DFC

The Society for Worldwide Interbank Financial Telecommunication (SWIFT) published a paper outlining how the financial transaction messaging platform is preparing to interact with the cross-border use of central bank digital currencies (CBDCs). SWIFT is teaming up with Accenture to test ways to link multiple CBDC networks, as well as CBDC and traditional currency networks, as a proof of concept.

Tether published its March 31, 2022 quarterly assurance opinion showing that assets exceed its USTD liabilities ($82.4 billion versus $82.2 billion) and revealing a 17% decrease in commercial paper holdings (to $20.1 billion). Also, the average rating of commercial paper and certificates of deposits has gone up from A-2 to A-1, and investments in U.S. treasury bills have gone up 14% to $39.2 billion. However, 14% of assets ($11.8 billion) are comprised of secured loans, corporate bonds, funds, precious metals and "other investments (including digital tokens).

The market reactions over the past week are a reminder that stablecoins are far from homogenous and carry different reserve profiles with varying risk, not unlike banks in traditional finance. The crypto markets are still assessing the aftermath of the UST collapse but one immediate effect has been a drawdown in stablecoin liquidity within DeFi. The amount of USDC held in smart contracts on Ethereum has fallen by about $5B since its peak in March. Similarly, the supply of DAI (an over-collateralized, crypto-backed stablecoin) in smart contracts has also fallen about $2B. Most of this decline can be attributed to weakening demand for DAI on decentralized exchanges, cross-blockchain bridges, and lending protocols. Estimates of total value locked (TVL) have also come down, but these measures are often exaggerated due to rehypothecation of assets.

"Legal tender has a narrow technical meaning which has no use in everyday life. It means that if you offer to fully pay off a debt to someone in legal tender, they can’t sue you for failing to repay."

Cryptocurrency investors and traders have been cashing out of the stablecoin Tether (USDT) in the wake of the TerraUSD (UST) debacle. There has also been a flight to large centralized US-domiciled stablecoins like Binance USD (BUSD) and USD Coin (USDC), with monthly attestations and 100% treasury bill backing, and a flight away from Tether (USDT) with less-frequent attestations and riskier backing, and DAI and other decentralized stablecoins.

"Given the severity of the scenarios and assumptions, our analysis presents an upper bound estimate of the potential impact a CBDC could have on bank regulatory liquidity ratios. These findings are in line with previous research conducted by the Bank of Canada (García et al. 2020) and the Bank of England (2021), which also conclude that a CBDC or other forms of digital money do not pose a financial stability threat from a liquidity standpoint."

"Amid the craziest week in crypto ever, the collapse of Terra's UST stablecoin and governance token LUNA emerged as the biggest story. Amid the crash, LUNA, formerly a top 10 coin by market cap, fell 100% to fraction of a fraction of a cent, and UST, designed to stay pegged at $1, bottomed out at 13 cents."

This ECB paper studies a model of financial intermediation, payment choice, and privacy in the digital economy. Cash preserves anonymity but cannot be used for more efficient online transactions. By contrast, bank deposits can be used online but do not preserve anonymity. Banks use the information contained in deposit flows to extract rents from merchants in need of financing. Payment tokens issued by digital platforms allow merchants to hide from banks but enable platforms to stifle competition. An independent digital payment instrument (a CBDC) that allows agents to share their payment data with selected parties can overcome all frictions and achieves the efficient allocation.

[December 15, 2021] "The Central Bank of Paraguay, through Resolution No. 7/21, approved the regulations of the Working Group on Digital Currency of the Central Bank of Paraguay (CBDC, for its acronym in English), in order to monitor the different international initiatives on CBDC, as well as analyzing the implications of an eventual implementation of some type of CBDC by the BCP. The motivation to explore a CBDC is its use as a means of payment. A digital currency issued by the BCP could provide complementary money to the public, adhering to the development of the national payment system, as long as the security of the transactions is preserved."

"In this paper, we study the mechanisms that govern price stability of MakerDAO's DAI token, the first decentralized stablecoin. DAI works through a set of autonomous smart contracts, in which users deposit cryptocurrency collateral, typically Ethereum, and borrow a fraction of their positions as DAI tokens. Using data on the universe of collateralized debt positions, we show that DAI price covaries negatively with returns to risky collateral. The peg-price volatility is related to collateral risk, while the stability rate has little ability to stabilize the coin. The introduction of safe collateral types has led to an increase in peg stability."

"On 10 May 2022, the price of TerraUSD, an algorithmic stablecoin operating on the Terra blockchain, fell and it lost its peg to one US dollar. Using the devaluation of the TerraUSD peg as a case study, this column shows how algorithmic stablecoins are vulnerable to speculative attacks when the system is under-collateralised. The authors point to solutions – stable collateral and over-collateralisation – to stabilise the peg."

"This Article argues that algorithmic stablecoins are fundamentally flawed because they rely on three factors which history has shown to be impossible to control. First, they require a support level of demand for operational stability. Second, they rely on independent actors with market incentives to perform price-stabilizing arbitrage. Finally, they require reliable price information at all times. None of these factors are certain, and all of them have proven to be historically tenuous in the context of financial crises or periods of extreme volatility. "

"In this paper, we show that approaches based on this type of CBDC design are unlikely to satisfy user demand. We argue that it is more important to focus on the payment system. Drawing on the experiences in Brazil (Pix) and Switzerland (Twint), we show that successful payment systems do not require users to hold system-specific payment assets, making them convenient and accessible. An important motive for the ECB to develop a digital euro is to preserve monetary sovereignty and strategic autonomy. A European payment system could ensure autonomy over such a critical infrastructure of an economy. For it to succeed, the ECB should look to and learn from the best examples."

"This policy note takes stock of the advances in research on CBDCs, looking at their implications for both financial stability and monetary policy.3 And it discusses areas where we can further expand the frontiers of our knowledge on this topic."

"This suggests that Tether is in a contraction phase, just like USD Coin. But Tether's contraction is more muted, at least for now. USD Coin has shrunk by 11%. Using the quantity of Tethers in Tether's treasury wallet as our measure, Tether has contracted by only 4%."

The crypto market was always going to be vulnerable to the return of a positive yielding fiat environment. This is because its gains were always likely the function of an excessively cheap debt financing world. If that’s true, it’s entirely possible that the last 10 years or so of sky-rocketing crypto gains were largely a transfer of “cheap money” financial profiteering, which — were not for the post GFC regulatory environment — would otherwise have been captured by the banking industry in the form of sky-high bank equity valuations.

Price discovery for bitcoin takes place in derivatives trades where tether serves as the margin and settlement currency. What trading of the dollar against the euro is to currencies, trading of bitcoin against tether is to crypto. On the Binance exchange, the pricing of reassuringly named perpetual swap contracts involving bitcoin and tether drives bitcoin prices in US dollars and more broadly influences prices across crypto... Without tether, or at least without stablecoins, it is not clear how the crypto complex functions. Problems with the vehicle currency would impair the liquidity of the whole crypto complex, just as the “dollar shortage” of late 2008 impaired the liquidity of the whole foreign exchange market. Less liquid assets are worth less. And if a prominent stablecoin becomes essentially a worthless entry on nobody’s spreadsheet, it would suggest other crypto could go to zero.

Banco Central de Chile said that although a central bank digital currency (CBDC) could improve payment systems and mitigate risks, a deeper cost and benefit analysis is required and it would publish a new report towards the end of the year. The central bank said CBDC would allow the benefits associated with digital transformation to be enhanced, while mitigating some of its risks, adding that the currency could help develop a more competitive, resilient and inclusive payment system. However, a final decision on this requires a more in-depth analysis of its costs and benefits, as well as a more complete comparison with other policy alternatives that address the same challenges.

Terraform Labs announced that the blockchain's miners had decided to halt the Terra blockchain in order to "prevent governance attacks" following "severe [luna] inflation." Later, Terra said validators are working to restart the network "in a few minutes.

"In a proposal put forward to token holders, Terra said that it wants to burn the nearly 1 billion UST (roughly $690 million) in the community pool while increasing the Base Pool of LUNA available to 100 million which in turn increases minting capacity to over $1 billion. This will help expedite the outflows of UST from the system, and thus pushing it back closer to its peg, while pushing down the price of Luna. “Currently, the burning of UST is too slow to keep pace with the demand for excess UST to exit the system, which is hindered by the BasePool size,” reads the proposal. “Eliminating a significant chunk of the excess UST supply at once will alleviate much of the peg pressure on UST.”"

"An “algorithmic stablecoin” sounds complicated, and there are a lot of people with incentives to pretend that it is complicated, but it is not. Here is how an algorithmic stablecoin works"

"Do Kwon, the CEO of Terra creator Terraform Labs, was one of the pseudonymous co-founders behind the failed algorithmic stablecoin Basis Cash, CoinDesk has learned."

David Gerard has provided some excellent analysis of the continuing crash of the TerraUSD (UST) algorithmic stablecoin and the resulting fallout on broader crypto-asset markets. TerraUSD tumbled to as low as $0.30 on May 11, on fears of a "death spiral" in an asset that is supposed to be pegged to the U.S. dollar. Luna, the crypto-asset intimately tied to TerraUSD, was down almost 90% on the day as confidence in the network collapsed, and Bitcoin and Avalanche (AVAX) are also paying the price for being collateral assets that maintain TerraUSD's peg.

"In a nutshell, the “decentralized” stablecoin protocol UST has come up with a preliminary solution to its disastrous situation where its peg to the U.S. dollar has broken. The process should reinforce the burning of UST, which so far, has been ineffective in achieving dollar parity for the stablecoin."

"Terra is a Cosmos-based protocol that powers a suite of algorithmic stablecoins, which aim to maintain their pegs using a coin called LUNA."

To some extent, it's really important for an algorithmic stablecoin to exist, in order for crypto or defi to reach its full potential. Backed stablecoins (like Tether or USDC) are at risk of censorship and seizures. As long as there's money in a regulated bank account somewhere bolstering the value of the coin, that's something that law enforcement or regulators can go after, seize, or set constraining rules around its use. That risk is inconsistent with the crypto ethos, hence the desire for something that's cash-like, but doesn't actually touch regulated financial entities, and can't be seized etc. Here's the thing though, just because it may be a crucial component of the future DeFi vision doesn't mean it's necessarily going to be possible. The question remains how can you just create an asset and set the price unless you have an infinite amount of money, or some other persistent source of cash flow, to back it?

"Terra built itself its own small 2008 financial crisis with “stable” assets built from chained boxes of worthless trash, and the whole thing fell over in a stiff breeze and crashed Bitcoin in the process."