Money pegged to the dollar is prone to runs


Mitsuo Shiota


August 2, 2021

I found two strange articles in Nikkei newspaper on August 2, 2021. One (Japanese) blames the floating exchange rate regime after 1971 for recurring currency crises, though it reports Lebanon abandoning the fixed exchange rate regime as an example of currency crises. The other (Japanese) tells the US Treasury’s move to regulate stablecoins is aiming to keep the dominant role of the dollar in the international payment system to keep national security. The US Treasury indeed tells it needs regulation because stablecoins pose “potential risks to end-users, the financial system, and national security”, but I think this “national security” is the concern on the collapse of the financial system, not on the possibility stablecoins replace the dollar in the international payment system.

I briefly read “Currency crises” by Paul Krugman (1997) and “Taming Wildcat Stablecoins” by Gary Gordon and Jeffery Zhang (2021), and thought that both currency crises and stablecoins issues come from the same fact that money pegged to the dollar (greenbacks) or some other currency (central bank notes) is prone to runs.

“Taming Wildcat Stablecoins” by Gary Gordon and Jeffery Zhang (2021) looks back into the history, and lists deposits, money market funds and stablecoins as money pegged to the dollar. Runs on bank deposits were solved by regulations, like deposit insurance. Authorities failed to regulate money market funds, and saved them on the runs arbitrarily as they were too big to fail. The paper suggests several policy choices for stablecoins, and one of them is “requiring stablecoins to be backed one-for-one with Treasuries or reserves at the central bank”. This choice is equivalent to the currency board for foreign currency pegged to the dollar, and its effectiveness depends on the perception that the requirement is indeed met, and will not be abandoned in the future. Argentina’s currency board collapsed in 2002, and Hong Kong’s currency board has survived so far.