Nobel laureate sounds the alarm: stablecoins, are they the future of Digital Money or the fuse of a financial crisis?

Written by: Oliver, Mars Finance

In the vast realm of digital finance, stablecoins are integrating into the capillaries of the global economy at an unprecedented speed. However, just as their applications are becoming increasingly widespread, a statement from 2008 Nobel Laureate in Economics Paul Krugman struck like a bolt of lightning in the night sky, casting a shadow over this thriving field. He bluntly stated that stablecoins “have no clearly useful function,” and may instead become a “breeding ground for crime,” even harboring the risk of triggering the next financial crisis. Following this remark, a stir was immediately created in the crypto world, with leaders in the digital asset sector coming forward to refute it.

This intense confrontation between traditional economics and the digital frontier, is it alarmist rhetoric or a prophetic warning? To unravel this mystery, we must clear the fog and delve into the essence of stablecoins, the mission they undertake, and the profound impacts they may bring.

Krugman’s Concern: Why Equate Stablecoins with “Shadow Banking”?

Professor Krugman’s critique carries with him a profound insight into history and the fragility of the financial system. He likened stablecoin issuers to 19th-century American “ante-bellum banks.” At that time, the U.S. federal government had not yet issued paper money uniformly, and private banks in various regions issued their own bank bills, which had uneven payment capacity, which eventually led to a widespread “bank run” and brought great turmoil to the economy. According to Krugman, stablecoins, digital tokens issued by private institutions that claim to be pegged to fiat currencies, operate in a similar way to private bank bills back then.

He went further, viewing stablecoins as a type of “new shadow banking.” Before the 2008 financial crisis, many non-bank financial institutions circumvented the prudent regulation of traditional banks, massively absorbing short-term funds and investing in longer-term or higher-risk assets, thereby accumulating huge maturity mismatches and liquidity mismatch risks. Once market confidence wavers, it can trigger a large-scale redemption wave, known as a “run on the bank,” and due to the lack of central bank lender of last resort support and deposit insurance mechanisms, the collapse of these “shadow banks” can quickly transmit to the entire financial system, triggering a chain reaction.

Krugman’s concerns focus on the following core points:

Regulatory vacuum or lag: For a long time, stablecoin issuers have operated outside the strict regulations of traditional banks, without the need to meet the capital adequacy ratio, liquidity coverage ratio, reserve requirements, and other prudential regulations that traditional banks must comply with. This regulatory arbitrage makes it easier for risks to accumulate.

Nature of “Deposit” and Redemption Risk: Stablecoins claim to be exchanged for fiat currency on a 1:1 basis, allowing users to treat them as a digital and redeemable “deposit” at any time. However, in order to make a profit, the issuer invests user funds in various assets. If the liquidity of these reserve assets is problematic or their value falls, issuers may not be able to meet large-scale redemption requests, leading to price decoupling or even systemic collapse. The recent brief decoupling of USDC from holding a portion of Silicon Valley Bank’s deposits is a manifestation of this risk.

Lack of lender of last resort support: Unlike traditional banks, stablecoin issuers typically do not have a central bank providing emergency liquidity support as their “lender of last resort.” Once a large-scale run occurs, issuers are likely to be left isolated and helpless, accelerating their collapse.

Opaque reserves: Although many stablecoin issuers claim to have adequate reserves, the composition and quality of their reserve assets and whether they have undergone independent and rigorous audits have long been questioned. This lack of transparency can quickly amplify panic during market turmoil and accelerate run-on-the-bank situations.

Krugman’s implication is that while stablecoins provide convenience, they could also become a huge, opaque financial risk pool in the absence of adequate regulation.

The voice of billions of users: the real value and application scenarios of stablecoins

However, Krugman’s “uselessness theory” quickly encountered strong rebuttals from practitioners. Nick Carter, co-founder of Coin Metrics, pointed out directly that the existence of over 100 million stablecoin users worldwide itself serves as the most powerful counter-evidence to his “useless” rhetoric. Why do these users choose stablecoins? Because they see the efficiency and value that are difficult to achieve within the traditional financial system.

One of the most striking applications of stablecoins is their potential to revolutionize cross-border payments and remittances. In many emerging economies, traditional banking services are costly and inefficient, leaving the public often facing high inflation and currency devaluation. Stablecoins, by being pegged to strong fiat currencies (like the US dollar), provide a relatively stable medium for storing digital value, making cross-border fund transfers quicker and cheaper. For the hundreds of millions of “unbanked” or “underbanked” individuals globally, a smartphone and a stablecoin wallet can connect them to the global financial network, enabling financial inclusion that is almost unimaginable under traditional financial systems.

Stablecoins are also the cornerstone of the decentralized finance (DeFi) ecosystem. In the highly volatile cryptocurrency market, stablecoins serve as a “digital safe haven.” Whether in decentralized lending, liquidity mining, or asset management, stablecoins provide a stable measure of value and medium of exchange. They enable complex financial operations to be executed automatically through smart contracts on the blockchain, greatly enhancing transparency and efficiency, and offering users investment and earning channels beyond traditional finance.

In addition, stablecoins demonstrate broad prospects in areas such as cryptocurrency trading, global payroll, and even future payments for digital goods and services. They bridge the gap between traditional fiat currencies and emerging digital assets, providing stable and efficient payment and settlement tools for the prosperity of the digital economy.

Piercing the Mist: The “Stability” Path and Technological Underpinnings of Stablecoins

To understand the value and risks of stablecoins, one must delve into their intrinsic mechanisms. Stablecoins achieve their “stability” mainly through the following pathways:

One type is fiat-collateralized stablecoins (such as USDT, USDC), which claim to be fully backed by fiat assets like the US dollar at a 1:1 ratio. The issuers will store these reserve assets in banks or trust institutions, and maintain the supply and peg of the stablecoins through a “minting” and “burning” mechanism. The core of this model lies in the transparency, quality, and adequacy of the reserve assets; any negligence or lack of transparency in reserve management could trigger a crisis of trust.

Another type is crypto asset collateralized stablecoins (like Dai), which maintain their peg by over-collateralizing with other volatile crypto assets. For example, issuing 1 dollar of Dai may require collateral worth 1.5 dollars of Ethereum. This over-collateralization strategy is designed to absorb the price fluctuations of the underlying asset, and if the collateral value falls below a specific threshold, the smart contract will automatically liquidate to protect the peg of the stablecoin. This model reduces the trust requirement in centralized institutions to some extent, but also faces liquidation risks during extreme volatility of the underlying assets.

Another type is algorithmic stablecoins (such as the already collapsed TerraUSD). They do not rely on asset collateral but instead use complex smart contract algorithms to dynamically adjust the token supply to maintain price pegs. When prices rise, the algorithm mints new coins to increase supply; when prices fall, it destroys tokens to reduce supply. This type of stablecoin has extremely high demands on market confidence and the perfection of the algorithm design. Once confidence collapses, it may trigger a “death spiral”, and the lessons of its risks are still fresh in the market’s memory.

From “Disorder” to “Order”: Trends in Global Stablecoin Regulation

Krugman’s warning is not an isolated case. Regulatory agencies around the world have long recognized the immense potential and potential risks of stablecoins and are accelerating the construction of corresponding regulatory frameworks aimed at transitioning stablecoins from an early “disorderly” state to a “orderly” development.

In the United States, legislative proposals regarding stablecoins, such as the “GENIUS Act”, are striving to establish a clear federal or state-level licensing framework for payment stablecoins. These proposals generally emphasize strict reserve requirements (limited to cash, short-term government bonds, and other highly liquid assets), mandatory audits, and public disclosure of reserve composition, as well as compliance with anti-money laundering (AML) and sanctions regulations. It is noteworthy that the bill explicitly states that stablecoins cannot pay interest and do not enjoy federal deposit insurance, which is designed to distinguish them from the traditional banking system and isolate risks.

The European Union is at the forefront globally, with its “Markets in Crypto-Assets Regulation” (MiCA) imposing stricter requirements on stablecoins (which are subdivided into “asset-referenced tokens” and “e-money tokens”). MiCA not only requires issuers to maintain sufficient reserves and accept prudent regulation, but also emphasizes market integrity, consumer protection, and a strict licensing system. The enforcement of MiCA means that within the EU, stablecoins will be subject to comprehensive and stringent regulation just like traditional financial products.

In Asia, Japan also took the lead in 2022 by passing stablecoin legislation. The bill defines stablecoins as “digital currencies,” requiring them to be pegged to the yen and guaranteeing holders the right to redeem at face value. Most importantly, Japan strictly limits the issuance of stablecoins to licensed banks, trust companies, and money transfer institutions, reflecting its prudent approach to ensuring financial stability.

The Alarm Bell and Opportunity: The Future Debate of Stablecoins

Krugman’s remarks are undoubtedly an “emergency alarm” for the stablecoin industry, reminding people that while embracing innovation, one should not forget the nature of financial risks. The “shadow banking” scenario he describes is the nightmare that regulators need to avoid at all costs.

However, the choices of billions of users and the positive evolution of global regulatory trends also indicate that stablecoins are not without their advantages. The low cost, high efficiency, borderless nature, and programmability of blockchain technology bring unprecedented imaginative space to the digital economy.

The debate on the “utility” and “risk” of stablecoins will ultimately be answered by the market, technology, and an increasingly完善 regulatory framework. Whether stablecoins can transform from a potential “financial trigger” into a “digital future” that drives global financial transformation depends on their ability to maintain technological advantages while establishing sufficient transparency, a sound risk management system, and a compliance path that is compatible with and inclusive of the traditional financial system.

We are in a critical period of financial innovation. Krugman’s wake-up call and the practices of hundreds of millions of users work together to paint a complex and promising picture of stablecoins. In the future, how will stablecoins embark on a broad path that can not only stimulate innovation vitality but also ensure financial stability under the care of supervision? This is undoubtedly the focus of everyone’s continued attention.