USDC depeg will hinder stablecoins’ growth, increase regulatory scrutiny — Moody’s

“Financial institutions may reconsider adopting stablecoins to settle agreements involving tokenized securities out of concern over the coins’ potential volatility,” Moody’s said.

Recent turmoil in the traditional banking sector, culminating in USD Coin (USDC) losing its peg, could negatively affect stablecoin adoption and potentially increase calls for regulation, argued credit rating agency Moody’s Investors Service. 

In its latest “Sector Comment” report published on March 16, Moody’s says fiat-backed stablecoins could face new resistance following USDC’s depegging on March 10.

“Until now, large fiat-backed stablecoins had shown remarkable resilience, having emerged unscathed from past scandals such as the collapse of FTX,” wrote analysts Cristiano Ventricelli, Vincent Gusdorf, Rajeev Bamra and Fabian Astic. “However, recent events have shown that the reliance of stablecoin issuers on a relatively small set of off-chain financial institutions limits their stability.”

Customers lining up outside of Silicon Valley Bank at its Menlo Park, CA branch. pic.twitter.com/SDNrSUC1C0

— Cointelegraph (@Cointelegraph) March 10, 2023

The sudden collapse of Silicon Valley Bank on March 10 was a significant risk event for USDC issuer Circle Internet Financial, which had $3.3 billion in assets tied up in the bank. Over the span of three days, Circle cleared roughly $3 billion in USDC redemptions as the value of its stablecoin plunged to a low of around $0.87.

By end of U.S. banking operations on March 15, Circle had “cleared substantially all of the backlog of minting and redemption requests for USDC,” the company said.

Update: As of close of U.S. banking operations Wednesday, March 15, we have cleared substantially all of the backlog of minting and redemption requests for USDC. Get the details: https://t.co/5WEAgPps0E

— Circle (@circle) March 16, 2023

USDC quickly regained its peg after the Federal Deposit Insurance Corporation announced that it would backstop all deposits held at Silicon Valley Bank. Circle CEO Jeremy Allaire told Bloomberg on March 14 that his firm could now fully access its $3.3 billion reserves.

Related: Crypto Biz: SVB collapses, USDC depegs, Bitcoin still up

Although calls to regulate stablecoins have grown louder following the collapse of Terra, fiat-backed stablecoins like the one issued by Circle operate differently than Terra’s algorithmic token that failed in May 2022. Nevertheless, Moody’s believes that regulators are likely to pursue more stringent oversight of the sector moving forward.

The credit rating agency said that USDC was able to regain its peg only once U.S. regulators decided to repay Silicon Valley Bank’s unsecured deposits. “Otherwise, USDC could have suffered from a run and been forced to liquidate its assets,” Moody’s analysts said, adding:

“Given the current market volatility, such a scenario could, in turn, have caused more runs on banks holding Circle’s assets, which could have led to the depegging of other stablecoins.”