending to retail or everyday mums and dads using crypto as collateral, and at least five big Australian financial companies do it too.

Let's first though look at the specifics of the lending contract.

How do crypto loans work?

A typical crypto loan is valued at roughly $140,000.

The lender makes money by borrowing cash at an 11 per cent interest rate, and lending that on to customers at a higher 15 per cent.

The margin here is 4 percentage points.

If the price of Bitcoin goes up during the term, or period, of the loan, the customer can borrow more money for a car or even a home deposit, for example.

If it falls sharply, the borrower is asked to stump up more cash.

The loan to value ratio (LVR) differs between lenders but one lender the ABC spoke to had an LVR of 50 per cent.

Generally, the lower the LVR, the higher risk to the customer and the lower the risk to the financial institution.

Put simply, the price of the cryptocurrency being used as collateral would need to seriously plummet before it presented a financial risk to the lender.

What's bizarre, however, is that this volatility is recognised as a risk.

This may explain why the commercial banks are reluctant to provide these crypto lenders with finance.

"Currently, if you walk into a typical bank, if you have equity in your Bitcoin, a bank is not going to lend it to you," Vield co-founder Johnny Phan told the ABC.

"They only lend against property or against your credit profile.

"We also do that in same manner, but we're using Bitcoin instead of property, for the security."

Vield says it's so confident in the on-going interest in Bitcoin as asset class, it sees its lending as a service to borrowers who share that confidence.

In short, if Bitcoin is a legitimate asset, why shouldn't it replace a dwelling or house as a type of mortgage, or security for a loan?

And things do go wrong.

In July 2022, Crypto enthusiast Bayani stumped up 1.6 Bitcoin as collateral for a $20,000 loan from US-based crypto exchange and lender, Celsius.

But the price of Bitcoin plummeted and Celsius ran into financial trouble.

He received emails from the company informing him his LVR was dropping, and he was asked to provide more collateral.

He was hesitant to do this because, he says, there was speculation on social media the company was in financial trouble.

He ended up losing all his Bitcoin, worth over $50,000.

In the end he received $33,000 from the liquidators, but he used a large chunk of that to pay back his $20,000 loan, leaving him with $13,000.

If you include the price of Bitcoin, Bayani was left thousands of dollars out of pocket.

Financial stability risk

Independent economist Saul Eslake says the collapse of both small and large financial institutions, using cryptocurrencies as security, can present big risks to Australia's financial stability, especially if lending against cryptocurrencies became widespread.

"The risk in circumstances like this is that people who find themselves with significant exposures," he says.

"In the event that there's a dramatic reversal in the value of those assets and the market for them dries up, then what history tells you what happens is that people sell what they can, rather than necessarily what they should, in order to get out of a sticky or illiquid position.

"And that's how contagion happens, from what might be a small asset