The Federal Reserve has repeatedly highlighted the risks involved in cryptocurrencies, especially stablecoins. Now, one of its economists has released a joint research paper on regulating stablecoins and the issues associated with “privately produced monies” of this nature. The paper also makes a case for central bank digital currencies(CBDCs) as a risk mitigator to “reduce the costs of payment systems, and maintain monetary sovereignty.”

Researchers Propose Regulations for Stablecoins and Highlight the Need for CBDCs

In a research paper published on July 17, economists Jeffrey Zhang(Federal Reserve Board of Governors) and Gary B. Gorton(Yale School of management) asserted that digital currencies like stablecoins are “not an effective medium of exchange because they are not always accepted at par and are subject to runs”.  They believe that these assets have the same problems as banks i.e. “what exactly is the backing for their money ?” The authors then present a set of solutions or “policy choices” that can help contain the systemic risks emerging from these private assets.

The paper details the history of private money, starting from the Free Banking Era in the United States, which began in 1837. Following this, the authors underscore the two options available for regulating stablecoins: convert stablecoins into public money or introduce a CBDC to tax stablecoins out of existence.

To transform stablecoins into public money, the paper proposes two approaches. The first involves getting FDIC-insured banks to issue stablecoins, whereas the second outlines a scenario where these assets are backed one-for-one by central bank reserves or treasuries.

Stablecoins Under Heightened Scrutiny of Federal Reserve

The latest research on stablecoins has gained attention on Twitter, with Avanti Financial Group founder Caitlin Long pointing out the connection between the timing of the publication and an upcoming meet on stablecoins headed by Treasury Secretary Janet Yellen.

HERE’S A NEW PAPER out of the Fed (+Yale) that lays out regulatory options for US dollar #stablecoins. Interesting–it was released yesterday (on a Saturday) & its first footnote references tomorrow’s big President’s Working Group meeting on the topic.🧐https://t.co/gfGWDbjjA4 pic.twitter.com/5VwMlnErHJ

— Caitlin Long 🔑 (@CaitlinLong_) July 18, 2021

On July 19, Yellen will convene the President’s Working Group on Financial Markets(PWG) to discuss stablecoins at length. The group includes several regulators who will  participate in discussions on the “potential benefits of stablecoins while mitigating risks they could pose to users, markets, or the financial system.”

Lately, stablecoins have come under heightened scrutiny of the Federal Reserve, with Fed Chair Jerome Powell demanding tougher regulations for assets like Tether. In a recent statement, Powell commented that the assets are “growing incredibly fast, but without appropriate regulation.”The Fed has also maintained that cryptocurrencies would not be integrated into mainstream payments anytime soon.