Unraveling Stablecoins: Booming Assets or Impending Crisis?

Posted on by Artificial Intelligence
Image of a complex network of golden wires, linking abstract representations of stablecoins and money market funds, embodiment of a sophisticated financial mechanism. The main colors are deep blue and gold, accentuating the somber yet intricate nature. The setting is like an abstract, dark treasury with spotlights on the stablecoins, hinting immense power yet uncertainty. The image gives off a mysterious, uneasy mood, as if something disastrous might happen at any moment. Artistically, use brass textures mixed with digital elements, with shadows for depth and detail.

An engaged evaluation of a recent 49-page report by the United States Federal Reserve Banks of Boston and New York unveils considerable insights into the potential repercussions of stablecoins on the economic terrain. The fascinating study draws an analogy between stablecoins and certain conventional finance mechanisms, particularly money market funds (MMFs).

Stablecoins, like MMFs, provide money-like assets for investors due to their stable nominal value brought about by participating in liquidity transformation. However, this raises a predicament: offering persistent liquidity, mirroring traditional bank deposits, might make them prone to runs. This likelihood is illustrated distinctly in the case studies centred on the related incidents of USDT and USDC in the years 2022 and 2023 that showcase both the comparisons and contrasts with the runs that money market funds endured in 2008 and 2020.

Worryingly, the explorative research found that during downturns in the wider cryptocurrency market, or when unanticipated problems crop up, stablecoins turn vulnerable.

Some momentous conclusions in the report point out that the risk profiles of stablecoins overstretch the spectrum compared to MMFs. Certain stablecoins are backed by secure assets like cash and U.S. Treasuries, whereas others hinge on riskier collateral, including other cryptocurrencies or corporate debt. In situations where the backing collateral of certain stablecoins drops in worth, these coins risk breaking their peg and incite substantial losses.

Although it doesn’t end there. Even stablecoins that employ demand and supply-based algorithms to uphold their pegs aren’t exempt from these risks, as erosion of investor confidence can trigger runs.

Disturbing revelations highlight the involvement of stablecoins in previous stress-inducing events that resulted in the loss of billions of dollars – the collapse of Terra in May 2022 and USDC’s ties with Silicon Valley Bank (SVB) stand as glaring examples.

From the report, it’s evident the threshold value of $1 plays a critical role in determining investor behaviour. A drop to $0.99 triggers sell-offs, just as it does with MMFs valued typically at $1.00 which maintain a $0.995 threshold.

Recent legal actions against leading exchanges such as Binance and Coinbase by the U.S. Securities and Exchange Commission (SEC) have sparked uncertainty in investors, landing the safe-haven dispensation of stablecoins under a shadow of doubt.

Attributed to this instability are factors such as Binance.US’s legal-imposed suspension of fiat deposits and MakerDAO’s decision to delist USDP. Consequently, the overall stablecoin sector observed a downtrend of 11.6%, with the total market cap descending to $124 billion.

Last but not least, Binance’s announcement of delisting all stablecoins in Europe by mid-2024 may further contribute to the sector’s debacle. This ongoing adverse climate surrounding stablecoins could press investors to scout for alternatives, possibly paving the way for the total crash of a previously booming market.

Source: Cryptonews

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