Banking and Finance Law Daily Wrap Up, FINANCIAL TECHNOLOGY—Asset-backed cryptocurrency shows tremendous growth and opportunity for traditional banking system, (Feb 1, 2022)

By Timothy Isaiah Wiggins, J.D.

Stablecoin’s broader adoption could have a positive impact on banking activities and the traditional financial system, increasing credit intermediation.

The Federal Reserve’s International Finance Discussion Papers (IFDP) has issued new research on Stablecoin’s growth potential and impact on the banking system, with a focus on balance sheet effects and credit intermediation. In September 2021, USD-backed stablecoins circulation has increased over 500 percent from the previous year—nearly $130 billion. With increased attention on stablecoins, the January 2022 IFDP paper focused on the impact of stablecoins on the traditional banking system. The impact could vary based on “sources of inflow and the composition of stablecoin reserves,” according to the IFDP.

The IDFP research suggests that a two-tiered, fractional reserve banking system would not have a negative impact on credit intermediation if asset-backed stablecoins were broadly adopted in the financial system. In fact, stablecoin reserves would be held as normal traditional bank deposits, and, with the replacement of physical cash for stablecoins, could result in more credit intermediation, according to the IDFP. Alternatively, the IDFP suggests that a much narrower approach to bank stablecoin, which is backed by central bank reserves, could prove to be more stable; however, it could reduce credit intermediation. Additionally, the IFDP found that stablecoins that were pegged to the dollar had exhibited “safe asset qualities” such that, in times of high market distress, the price of the stablecoin was higher than the peg value in the secondary market—thus, leading to the issuance of more stablecoins.

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