On the Economic Design of Stablecoins

16 Pages Posted: 6 Aug 2021

See all articles by Christian Catalini

Christian Catalini

Massachusetts Institute of Technology (MIT) - Sloan School of Management; Diem Association and Diem Networks US; National Bureau of Economic Research (NBER)

Alonso de Gortari

Princeton University

Date Written: August 5, 2021

Abstract

Stablecoins are cryptocurrencies designed to trade at par with a reference asset, typically the U.S. Dollar. While they all share the same fundamental objective of maintaining stability against their reference assets, stablecoins differ substantially in terms of their economic design, quality of backing, stability assumptions and legal protections for coin holders. We surface two critical dimensions that underpin the economic design of every stablecoin: (1) the volatility of the reserve assets against the reference asset, which defines the risk profile of the stablecoin for coin holders; and (2) the degree to which the stablecoin is exposed to the risk of a death spiral. To address these risks, fiat-backed stablecoins must rely on reserves of high-quality, liquid assets and be subject to a framework that protects coin holders from credit risk, market risk, operational risk, as well as the insolvency or bankruptcy of the issuer. Although decentralized stablecoin designs eliminate the need to trust an intermediary, they are either exposed to death spirals, or highly capital inefficient, as they must be highly over-collateralized to account for the lack of an intermediary. While these trade-offs might be acceptable for narrow use cases within the cryptocurrency space, without a breakthrough in decentralized stablecoin design, they are likely to limit the usefulness of these coins for mainstream adoption.

Keywords: stablecoins, cryptocurrency, blockchain, stability

Suggested Citation

Catalini, Christian and de Gortari, Alonso, On the Economic Design of Stablecoins (August 5, 2021). Available at SSRN: https://ssrn.com/abstract=3899499 or http://dx.doi.org/10.2139/ssrn.3899499

Christian Catalini (Contact Author)

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

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HOME PAGE: http://https://mitsloan.mit.edu/faculty/directory/christian-catalini

Diem Association and Diem Networks US ( email )

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National Bureau of Economic Research (NBER) ( email )

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Alonso De Gortari

Princeton University ( email )

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Princeton, NJ 08544-0708
United States

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