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While the entire crypto ecosystem celebrated, saying “we told you so” after the fall of Silicon Valley Bank, which led to Bitcoin gathering major support, stablecoins depegged in a major way,
USDC, the world’s largest stablecoin by market capitalization, plunged to $0.87 after it came to light at $3.3 billion of its total $40 billion reserves held by Silicon Valley Bank. The loss of the SVB led to a snowball effect that led to this massive depegging. Another factor to contribute to this was Coinbase, who, as a member of the Center Consortium, announced that it would stop USDC To USD conversion for the weekend.
But USDC wasn’t the only unintended victim of this decision. positive and negative market turns to reverberate across the crypto space – which is why stablecoins like DAI, which used USDC as reserves asset, also depegged.
However, stablecoins came back to track after the US government stepped in with its bailout of the traditional finance system. As the impact of depegging has now started to reverse – people are wondering if the government bailout was a test of the efficacy of stablecoins in the financial space.
Impact of Banking Crisis on Digital Assets
2020-led financial turmoil has flown into the traditional and decentralized financial space three years later, which has, in turn, removed the capital of several banks. Signature and SVB, as bigger as they once were, are only the latest victims of this impact.
Current banking turmoils have led even the biggest crypto detractors to question the viability of traditional financial institutions.
Stoking these flames of doubt are multiple institutions that have failed as well. Deutsche bank saw its share price sharply falling – by nearly 15% shortly after the fall of Silicon Valley bank. The German Bank saw its share prices decline by 24% over a month.
Credit Suisse is another collapsing story that saw its downfall after funds went South due to rumors of impending failure, saw people rushing to the Swiss bank and withdrawing over 11 billion Swiss Franks.
Unsubstantiated as these rumors were, Credit Suisse still fell, leading to the government stepping in with an “emergency rescue deal” where Credit Suisse bought UBS – a rival – at a low price.
Commenting on the reason, Jason Allegrante, Chief legal and compliance officer of Fireblocks, a blockchain infrastructure company, said that large portfolios covering nothing but low-interest bonds are to blame and are the main reason for this issue.
Banks are required to maintain a high liquidity ratio, which means that they must hold high liquidity liquid assets at all times. However, this matter is not being discussed openly, which is another reason banks are failing to survive the onslaught of inflation.
Allegrante said that the current financial turmoil may push many regionals bank to collapse, leading to a “few systematically important banks to hold a large concentration of deposits.”
Centralized banks holding major cuts of deposits – is a matter of major concern. It is the same centralized and dystopian-level authoritarian approach that the blockchain economy has been trying to fight against.
But with the emergence of such entities, people may move more towards digital assets.
Becky Sarwate, head of communications at CEX.io, a cryptocurrency exchange, has chimed in, saying that “the way Bitcoin blossomed from the wreckage of the 2008 financial crisis” is similar to how the crypto economy will prosper as the risks of relying on financial institutions such as SVB and Signature are now in the open.
She continued highlighting the commonalities between crypto and traditional economy, “traditional pathways prove equally volatile from the perspective of crypto-curious participants”.
Sarwate also admitted that while the crypto economy doesn’t have the same security as traditional finance, it has a whole different set of benefits that make crypto a suitable investment for risk-averse investors.
Making Stablecoins Great Option for Risk-Averse Investors
There are multiple routes authorities can take to mitigate the risks associated with stablecoin. Extending insurance to crypto-related institutions will deal with concerns related to the security risks of digital assets. The recent bailout of SVB that constituted insurance helping USDC and other stablecoins has demonstrated that.
FDIC insurance can thus be thought of as a way to boost crypto adoption.
The original plan was to only ensure payments of up to $250k. However, FDIC decided to step in and make sure that every depositor was capable of withdrawing all of the money that they deposited.
The stepping-in by FDIC presents an interesting case of co-dependency between traditional and blockchain-powered finance institutions.
Circle Consortium’s spokesperson said that the “Emphasis here is the importance of shoring up markets and confidence, protecting consumers and ensuring the outcomes, in the long run, prove that the stress test could have been weathered by traditional financial firms and circle.”
The spokesperson added that the recent bailout has shown that dollar-backed stablecoins are dependent on traditional institutions.
After the announcement of the bailout, Circle moved the cash portion of UDC’s reserve to the Bank of New York Mellon. It is the world’s largest custodian bank, with over $44 trillion in assets in custody.
The remaining funds are with banking partners supporting USDC minting and redemption.
The firm pointed out that it wants to become a “fully regulated institution under the supervision of the federal government.” – as the oversight will allow the US to be at the top of discussing digital assets across the world.
Yield app’s chief investment officer Lucas Kiely has said that the depeg was a result of fears around liquidity. Danny Talwar, head of tax at Koily, supported this comment saying that the recent depeg was nothing more than a temporary setback due to the current bank run.
The confidence in stablecoins hasn’t really changed – Sarwate
According to CEX.io’s Becky Sarwate, people have not lost trust in stablecoins even after the recent bank run. “Slight changes are temporary in the stablecoin space,” – according to her, as people enjoyed the same benefits of USDC as they were able to before once the depegging event ended.
MakerDAO’s members seem to reflect that sentiment. They brushed off the concerns surrounding the depeg and voted to keep USDC as primary collateral for a stablecoin. They made this choice over Gemini Dollar and Paxos Dollar.
Unbanking is not the answer for crypto solutions
Unbanking has always been seen as a holy grail of achieving financial freedom – to a fault. The now-defunct Celsius focused on this factor too much. and many more that have come afterward focus on the same aspects. However, according to Koinly’s Talwar, banks, and crypto businesses need each other.
Innovation is only possible if there is some kind of safety net – something that only banks can provide. So unbanking and not looking for alternative banking providers will do more harm to blockchain innovations than good.
There are also concerns about complacency.
Yield app’s Kiely has pointed out that the government stepping in for a complete bailout indicates that supervisory guidelines need a rewrite.
He is concerned that underperforming banks can just lean on government support if they mismanage customer funds. That would result in banks being “too comfortable with themselves” when it comes to handling customer funds.
Dalwar has also pointed out that we need more stablecoin options – as their “fiat-backed nature is the key to leveling the playing field between finance and crypto”.
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