REGULATION

Federal Reserve: Stablecoins will accelerate redemption as long as they fall below 0.99, similar to money market funds.

2023/9/27

The Federal Reserve Bank of the United States published a report on stablecoins in September, exploring whether "Stablecoins are the new money market funds?" The report compares the similarities and differences between money market funds (MMF) and stablecoins, finding that stablecoins with a value less than 0.99 tend to accelerate the redemption of capital, similar to the behavior of investors in money market funds.

Table of Contents

U.S. Federal Reserve: Are Stablecoins the New Money Market Funds?

The U.S. Federal Reserve Bank report suggests that both Money Market Funds (MMFs) and stablecoins provide investors with assets similar to money through liquidity transformation, making them susceptible to runs. The report particularly focuses on runs and investor behavior seeking safe havens.

Differences Between Collateralized Stablecoins and Money Market Funds

Differences	Similarities
Regulation: MMFs are regulated by the SEC, while stablecoins are not subject to such regulation.	Objective: Both MMFs and stablecoins aim to maintain stable prices and issue debt-like assets similar to money, making them vulnerable to runs.
Issuance: MMFs are typically issued by large banks or family funds, while stablecoins are issued by digital asset issuers.	Dynamic Hedging: Both exhibit dynamic hedging, where investors shift from riskier assets to safer ones during crises.
Investor Base: MMF investors are primarily large traditional institutions such as financial companies, while stablecoin investors are mainly retail investors or crypto-related firms.	Portfolio: In stablecoins backed by traditional financial assets, the portfolio of stablecoins based on U.S. Treasuries like BUSD, USDP, and USDC is very similar to government MMFs. For example, government fund assets and stablecoins based on U.S. Treasuries hold approximately 50% in repurchase agreements and government debt, respectively.
Trading and Redemption: MMFs do not trade on the secondary market and can be redeemed at fund value, while stablecoins trade on crypto exchanges in the secondary market, with varying redemption rights and mechanisms for different stablecoins.	Run Vulnerability: Both MMFs and stablecoins are susceptible to runs due to issuing debt-like assets. During financial crises, both have experienced run scenarios and investor behavior shifting towards safer assets.
Asset Backing: MMFs are backed solely by traditional financial assets, while stablecoins may also be backed by digital assets or algorithms.

MMFs and stablecoins backed by U.S. Treasury assets have similar investment portfolios:

The report suggests that despite differences, MMFs and stablecoins backed by traditional financial assets remain similar, especially in their portfolios and investor behavior during crises.

Withdrawal Behavior Pressures on Stablecoins and MMFs

The report cites examples such as the May 2022 collapse of the Terra algorithmic stablecoin UST and the March 2023 unhitching of USDC during the Silicon Valley Bank closure, where investor withdrawal redemption behaviors show a shift from riskier stablecoins to safer ones. This behavior mirrors that of MMF investors during the financial crises of 2008 and 2020.

The report also found that the search for safe havens among stablecoins tends to favor assets on the same blockchain, similar to seeking safe harbors among MMFs within the same fund portfolio.

Stablecoin Flow Post Silicon Valley Bank Event

Stablecoins Accelerate Redemption Below 0.99

The report estimates that when a stablecoin's price reaches a threshold of 0.99, investor redemptions significantly accelerate, akin to MMFs' Breaking the Buck when the net asset value falls below one dollar.

Concerns Over Stablecoin Growth Impacting Financial Stability

Overall, the report suggests that stablecoins are vulnerable to sell-offs during periods of general market dislocation in the crypto market and specific stress events. If stablecoins continue to grow and become more interconnected with key financial markets like short-term funding markets, they could become a source of instability for the broader financial system.