Data Banishes Fear

Over the last few years, there has been an explosion of commentary about stablecoins. For those of us who believe in the fundamental potential of truly digital dollars to revolutionize our financial system, stablecoins represent a profound opportunity. They promise to reshape our financial system, from enabling multibillion-dollar transactions to settle instantly, to helping a young immigrant send a few dollars from his weekly paycheck to his abuela at a fraction of today’s cost.

For the skeptics of stablecoins, the inverse is true. We frequently see overwrought predictions that stablecoins will lead to the destruction of the banking system. And many critics have predicted that stablecoin legitimization will lead to a financial crisis worse than 2008.

These dueling narratives have, frankly, put crypto at a disadvantage. Policymakers tend to fixate on fear and risk rather than opportunity and innovation, especially when echoes of 2008 are invoked. Now, with GENIUS moving into implementation and regulators facing difficult decisions on how to finalize stablecoin rules, the need for rigorous data and robust modeling has never been more urgent.

To that end, Dr. Lin William Cong of Cornell University conducted a robust analysis of the impact of stablecoins on the banking system, with a special focus on how stablecoins will influence deposit growth in the banking system and its ability to support the credit creation process for the broader economy. The analysis, supported by Paradigm, Coinbase, PayPal and Stripe, is predictive but also based on how deposit growth has operated in the recent past.

Dr. Cong developed two models, with one model assuming that current regulatory and structural incentives for banks persist following GENIUS and the other model assuming those incentives dramatically change.

Put more plainly: Model one assumes that banks operate much as they do at present but with stablecoins simply added into the financial system’s bloodstream. The second assumes banks operate differently, potentially because they are allowed to issue stablecoins directly. Both assume high levels of stablecoin adoption.

The takeaway: Both models found that stablecoin adoption should be neutral or help credit creation and bank deposits.

Under the first model, depicted below, the impact of high stablecoin adoption on both deposits and bank lending will be largely neutral unless and until stablecoin yields cross the 4% mark.1 If stablecoin yields increase above this level, to roughly 6%, then the impact on both bank deposits and loans is positive.

To repeat: If stablecoins have yields of between 4-6%, high stablecoin adoption will actually INCREASE bank deposits and bank loans.

The reason for this perhaps surprising conclusion is simple: competition. At those yield levels, stablecoins are competitive with the money large institutions and retail investors can make with good savings accounts. To avoid having those deposits leave banks for stablecoins, banks will have to take steps to improve their deposit rates and also expand credit intermediation. This is the long vaunted competition that many observers have asked exists against banks, and the result is banks taking money out of their profits to provide better returns to their customers.

For the second model, Dr. Cong was able to engage in an illustrative analysis of the impact of stablecoins on bank deposits and loans. Citing recent scholarship on distributional effects of stablecoin growth, he estimated that impacts are unlikely to be uniform across banking. Deposits may well in this scenario migrate from “rate-insensitive, branch-based institutions towards rate-sensitive digital banks and stablecoin exchange platforms offering similar convenience and liquidity advantage.” 

This single directional flow does not mean there will be a uniform trend of stablecoins pulling deposits out of banks like some financial tractor beam. In this scenario, digital banks would be well-positioned to benefit from this trend, in part because their funding models already use market-based pricing and they have more flexible balance sheets. As tokenization grows, it is also these digital banks that are “likely to have the digital infrastructure to integrate stablecoins or tokenized deposits.” In this way, the stablecoin flows should not lead out of banks entirely but rather from the more traditional and illiberal banks towards those seeking to grow and change.

Even those institutions which face the risk of flight may not suffer in the medium term. As the report notes, “Competition from stablecoin issuers and rate-responsive banks can erode the “convenience premium” traditionally captured by incumbents, narrowing deposit-lending spreads and increasing the pass-through of market rates to consumers.” Such trends tend to force incumbents to build better businesses and increase credit intermediation operations. While deposits could be redistributed within the banking system, it may ultimately benefit banking customers through higher returns and better, cheaper financial services. Additionally, much of the capital that supports and fundamentally comprises the stablecoin ecosystem, such as T-Bills, could well remain within the banking system in the form of short-term securities and custodial reserves. The financial assets form may shift within the system like ice cubes in a glass warming into water, but the amount of liquid would remain largely unchanged.

It is true that some banks may face harder times, but the consumers of the banking system should benefit, and ultimately it is the users of the banking system and the system as a whole we care about, not each individual bank. To require that no technological or financial change could occur that does not make a single bank worse off is neither a worthy goal or something that is achievable in this or any reality, but the stuff of pure rhetorical fantasy.

Looking at both models holistically, one thing is clear: There is good reason, backed by data, to think that stablecoins will not harm the deposit and loans provided by the banking system. Instead, stablecoins seem likely to make the system more, in a word, stable. 

As we enter the new year, the hard work of actually implementing the GENIUS Act will begin in earnest. Let us all resolve that the best way to promulgate regulations on stablecoins is not to fall prey to vague anxieties and attenuated fears but to focus as much as possible on data-driven policy-discussion. In the face of fear, data and modeling are our best light.