How stable are stablecoins in the FTX crypto market contagion?

How stable are stablecoins in the FTX crypto market contagion?

If the FTX collapse in early November was the “Lehman moment” for cryptocurrencies, as quite a few experts have suggested, will FTX contagion now spread to stablecoins? After all, Tether USDT tickers are down $1.00; the market leader briefly lost its peg to the US dollar on November 10. In regular times, that could have set off alarm bells. But these are not regular times.

The “dominance” of the stablecoin increased, i. H. the sector’s share of the cryptocurrency’s total market cap hit 18% in the days following FTX’s November 11 bankruptcy, an all-time high. Bitcoin BTC Tickets are down $16,389, the Ether-ETH ticker is down $1,209, and most altcoins seemed to feel the pain of the FTX crypto exchange implosion, but not the stablecoins But what does the future hold for stablecoins? For a reorganization? Are stablecoins, as many claims, too opaque, undercollateralized, and unregulated for investors and regulators? The crash of Bahamas-based crypto exchange FTX hit the crypto world like a tropical storm, so it’s worth asking again: how stable are stablecoins?

Is the contagion spreading?

“Cracks in the crypto ecosystem are widening, and it wouldn’t be surprising to see a significant decoupling event in the future,” Arvin Abraham, partner at UK law firm McDermott Will and Emery. Particularly at risk are those stablecoins that use other cryptocurrencies for their wealth reserves, rather than fiat currencies like the euro or US dollar, he said. “There is some evidence that FTX contagion has spread to stablecoins,” Ryan said. 

 Clements, an assistant professor at the University of Calgary Law School, cited the brief USDT decoupling event. “This shows how carefully linked the crypto market is to it.”

On November 10, Tether fell to $0.97 on Bitstamp and several other exchanges and briefly to $0.93 on Kraken. Tron’s stablecoin USDD also faltered. Stablecoins should always stay above $1.00.

Tether, for its part, blamed the decoupling on the cryptocurrency exchange’s lack of liquidity. Few cryptocurrency trading platforms are well capitalized, and “there is a greater demand for liquidity than there is in this exchange’s order books, and that has nothing to do with Tether’s capacity,” according to one, to maintain its connection or the value or composition of its reserves,” the company said. Our reserves affect us, and the assets that support the reserves exceed the liabilities.

The only thing that has saved Tether so far is that most users have not been paid,” said Buvaneshwaran Venugopal, assistant professor in the Department of Finance at the University of Central Florida. “Tether recently had to and was able to pay around $700 million. However, “the general lack of enthusiasm for cryptocurrencies and dwindling options for stablecoins could change that,” Venugopal said. According to CoinGecko, Tether has approximately $65 billion in circulation, and US Treasury bills make up more than 58% of its reserves.

“This large holding would take a hit if Tether had to sell at a critical time, especially in an environment of rising interest rates.

A darkening outlook for algos?

What about algorithmic stablecoins, sometimes called algos? When TerraUSD Classic (USTC), an algorithmic stablecoin, crashed in May, some predicted that algos as a subclass was doomed. Does FTX Outage Dent Algos Prospects? They’re not dead, and there are still a few standouts, including the DAI token, which is essential for MakerDAO to work,” Abraham said. dynamically adjust, which could lead to manipulation and facilitate fraud,” said Abraham.

“I think algorithmic stablecoins will be the sacrificial lamb within the stablecoin regulatory space,” Rohan Gray, an assistant professor at Willamette University School of Law, “They are the ones who are having their heads chopped off” in the United States to appease regulators and other critics. Still, he believes Algos can thrive on a global scale.

Looking ahead

However, it could become challenging for crypto-backed (i.e. non-fiat) stablecoins to defend their pegs in the event of another significant cryptocurrency drop. In Abraham’s view, this would potentially lead to “an implosion similar to what we saw with the collapse of stablecoin Terra in the early days of this crypto winter.” What about the collapse of Tether and Circle, the leading companies? An industry whose currencies are mainly backed by US dollars or related instruments – such as B. 

 Treasury Bonds?

Such an event would be “a catastrophic event for the crypto industry,” Abraham said, because “much of the industry depends on the use of one or the other of these tokens as an intermediate medium of exchange.” “Tether is important to watch right now because Tether is intrinsically tied to Binance,” Gray said, noting that Binance is now playing the role of industry savior, a role played until recently by Sam Bankman-Fried, and FTX and Binance fortunes are linked some beliefs.

Still, drawing parallels between the FTX collapse and the 2008 Lehman Brothers bankruptcy, which foreshadowed the Great Recession of 2008-2009, requires caution. “There are obvious differences,” Grey said, “one of which is that the crypto ecosystem is still relatively isolated from the rest of finance at this point.” Any damage should be relatively minor in the grand scheme of things, i.e., “ordinary people” will not be harmed, as happened during the 2007-2008 financial crisis in the United States.

A sector shake-out?

Many predict consolidation in the cryptocurrency sector after FTX as weaker coins are removed, just like in 2018 when the mania for initial coin offerings eased. Could something similar happen in the stablecoin world? In September, ahead of FTX Fall, a paper by researchers at the University of Chicago and the Stockholm School of Economics found that partially collateralized stablecoin platforms are always vulnerable to large demand shocks, suggesting something of Abraham suggested that expected could seem reasonable, mainly since the European Union’s market regulation for crypto assets (MiCA) and other laws will impose high compliance costs on stablecoin issuers.

Requirements such as verifiable reserves “will make the issuance of stablecoins much more difficult and should significantly limit the potential for a collapse.”

“We will see fewer stablecoins when disclosure becomes mandatory, in general, I don’t believe the world needs thousands of cryptocurrencies/tokens acting as securities or assets, particularly when they are purely speculative.” Utility tokens may be required, but not security tokens.”

Boosting investor confidence

Given the risks, are there any steps coin issuers and regulators can take to prevent another catastrophe in the industry? “Stablecoins need to be more transparent about their reserves,” Abraham said. New laws already require this. He added: “Both the EU’s new MiCA and the US draft Innovation and Responsible Finance Act.

Impose reserve requirements on stablecoin issuers

According to Clements, market perception of reserve instability, or insufficiency, can catalyze investor selloffs that affect the peg of a stablecoin. “As a result, more transparency in this area is required to increase investor confidence and stability. Regulation could help the stablecoin market by requiring proof of reserves, audits, custodial controls on collateral, and other safeguards to ensure collateral transparency and sufficiency.”

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