Stablecoin collapse could spill over to US bond market: academia

Stablecoin collapse could spill over to US bond market: academia

Stablecoin collapse could spill over to US bond market: academia

A series of stablecoins could have an impact on traditional financial markets, a professor warns

The nearly $1.4 trillion crypto market crash in 2022 has not affected traditional assets like stocks or the real economy.

However, one academic warned that the failure of a major stablecoin could have an impact on the US bond market, marking a potential new area investors need to keep an eye on as contagion continues to spread across the industry.

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Stablecoins are a type of digital currency that is intended to be pegged one-to-one to a fiat currency such as the US Dollar or the Euro. Examples include tether (USDT), USD coin (USDC) i USD (BUSD), the three largest stablecoins.

These types of coins have become the backbone of the crypto economy, allowing people to trade various cryptocurrencies without having to exchange their money for fiat currencies.

The issuers of these stablecoins claim that they are backed by real assets, such as fiat currency or bonds, allowing users to trade their tokens one-for-one with real assets.

Tether says more than 58% of its reserves are held in US Treasury bills, which is about $39.7 billion. Circle, the company behind USDC, has approximately $12.7 billion worth of Treasures in its reserves. Paxos, which issues BUSD, said it had about $6 billion in US Treasury bills. All of these numbers come from the latest company reports that were released in November.

But while there are no signs of a major stablecoin demise, Eswar Prasad, a professor of economics at Cornell University, said it’s something regulators he’s spoken to are concerned about because of the impact it could have on traditional markets financial. This is because a potential stablecoin run – where a large group of users want to exchange their digital currency for fiat – would mean that the issuer must sell assets in its reserve. This could mean dumping large amounts of US Treasuries.

“And I think [the] the concern of regulators is the loss of confidence in stablecoins … then there could be a wave of buyouts, which in turn will mean that stablecoin issuers will have to buy back their treasury securities,” Prasad told CNBC. Crypto Finance Conference in St. Moritz in Switzerland this week.

“And a large redemption volume, even in a fairly liquid market, can cause turmoil in the underlying stock market. And given how important the Treasury market is to the wider US financial system… I think regulators are rightly concerned.”

More and more voices are warning of the impact that a stablecoin run could have on traditional financial markets.

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Prasad advises regulators around the world on cryptocurrency policy.

The researcher warned that if such a round were to take place when bond market sentiment was “very fragile, as it is in the US right now”, there could be a “multiplier effect” due to strong selling pressure on Treasury bonds.

“If you have a big redemption wave that can really hurt liquidity in this market,” Prasad said.

The Federal Reserve raised interest rates several times in 2022 and is expected to continue to do so this year to rein in rampant inflation. The US bond market had its worst year ever in 2022.

Stablecoins account for about $145 billion in value out of the $881 billion that is worth the entire cryptocurrency market, so they are significant. And there have been failures.

Last year, a coin called terraUSD collapsed. It was called an algorithmic stablecoin because it kept its fixed one-to-one exchange rate with the US dollar using an algorithm. It was not fully backed by real assets such as bonds like USDC, BUSD and USDT. The algorithm failed and terraUSD crashed sending a shockwave to the crypto market.

The U.S. Federal Reserve also warned in a May 2022 report that “stablecoins continue to be vulnerable to runoffs, and many bond and bank loan mutual funds continue to be at redemption risk.”

Further pain ahead of cryptocurrencies, but bitcoin is resilient, says VC Bill Tai

Bill Tai, a well-known venture capitalist and veteran of the crypto industry, said he didn’t think any of the major stablecoins would collapse, but said scrutiny of this type of cryptocurrency “increased for a reason.”

“I think just like in our traditional financial industry, where people were caught off-guard by the hidden subprime contagion during the Great Financial Crisis, there may be several pockets of leverage on some of the assets purportedly backing the stablecoin,” Tai told CNBC on Thursday. .

Tai compared a potential stablecoin explosion to an unexpected event like the subprime mortgage crisis that started in 2007. Lenders offered mortgages to borrowers with poor credit, leading to insolvency and contributing to the financial crisis. It was a bit of a surprise.

“And if one of those (stablecoins) goes down, there will be another downfall,” added Tai.

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