JPMorgan Chase & Co. warns that STABLECOIN issuers who compete for assets in the short-term funding market may cause disruption after the US Federal Reserve restricted access to a crucial facility.
In April, the central bank made a decision that money funds created solely to use its overnight reverse repo facility, known as ON RRP, would not be considered eligible as a counterparty. This means that stablecoins, which aim to invest in easily accessible assets but cannot use the Fed facility, will probably have to compete with the $5.64 trillion money-market fund industry for assets such as Treasury bills. This could potentially lower the interest rates offered on the RRP, which is currently at 5.3%.
According to a note from strategists led by Teresa Ho, restricting access to non-standard money-market funds may be a logical move for maintaining financial stability. However, it also poses a potential risk of further weakening the already-low money market rates maintained by the Fed’s ON RRP.
The RRP is a safe and attractive place for money-market funds, banks and other counterparties like government-sponsored enterprises to stash money overnight. It offers a steady known rate that’s linked to Fed policy benchmarks that is oftentimes higher than many other money-market alternatives like Treasury bills or market-based repo.
In June, the Treasury started flooding the market with bills, causing counterparties to deposit over $2 trillion at the Fed’s facility. However, this amount has decreased by about $723 billion as money-market funds moved their cash to more profitable T-bill and private repo markets. This trend slowed down in mid-July as other investors were attracted by the 5% yield on bills and began competing with money funds for the very short-term investments.
In the current year, the overall worth of the cryptocurrency market has increased by approximately 30%, reaching a total of $1.05 trillion. However, the stablecoin industry has decreased, dropping by 8% to a low of $127 billion in late July, as reported by CCData.
The combined assets held in reserve by the two main stablecoins, Tether and USDC, totaled $114 billion in June 2023. The majority of these reserves, 60%, were invested in Treasury bills, with 25% in repurchase agreements. Despite only accounting for 2% of the Treasury bill market, experts warn that the continued growth of stablecoins could displace other buyers and further exacerbate the existing supply and demand imbalance in the money market. This could result in shortages of T-bills and repos, ultimately driving interest rates down even further.
As more stablecoin providers enter the short-term funding market, the traditional financial system becomes more vulnerable to fluctuations in the cryptocurrency market.
The rapid decline of TerraUSD in May 2022 highlighted the potential for a sudden increase in short-term interest rates. This is due to the possibility of a stablecoin issuer quickly selling off high quality assets, like Treasury bills, which could then affect the value of other issuers and money-market funds holding T-bills. This could lead to a chain reaction of more asset sales.
“Although it is a low probability event, the cryptocurrency market appears to be susceptible to it,” Ho stated. “Additionally, any significant liquidation would probably be limited by dealer balance sheets and their limited ability to facilitate transactions, which may also affect the net asset value of other stablecoin issuers and other holders of liquidity.” – Bloomberg News