Intelligent design: stablecoins (in)stability and collateral during market turbulence

Riccardo De Blasis; Luca Galati; Alexander Webb; Robert I Webb

doi:10.1186/s40854-023-00492-4

Intelligent design: stablecoins (in)stability and collateral during market turbulence

Financ Innov. 2023;9(1):85. doi: 10.1186/s40854-023-00492-4. Epub 2023 May 6.

Authors

Riccardo De Blasis¹, Luca Galati^{2

3

4}, Alexander Webb², Robert I Webb⁵

Affiliations

¹ Department of Management, Marche Polytechnic University, Via Lodovico Menicucci 6, 60121 Ancona, AN Italy.
² School of Business, University of Wollongong, Northfields Ave, 2522 Wollongong, NSW Australia.
³ Derivatives Markets Research Centre, Rozetta Institute, 55 Harrington St, 2000 Sydney, NSW Australia.
⁴ Department of Economics, University of Molise, Via Francesco De Sanctis, 86100 Campobasso, CB Italy.
⁵ McIntire School of Commerce, University of Virginia, 140 Hospital Drive, 22903 Charlottesville, VA USA.

Abstract

How does stablecoin design affect market behavior during turbulent periods? Stablecoins attempt to maintain a "stable" peg to the US dollar, but do so with widely varying structural designs. The spectacular collapse of the TerraUSD (UST) stablecoin and the linked Terra (LUNA) token in May 2022 precipitated a series of reactions across major stablecoins, with some experiencing a fall in value and others gaining value. Using a Baba, Engle, Kraft and Kroner (1990) (BEKK) model, we examine the reaction to this exogenous shock and find significant contagion effects from the UST collapse, likely partially due to herding behavior among traders. We test the varying reactions among stablecoins and find that stablecoin design differences affect the direction, magnitude, and duration of the response to shocks. We discuss the implications for stablecoin developers, exchanges, traders, and regulators.

Keywords: Financial contagion; Herding; Information cascades; Market crashes; Stablecoins; Volatility spillovers.