Capital, liquidity rules stabilize stablecoins
A new Bank for International Settlements working paper models how capital and liquidity thresholds can enhance stablecoin stability. The research provides a framework for regulators to calibrate these thresholds against micro- and macro-prudential targets.
Asymmetric channels of regulation
The paper models a stablecoin issuer optimizing capital, cash, and bond holdings under persistent stablecoin flows.
Without regulation, issuers hold minimal capital and prefer interest-bearing, less-liquid bonds over cash, exposing coin-holders to default risks and creating systemic spillovers through bond fire-sales.
Regulation aims to mitigate these risks using capital and liquidity thresholds, which function as usable buffers.
These thresholds can be breached in stress but trigger additional redemptions, making stablecoin flows endogenous.
The study finds these thresholds operate through asymmetric channels: a liquidity threshold primarily increases cash holdings, while a capital threshold boosts both capital and cash, as more cash reduces bond sales that erode capital.
Calibrating stability
The study finds that while both liquidity and capital thresholds reduce default probability and expected price impact, making them appear as substitutes, they are in fact complements when a regulator targets both risks jointly.
The calibrated model provides a two-way mapping between these regulatory thresholds and policy targets.
This allows policymakers to determine suitable threshold pairs for specific micro- and macro-prudential objectives.
The calibration relies on observed stablecoin flow dynamics and US money market depth, ensuring practical relevance for policy design.
Beyond banking analogies
This paper provides a crucial, practical framework for stablecoin regulation, moving beyond traditional banking analogies.
Its unique modeling of usable buffers and endogenous flows offers a more realistic understanding of stablecoin dynamics under stress.
Policymakers now have a quantitative tool to design effective capital and liquidity requirements, addressing a critical gap in digital asset oversight.