What Makes Private Stablecoins Stable?

Abstract

Stability of crypto assets, in terms of their exchange rate vis-à-vis fiat currency, is an elusive goal. This note argues that for privately issued stablecoins to be successful in terms of delivering stability vis-à-vis current fiat money, they need to “piggy-back” from the credibility of the prevailing fiat money systems. The latter in turn are backed by publicly supported financial safety net. One way to “piggy-back” on the credibility of the latter is for the private issuer to suggest that stablecoins issued are collateralized by existing fiat money. Using data for the prices of 31 different stablecoins and the fiat currency or other assets the former promise to be pegged to, we apply a set of dynamic panel regression in order to investigate what determines relative stability. We find evidence that the design of stablecoin stabilization mechanisms, and in particular the extent to which fiat money is used as collateral, as well as the presence of external auditors of such backing to enhance the credibility of such backing is crucial for the stability in terms of exchange rate of privately issued stablecoins, controlling for other factors of price developments of stablecoins.

Keywords: stablecoin, cryptocurrencies, financial safety net

JEL Classification: E42, E52, G21