According to Yellen, the run on UST stablecoin highlights the risk of crypto to financial stability

Treasury Secretary Janet Yellen pointed to a recent run on stablecoin TerraUSD as evidence of the potential threat to financial stability posed by unregulated cryptocurrency markets during a Senate Banking Committee hearing on Tuesday.

Stablecoins are a type of cryptocurrency that aims to maintain a stable value compared to government-issued currencies like the US dollar. TerraUSD – also known as UST – is an algorithmic stablecoin that seeks to maintain a one-to-one peg to the US Dollar through an algorithm that controls the delivery of an associated cryptocurrency called LUNA LUNAUSD.

If the value of TerraUSD falls below $1, traders can buy TerraUSD for less than $1 and sell these tokens for $1 worth of LUNA. If the price of TerraUSD rises above $1, the algorithm increases its supply until the price drops back to $1.

Stablecoins risk a “run” on the funds backing them if investors lose confidence in the mechanism put in place to ensure their stable value.

“A stablecoin known as TerraUSD experienced a run and lost value,” Yellen said. “I think that just goes to show that this is a fast growing product and there are risks to financial stability and we need a proper framework.”

TerraUSD broke its peg to the dollar over the weekend and the stablecoin slumped to a low of 69 cents on Monday night before recovering to around 90 cents on Tuesday afternoon, a move some analysts say helped the to exacerbate decline in bitcoin price BTCUSD.

One reason TerraUSD’s volatility may have contributed to Bitcoin weakness is the foundation that manages TerraUSD and LUNA announced Monday that it would lend bitcoin from its reserves to traders so they could buy TerraUSD and prop up its price. Terra co-founder Do Kwan explained the move in a series of tweets:

In November, President Joe Biden’s Working Group on Financial Markets released a report calling on Congress to require stablecoins to be issued by state-regulated banks to boost investor confidence and avoid the kind of asset runs experienced by TerraUSD yesterday.

The Securities and Exchange Commission may also have jurisdiction in this case, as Chairman Gary Gensler has not ruled out regulating stablecoins like securities.

Todd Phillips, director of financial regulation and corporate governance at the Center for American Progress, said in an interview that stablecoins arrangements work like SEC-regulated money market funds and that “investors in stablecoins deserve the same protections as money market funds.”

“That’s $18 billion in wealth that we see evaporating before our eyes and people are losing money,” he said.

This is already being investigated by Terraform Labs for its Mirror protocol, which allows users to create synthetic, tokenized versions of publicly traded stocks like Apple AAPL,
or Tesla TSLA,
Terraform and Kwon challenge the SEC, reported CoinDesksaying the regulator failed to properly serve subpoenas on Kwon, even though it had no jurisdiction over the company or Kwon, who is not a US citizen.

Terraform Labs could not be reached for comment, although Kwon said on Twitter Tuesday that he is “close to announcing a recovery plan for UST.” According to Yellen, the run on UST stablecoin highlights the risk of crypto to financial stability

Brian Lowry

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