Moody’s Investors Service, a leading credit rating agency, has issued a report warning of the potential risks associated with the adoption of stablecoins in the wake of recent instability in the traditional banking sector. In particular, the report highlights the risks faced by fiat-backed stablecoins, such as USDC, due to their reliance on a limited number of off-chain financial institutions.
The recent depegging of USDC on March 10, caused by the sudden collapse of Silicon Valley Bank, serves as a stark reminder of this risk. Circle Internet Financial, the issuer of USDC, had $3.3 billion in assets tied up in the bank, and the company cleared around $3 billion in USDC redemptions over three days as the stablecoin’s value plummeted to a low of $0.87. Fortunately, USDC quickly regained its peg after the Federal Deposit Insurance Corporation announced that it would backstop all deposits held at Silicon Valley Bank.
Moody’s analysts predict that regulators are likely to impose stricter oversight of the stablecoin sector following recent market volatility and the potential risks associated with stablecoins. The credit rating agency also warns that if USDC had failed to regain its peg, it could have triggered a run and forced the liquidation of its assets, which in turn could have caused further runs on banks holding Circle’s assets, leading to the depegging of other stablecoins.
Despite the collapse of Terra and calls for the regulation of stablecoins, Moody’s believes that fiat-backed stablecoins like USDC operate differently from algorithmic tokens and are less likely to fail. However, the credit rating agency emphasizes that stablecoin issuers must reduce their reliance on a small set of off-chain financial institutions to improve their stability.
In summary, the recent instability in the traditional banking sector and the depegging of USDC highlight the potential risks associated with stablecoins. While Moody’s views fiat-backed stablecoins as less prone to failure than algorithmic tokens, stablecoin issuers must take measures to reduce their reliance on a limited number of off-chain financial institutions. With regulators likely to impose stricter oversight of the stablecoin sector, the adoption of stablecoins may face negative repercussions.