Cryptocurrencies are well on their way to mainstream success. However, they also come with a wide variety of risks and uncertainties, particularly the likes of Bitcoin and Ethereum. In recent years, the emergence of stablecoins seemed like there was finally a viable alternative to the volatility of traditional cryptocurrencies. But even that is in doubt, with many experts raising questions about stablecoins and their potential impact on financial frameworks that are already in place.
While stablecoins such as Binance USD and Tether are quite similar to traditional cryptocurrencies in terms of their blockchain-based operation, there’s one major difference. Stablecoins are pegged to financial assets. For instance, Tether is pegged 1:1 to the US dollar. In a falling crypto market, stablecoins won’t suffer as much as the likes of Bitcoin and Ethereum.
However, experts have suggested that the companies owning the stablecoins may not be able to maintain the 1:1 pegging due to not having sufficient financial reserves. While stablecoin issuers typically claim that they have enough in reserve, the truth typically tends to be far from it.
For instance, as of March 2021, Tether was holding a 75% reserve in cash and other instruments. USDC also held only 61% in cash and other instruments, which shows that despite their claims, stablecoin issuers have reserves that are well short of 100%. The issuers also have commercial paper-based assets, which have solvency risks.
In such a scenario, high rates of inflation are bound to result in a drastic dip in the value of commercial paper-based assets. As a result, the stablecoin issuers’ reserves would lose their value rapidly. Even if the issuers are able to return investors’ money based on a 1:1 ratio, it would mean the dragging down of not just the crypto market but the entire financial system.