2026 Financial Markets Conference – Research Spotlight 1 Transcript – May 18, 2026

May 18, 2026

Research Spotlight 1 – Stablecoin and Financial Stability: A Reputation-Based Framework

Transcript

Scott Bauguess: Welcome to the second session. The first one was really excellent; hopefully we can measure up. I'm Scott Bauguess. I oversee global regulatory policy at Coinbase. I'm at a crypto firm. I formerly was at the SEC and also worked on FSB committees on systemic risk.

It's great to be back. I was here seven years ago, and I think at that time I spoke on AI and machine learning. It'd be fun to go back and look to see what we said, and how much we got wrong about where the world is today—but here today, we're actually going to talk about stablecoins. This is something that I've been working on for the past five years (that's when I went crypto and joined Coinbase).

Stablecoins are one half of the digital asset equation. Thinking about DvP (delivery-versus-payment) process and smart contracts, you need to have digital fiat. We just had the GENIUS Act passed recently. We have rulemaking that's implementing it, and there are a lot of questions that come up about systemic risk related to stablecoins.

And fortunately, we have Francesca Carapella, who has a paper on stablecoins and financial stability risk, and so she's going to present her slides down in front of the screen for about 25 minutes. I'm going to give a few reactions, then we're going to open it up for questions and answers. Please bring your spicy questions—I'm a crypto guy, I'm used to it—and we can have a great discussion here. So, Francesca.

Francesca Carapella: Thank you very much. Thank you very much, Scott, for the kind introduction, and thanks so much to the organizers for inviting me to present my work at this exciting conference. For everything that I will say today, the usual disclaimer applies; and I'm going to wait for the slides to pull up. But the views are my own, and they do not represent those of the Federal Reserve, or its staff.

My plan for today is to describe stablecoins first, and... well, I think I'm going to start talking, because I know roughly what's in my first few slides.

So, I'll describe stablecoins first, and what makes them special in our money market landscape. And I'll describe why those special aspects matter for financial stability, and in particular I'll highlight a couple of features of stablecoins, and I'll show how those features can improve financial stability by improving issuer's trustworthiness. And in doing so, one specific consequence that policymakers may take into account is that there is an implication for stablecoin's remuneration.

And so, yes, I'm going to give a brief "stablecoins 101" in the meantime, which was on my slides anyway. So, stablecoins are crypto assets that peg their value to a reference asset, such as a fiat currency like the US dollar. And they differ in their stabilization mechanisms; some of them are asset-backed, such as USD Coin and Tether—and on those, I will focus for most of my presentation. And others are unbacked, or algorithmic.

For the algorithmic stablecoins, the peg with the reference asset is preserved by an algorithm that adjusts the supply of stablecoins to meet demand at that reference price, at the peg. And the usual disclaimer applies. That is why I really wanted this slide on here. So, yes, what I plan on doing is introducing stablecoins, and what sets them apart in a money market landscape, and why that matters for financial stability.

So, I'll overview some key financial stability risks, and then I'll take you through a deep dive into how the markets and private agents have responded to those risks. And we'll show you that that improves financial stability, and in doing so it has some implications for stablecoins' remuneration.

So stablecoins, as I was discussing, they're crypto assets. They differ in their stabilization mechanisms, and they're issued on a primary market where the investors have a direct relationship with the issuer, and then they're traded among investors on the secondary market—so, they have some features in common with ETFs, for example. Stablecoins have grown dramatically in the past few years, as shown in this chart, where we see that their market capitalization—shown in billions, on the y-axis—has more than doubled since September 2023, and it passed $300 billion just since the end of last year.

And you can see that in orange, there's Tether, and USD Coin in blue; and they're dominating this market. Not only are they making up roughly 90 percent of the market, but they're also asset-backed stablecoins; and one key feature of these stablecoins is that the issuer—Tether and Circle, respectively—has an obligation towards investors, which is clearly stated in the legal terms of Tether and Circle, as the stablecoin being redeemable one-to-one for a unit of fiat on demand.

And it is exactly the growth of stablecoins, and the nature of the issuer's obligation, that has caught and received policymakers' attention. So, legislation is being drafted globally, both in Europe with MiCA and the GENIUS Act here, with elements of banking regulation and money market firm reform, because it's aimed to address market failures arising from liquidity transformation that is due to the fact that the business models of the largest stablecoin issuers is to get money from investors against issuance of stablecoin, invest that money to earn a return, and then repay obligations to investors on demand, if investors demand so. So, the demand obligation towards investors is one key feature of stablecoins.

And going to the use cases, mostly stablecoins are used as a medium of exchange for crypto investments (to a less extent, the cross-border payments usage that is picking up, and a growing role in domestic payments that's picking up through payroll and funding brokerage accounts, and partnerships with credit card networks). And to give you a sense of that, in this chart I show you the monthly transaction volume (in trillions of dollars, on the y-axis) over time, and you can see that USD Coin in yellow, and Tether in green, not only still dominate the market, but also they are driving the fast growth in the past couple of years.

Now, a metric of that growth is also retail adoption, and in this chart I show you over time the number of unique wallets holding USD Coin (measured in millions), and you can see that since the beginning of last year it increased dramatically, and that's indicated by the gray area. And the green line indicates the number of those wallets that hold less than $1,000 in USD Coin. So, you can see that they are responsible for most of this growth, and that's true both for USD Coin and for Tether.

So, why are stablecoins used for payments? In practice, there is a technological friction: that is, transactions or trades are recorded on blockchains that are different for specific types of databases—different from our Excel spreadsheet—and on those databases central bank money or commercial bank money, such as deposits, are not available. So, payments use is a second feature of stablecoins. But are demand obligation and payment use distinctive features of stablecoins?

Well, no. The key features of stablecoin are, as we said: liability of the issuer (that is, a promise of redeeming the stablecoin by the issuer on the primary market on demand)—and in that respect, stablecoins are similar to bank deposits that can be withdrawn on demand, and money market fund shares that can be redeemed with the issuing fund on demand. They're also used for payments, and that's similar to bank deposits; but the distinctive feature is that they have an active, deep secondary market—and that is different from bank deposits and money market fund shares (at least for now, even if tokenization efforts are undergoing).

And so, in our deep dive on financial stability, I will bring these three features and I will show you that the promise of redemption by the issuer depends on the investment choice of the issuer, which in turn is linked to how the issuer values its reputation. The payment usage is going to be reflected with circulation among investors, and the secondary market is going to result in improving issuers' reputation, and therefore their willingness to honor obligation.

So now, to convince you that those are important elements, I'm going to focus on one and three, in the interest of time. And with respect to the incentive to honor obligation, this is important; it's a key element, because issuers perform liquidity transformation and are not trusted to maintain reserves to honor obligations, or not to enter risky enterprises or partnerships.

So, for example, Tether is pretty explicit about holding a lot of non-money-like assets, as I will show you in the next slide; and investors therefore know that Tether might fail to redeem stablecoins, at least in some states of the world. Circle had its reserves stuck at Silicon Valley Bank in March 2023, so investors might expect that issuers want to save on the costs or efforts to select resilient custodians, or to diversify custodians. Analogously, issuers have tried to tie their hands by relying on other institutions for safekeeping; so, for example, Circle holds reserves in BlackRock, securities in Bank of New York Mellon. It has regular attestations of reserves covering the circulating tokens (USDC). It has financial statements that are audited annually.

And so, to give you a sense of why this, in practice, matters, I'm going to show you the reserves of these two biggest issuers—with Circle to the left, and Tether to the right—over time. And you see in blue, direct Treasury holdings; in orange, reverse repos. And you see that for Circle, the majority was direct Treasury holdings, and then it moved for the past couple of years to being majority reverse repos. For Tether, besides the blue and the orange, the pink and gray are actually corporate bonds and metals, and cryptocurrencies. So, they are relatively more volatile and risky assets.

And also, I should say that this blue (or, Treasury holdings) is not all GENIUS Act-compliant Treasury holdings. So, this is to give you the idea that there is some form of liquidity transformation that is performed.

Now, the third aspect that I was mentioning as key and distinguishes stablecoins is this active secondary market. So, in this chart I show you the daily trading volume of USD Coin against US dollars on Ethereum, measured in billions, since the beginning of 2025. You can see that—roughly, while changing—it averages between $10-15 billion. And in particular, issuers themselves have been participating actively in that secondary market for their own coins. So here I show you on the left, again, Circle, and on the right Tether; over time (this is since inception), the billions of dollars of net holdings (so, purchases net of sales) by the issuer of its own coins over a week. And while these holdings vary, we can see that they're definitely not negligible and they roughly hover around 5 billion for Circle, and for Tether a little bit less, and higher more recently. But this active issuers' participation is another feature that I'm going to take seriously.

So, taking a step back, what we've seen so far is that the key financial stability risks are liquidity and maturity transformation for Tether, for example, that can lead to runs, and interconnections that can amplify vulnerabilities arising from that liquidity transformation. There are two forms of interconnections that have been evolving in the industry; both interconnections are: within the digital asset ecosystem, through intermediation chains, various third-party service providers, and mostly for smaller entities—or vertical integration that we have seen for larger entities.

And examples of that are Circle's revenue sharing agreement with Coinbase, Circle setting up a liquidity pool on Ethereum for BlackRock tokenized money market fund, or Circle issuing its own tokenized money market fund. And finally, a peg stability module between DAI and other stablecoin, and USD Coin. So, these are all creating links within the digital asset ecosystem.

And then another form of interconnection is across the digital asset ecosystem and the traditional financial system, as we are observing accelerating adoption both in wholesale and retail. So, the goal of my deep dive is taking those two key financial stability risks and showing you a reputation-based framework that can help us understand how stablecoins can be trusted to honor redemption. And in doing so, this framework rationalizes those differences between stablecoins and other forms of money, to which stablecoins have been likened for the purpose of regulation.

And those two differences, the features that I highlighted, are the secondary market with active issuers' participation, and then I'll spend some time on these voluntary rewards, which I'll link to a concept of remuneration. And I'll show you that these two key elements make issuers more trustworthy, and as a consequence there is an optimal remuneration level for issuers—so, this is a positive, not a normative, paper—so, this is the remuneration level that issuers would choose to be trusted.

And so, how can issuers be trusted to behave well—by which I mean, not divert assets nor enter risky partnerships, and therefore honor redemptions? Legislation is doing its part, but issuers have also been taking actions, and they've been actively participating in the secondary market for their coins and offering voluntary rewards. And these actions matter, because they build trust through reputation; they increase the value of their reputation.

The economic mechanism therefore works through the value of the franchise of stablecoin business—that is, the value of reputation, in my mind. And so here, the repayment constraint (or incentive constraint) of the issuer, is such that the payoff from honoring redemptions has to exceed the payoff from diverting assets or entering risky partnerships.

And the payoff from honoring redemptions has a cost, given by the stablecoins issued, which are the issuer's obligation; and then v, a continuation value or a franchise value of the business for the issuer. And the payoff from v̂, losing the franchise, is given by not repaying redemptions and then bearing the reputation of having possibly lost that franchise.

And how can we relax these constraints? So, how can we make issuers more willing to honor obligations? There are two key elements: b, which is the amount of stablecoins purchased by issuers themselves, and τ, which is a voluntary reward. And in this incentive constraint, you see that the voluntary reward is a cost because it's paid by the issuers voluntarily, as well as redemptions being a cost. But at the same time, τ affects the value (v) of the franchise, and the value v̂ of possibly losing that franchise.

And so, to relax this constraint we want a higher v—a higher value of the franchise—and a lower v̂ —a lower value of losing the franchise. So, what I'll do now is show you how b, the stablecoins purchased by issuers, affect v and v̂, the value of the franchise and value of losing the franchise, and similarly for τ, for the reward—how those affect v and v̂.

So, the franchise value under good behavior is given by—so, v—is given by the cost of buying stablecoins b on the secondary market at price q, and then the revenue from investing the funds s received by issuing stablecoins s (which I'm going to denote by u(s), as that being the profits from those investments). And importantly, the issuer buys stablecoins b on the secondary market before issuing stablecoins s on the primary market, so it shows that it bore a cost. And so, anybody who wants to fake good behavior has to bear that cost as well, and this is going to be key also in v̂, the value of possibly losing the franchise.

Before I show you that, the other element I'd like to stress is that this value of the franchise increases in u(s), and under general conditions it actually increases in s, and that is the size of the stablecoin business, effectively. And I'm going to have something to say about that.

Now, the value of the franchise under bad behavior v̂ is such that it can either be 0, if an issuer behaving badly doesn't issue any stablecoins, or it can mimic good behavior by purchasing stablecoins b on the secondary market at price q. And then, with some probability role, he's not caught behaving badly—so, either diverting assets or entering risky partnerships—and so in that case, he does enjoy the revenue from investing funds s. But with probability (1 - ρ) he's caught, and nobody gives him funds to invest.

So now, it is possible that the cost of buying stablecoins b on the secondary market is so large that it offsets the expected payoff from behaving badly. And so, in that case, effectively, bad behavior is punished with its worst possible outcome. The value v̂ of possibly losing the franchise is pushed all the way down to 0. And remember, we said we want a small v̂, so when that happens the incentive constraint is relaxed.

And then, again, going to the size of the stablecoin business s, we said that increasing s increases the value v of the franchise, and it does also increase the value v̂ of possibly losing the franchise—but it does so less than it increases v, the value of the franchise under the good behavior, due to the probability of being caught. So, the incentive constraint is further relaxed if we increase s, the size of the stablecoin business.

And how would an issuer get investors to buy more stablecoins? Well, with high return. So, stablecoin investors who bought stablecoin s on the primary market can either redeem them and get $1 per stablecoin—so they get s—or they can hold the stablecoin and sell it on the secondary market, and they can sell at least b on the secondary market because b is what issuers themselves are going to buy. And if that happens, then the return to investors on the secondary market is given by the revenue from selling at least stablecoins b to issuers, plus a voluntary reward that the issuers might pay.

And how does this return r affect the value of the franchise? So, in this chart I show you, as a function of r of that return, the value of the franchise in green, and the size of the stablecoin business in blue; the solid line is with a secondary market, and the dashed line is without a secondary market. And we see that the value of the franchise increases in r, the return to the stablecoins, up to a point where it drops—that point where, at the kink it is exactly the point where v̂, the value of possibly losing the franchise, is pushed all the way down to 0.

So, for an issuer who behaves well, it is valuable to increase r in order to relax the incentive constraint and be more trusted, so that increases the value of his franchise, the value of his reputation, up to the point where he has already pushed v̂ all the way to 0; he has already punished bad behavior, in the worst possible way. And then increasing r, or the return, farther doesn't benefit him anymore because it's just a cost that the issuer is paying without getting any benefits, in terms of relaxing the incentive constraint.

So, in the interest of time, I'll just conclude by saying that in this work I describe how stablecoins, like other money market instruments, are liabilities that are redeemable on demand and at par, but they differ from other money market instruments because they have an active secondary market. And in particular, issuers' activity on that secondary market, together with issuers' voluntary rewards, can improve the trustworthiness of the issuers on the primary market.

So, there is an optimal remuneration level for issuers—again, this is not a normative result, but a positive one—and I would like to stress that exactly the combination of this activity on the secondary market and voluntary rewards is effectively a self-enforcing arrangement, or a mechanism that doesn't substitute regulation (but it could complement regulation, because it does not rely on any power of enforcement or supervision). It is purely in the interest of issuers to do so.

I'm going to conclude here. Thank you.

Bauguess: Thank you for that presentation. My job is to give a discussion of it. I used to be an academic. I'm a twice failed former academic, so I'm going to give a very limited discussion of the paper from a—which, I cannot do theoretical assessments of papers anymore, but I can think about the assumptions that underpin them.

First off, I think this is extremely important work. As I mentioned before, stablecoins are one half of the entire digital asset ecosystem. When I entered this space five years ago, I very quickly realized that our entire financial market plumbing is going to change. Nothing is going to be spared from blockchain technology. And making fiat digitally native was the very first thing, is a tipping point, and it is the killer crypto app.

So, to think about, contextually, this paper and why it's relevant, the first thing we have to think about is, what are stablecoins solving? And fundamentally what stablecoins are solving is an ability to do on-chain DvP (delivery versus payment), to be able to atomistically swap fiat for some other tokenized asset.

This started with Bitcoin and Ether and all the cryptocurrencies; that was the genesis for this, the advent of the stablecoin. You needed a way to unwrap dollars or fiat into crypto markets, and that's what birthed the stablecoin about a decade ago. They have since moved to peer-to-peer payments.

The G20, for many years now, has been working on trying to clean up the correspondent banking system to be able to enable cross-border payments that are less than a few hours, that are less than 3-5 percent. They're still working on this. Stablecoins have already solved that. One cent, one second—less than. That's what you can use to move fiat across borders with no restrictions, no correspondent banking system to have to worry about.

But that is not where we're going to see the growth in volume, I don't think, in stablecoins. The growth in volume is going to be institutional, as a settlement instrument. Right now, you can't move capital around 24/7. You can't preposition it and move it away on weekends, when all the crises occur; and the institutional adoption of stablecoins is going to be tremendous.

And you already see, with regulators like the CFTC or the SEC, they're trying to figure out what is the capital regime that a broker dealer, or an FCM, to be able to use this capital to move very large quantities of money through the system. And then also, you think about intracompany transfers; if you have a conglomerate that's global and they're trying to move fiat back and forth across borders and repatriate it from one country to another, that is a killer use case that's being developed today.

And so, the question is: Is there systemic risk associated with stablecoins? And I'm going to say, no; there's not. I know that's a very controversial saying; I'm at a crypto company, and so that's to be pressure tested. But what I will say is there's incumbency risk. Banks today, payments is a big part of their business model, and so banks inherently don't like, at first blush, the idea of a stablecoin.

Now, many of them—the forward ones—are incorporating them just like they did with money market funds four decades ago, into their suite of offerings. But there's definitely incumbency risk. There's capital flight risk. There are a lot of economies that don't have stable currencies, and in those economies they're at risk of dollarization; stablecoins provide a tool to do exactly that. There are monetary policy implications. If you have stablecoins buying Treasuries and moving away from bank deposits, then that's going to naturally impact a central bank's ability to engage in, for example, interest rate management.

But if you think about systemic risk, what it really comes down to is operational risk. They don't have to be systemic, if the structure of the stablecoins—for example, a GENIUS Act stablecoin—is adhered to. They are not banks, they are—we can call them narrow banks; they're not creating credit, there's no money multiplier, unless they're comprised of deposits. In the EU and MiCA, they mandate deposits; in the US, under GENIUS, they're permitted but not required. But that's the only source of credit risk for a stablecoin in that structure.

And so, if you think about where the systemic risk comes from in a stablecoin, it is basically tied to the underlying Treasury market. So, they are, in my view, not systemically important, to the extent that the Treasury market underlying them is well functioning—and the stability of the stablecoin depends almost entirely on the contingency function of the Treasury market, which will be even further reduced once we have tokenized Treasuries.

So, just to summarize: If a GENIUS Act-compliant stablecoin is a narrow bank, there's very little de minimis credit risk or interest rate risk, and so what we just need to focus on is the operational risk. And so that's some of the things that in your Fed note, you talked about what are some of the potential—we can talk about some of the potential mechanisms that would be useful to think about more.

If you think about the empirical evidence to support my claims that they're not systemically risky, and we go back to the Global Financial Crisis. Many of us in this room were regulators when that happened, and we saw the breaking of the buck with money market funds. But what broke the buck were prime funds, not government funds. What we actually saw was capital moving 10-20 percent, or 30 percent, into government funds. There was an influx; it was safe money.

Well, a government money market fund is effectively the structure of a stablecoin. If you look at the COVID crisis, the exact same thing happened. There was an influx of money into those assets, so the idea that there'd be systemic risk associated with stablecoin, if it's well structured, I think is greatly mitigated.

And I guess the last thing I'll say, before we enter a Q&A—and I see one question already came in—is that, one thing that was pointed out in the presentation, also pointed out with Jeremy Stein's remarks, is that there are two stablecoins that dominate the market today: USDC and Tether. USDC is going to be a GENIUS act stablecoin. Tether looks like a bank. There are loans in it; there are a lot of assets in there that are not Treasuries or repo, and so that's a much different structure. And those are the two models that I think we're going to see a bifurcation globally, and maybe a lot of stablecoins globally are going to adopt hopefully the GENIUS Act structure with respect to how they're offered, in each jurisdiction.

Okay. So, those are my overarching remarks. I'm going to sit back down. I would love to have some more questions come in, and I will seed the discussion with a few to Francesca.

Carapella: Thank you very much, Scott.

Bauguess: So, first off: Did I say anything controversial there that you want to disagree with?

Carapella: No, I do not want to disagree; I completely agree with operational risk being an issue. We are thinking about that. I agree with the flight to safety risk—that is to say, inflow into stablecoins, to the extent that they are looking like narrow banks or government money market funds (like GENIUS Act-compliant), so I don't disagree with that. I think that we should look a little deeper than that, and one perspective that I would like to add to this is that it is true that their size is relatively small, and so the effect on the Treasury market, for example, as you brought up, is probably negligible by most of the estimates that are currently available in the literature.

However, the aggregate market capitalization that I showed you is larger than Silicon Valley Bank's assets under management when it came down in March 2023; so, it is small, but it's not that negligible, given our past actions. And with that in mind, I'd like to add some color, I think, to the systemic risk perspective that you brought up, and it is true that it seems like this market is relatively small and kind of contained by legislation.

So, its growth has also stalled since Bitcoin fell in October 2025, and so one might think that, as economists always think in two dimensions, that the extensive margin is not that significant, not that dangerous—and I would not disagree with that. That's what we roughly are seeing here, keeping in mind again that the market cap on aggregate is larger than SVB in March 2023.

But economists often think about the intensive margin as well, and what I see (and what we highlight in the Fed's note, with my Fed friends and colleagues) is that on the intensive margin there is a lot going on, and those—we call them interconnections—can actually significantly amplify vulnerabilities that arise from economic mechanisms that we think we shut down. And so, that's, I think, the color that I would like to add, and I think we should not be fooled by the relatively small size, or the quiet down growth expansion that we have seen in the past six months, because the industry has not been that quiet.

At the intensive margin we're seeing a lot of enterprises, a lot of initiatives, and I think it is valuable to understand what those look like. Because we know, even from the Great Financial Crisis, that a little bit of opacity in those interconnections can generate a lot of troubles. And so that's, I guess, the color that I'd like to add.

The other thing—the last thing I'll add, and then I'll open it up—but the other thing I wanted to add is an additional perspective on the flight to safety. It is true, I completely agree, that stablecoins might receive an inflow of funds in times of stress. But also—in some work which is not public yet, that I'm doing with one of my colleagues—is possibly stablecoins are going to put competitive pressure and discipline on banks, and so in a Calomiris-Khan kind of story on discipline, we might see banks reacting to that and improving their resiliency by investing in shorter-term assets, exactly because of that fear of sudden and large withdrawals.

So, I guess what I'm trying to say is that the economic mechanism that arises can go in both directions. And we usually see it in one way, but I think we should be open to seeing it in the other direction as well.

Bauguess: So, let me ask you a question. I'll follow up on the SVB (Silicon Valley Bank) failure; so, that was a very well-known depeg of the USDC dollar coin—they had $3 billion at SVB. It failed. It was unclear what would happen to that portion of the reserves when we saw the depeg.

That also reflects that having uninsured deposits, in the capital structure of a stablecoin, does engender risk in that system. And so, GENIUS Act contemplates the ability to continue to have uninsured deposits in the reserve structure. Is that something that we should get away from, or should it be all just Treasuries and repos and some small de minimis layer of uninsured deposits—and if they are, insure deposits at G-SIBs and not regional banks?

Carapella: That's a great question. I'm not going to take a stand on the normative side. My reaction to that is that a minimum of investments, like they're doing in Europe, for example, on bank's deposits might be counterproductive for the reasons that you highlighted. And so, my reaction to what you just said is that I would not interfere with the private sector's decisions of diversifying their portfolios, given their liquidity management—especially when it comes down to these types of interconnections, which I have tried to highlight as well.

So, yes; that is a risk, and I would find it counterproductive at the moment to set requirements on that. But, mmm...

Bauguess: So, does your model apply to banks—classical banks—and if we had tokenized deposits, would it be good to allow those deposits to trade and see whether they actually trade at par?

Carapella: That is an excellent question. So, in one of the extensions that I didn't have time, obviously, to even mention—yes. This model, this framework, applies exactly to banks. And indeed, if we take banks as we have them today, with FDIC insurance—so, with institutional guarantees—and without a secondary market, what comes out of the model is that the equilibrium allocation (so, the outcome of what I showed you) is payoff equivalent. So, it's the same, broadly speaking, as that of an institution who is FDIC insured.

So, in other words, there is a substitutability between institutional guarantees like the FDIC, and the secondary market implementation that I showed you. So, one way to see what we have looked at in the past 150–200 years of history is that perhaps the reason why we do not see a secondary market for deposits is—well, there may be several ones, and I'm happy to touch on others—but might be exactly the existence of this institutional guarantee. That effectively crowded out a private market arrangement, such as a secondary market, that could effectively achieve the same outcome. That's one way to interpret this.

And with respect to tokenized deposits, yes—there are definitely... so, I guess through the lenses of this model, institutional guarantees would be equivalent to a secondary market, so they're not necessarily better than this. Stepping aside from this framework, some considerations that we might want to think about tokenized deposits are difficulty in implementing those institutional guarantees.

So, how do we want to design tokenized deposits? I've done some work on this that is about to come out, probably in the next month, after it gets cleared up. Do we want them to be bearers' instrument, or do we want them to be account based—that is, the same way as our deposit accounts work today?

So, if I'm sending you $5 for coffee, my bank is going to send it to your bank, and my account and your account are going to be, respectively, adjusted by those $5; with cash and stablecoins, that's not the case. It is a better instrument—that is to say, whoever holds it is the rightful owner. So, the owner is not some registered person, but whoever holds it. So, depending on how tokenized deposits are going to be designed, we're probably going to face some challenges in implementing those institutional guarantees.

Because if a better instrument is the format in which liquidity gains might be reaped the most—so if we want to think of tokenized deposits exactly competing with stablecoins, then we're going to have to think about: How are we going to implement deposit insurance limits, which arguably might be necessary for the credibility of deposit insurance, for the feasibility of deposit insurance? Are we going to insure the bank, or are we going to insure digital wallet providers, where those tokens—deposit tokens—will be sitting? What would a run on a tokenized deposit look like? How would it transmit or initiate from the digital wallet provider onto the bank?

So, I think what I'm trying to say is that I don't believe there is a clear-cut answer as to whether tokenized deposits are better than stablecoins or not. The framework I just described shows that they're equivalent, the payoff equivalent, in some cases. But even outside of that framework, there are trade-offs to consider, and challenges that are non-trivial.

Bauguess: Okay; I have one more question. I'm going to answer David Wessel's question after that, and then I'll open it up for any others; but, the recent OCC notice of proposed rulemaking contemplated under the GENIUS Act, that if there were a 10 percent redemption event over a period of time, there would be a forced seven-day pause on any redemptions.

And so, with respect to your model, with respect to the singleness of money, how would you think about a proposal or a forced mandate like that put on a stablecoin issuer? Does that undermine the properties of that stablecoin?

Carapella: Yes, that's a great question. I don't think so. So, I'm going to go back to economic theory for this, and it's probably what, like thirty years ago? But yes; so, I'll map that to some form of suspension or convertibility, which is the forum in which this kind of gates, I guess, were first studied by Diamond and Dybvig in a 1983 JPE paper, and then we've seen—so it seemed like economic literature has settled on this suspension of convertibility being extremely powerful, and why not? If you've got commitment, the world is a great place to live. The problem is, as Todd Keister and Huberto Ennis have studied in subsequent work on AR and JME, that there's no commitment.

And so, when you do not have the commitment to actually hold the door or close the gate, you are in a world where you want to study the incentives to go along with the strategy, as I was highlighting here in a different setting. And when that is the case, then the suspension of convertibility is not effective anymore, and what you might see instead is waves of runs that slowly deplete the bank, in some conditions.

So, with the background of economic theory, I personally see those to be dangerous.

Bauguess: I think I also would agree, just by watching, as a market regulator, for many years; as soon as you set a threshold, markets tend to run towards it, and they become a self-fulfilling prophecy. So, I think there's just the psychology, the added danger of, trying to get out first if you fear that there might be a run that, indeed, that increases the likelihood of it.

Okay; so, the first panel was a great panel. It was fascinating to listen to. One question was asked at the end about crypto, and I think Jeremy gave a response about the need and the potential implications of stablecoins—the need about having bulletproof reserves and submitting the stablecoin to bank-like regulations.

I think the GENIUS Act does, but then there was also a comment that David asked, which is that Tether and some of these offshore stablecoins are primarily used for illicit finance, and that's why we see the growth. It is true that digital fiat is attractive for somebody who's trying to move money across border, and that includes criminals; but I think that the growth in Tether in particular is that it gives a stable store of value to citizens in countries that don't otherwise have it.

And if you look at those citizens, Tether does not pay any return or rewards; it's just a stable value in US dollars. It's very powerful, and even with Tether not being regulated, like a bank, or not having that supervision, the risks associated with holding Tether, to somebody in economy that may otherwise have their capital inflated away at a very high rate, or an SVB-type depeg event, is de minimis—they just don't care. And also, having that be on-chain as part of the economy, and the supply chains that are building up around retail, it's a very strong and powerful incentive.

So, I do think the narrative is changing. It's not just illicit finance, and most of the use cases I think are becoming more commercial. And the more we get to GENIUS Act-compliant-like stablecoins globally, I think the more we're going to see that. I don't know, David, if you had a follow up, or anybody who wants to ask any further questions in our last minute.

All right. Francesca, any final comments or thoughts about your paper and what's coming next?

Carapella: I will say one thing; it's not necessarily perhaps about the paper. I think it's more like a broader reaction of what I see going on now, and I think one of the big challenges that we have is to understand why. So, we would not want to generate regulatory arbitrage at this stage, because we're drafting a lot of regulations on stablecoins; and so, one of the questions that I think we should be able to answer is, why a bank that invests in the same assets as Circle does, chooses not to be a bank. What is the constraint that makes it not profitable for a bank that looks exactly like Circle not to be a bank?

And that, I think, is where we're going to need to understand, is this some capital constraints? What is it that drives this decision of being a stablecoin issuer if your assets are exactly the same? I think we should understand that before embarking into regulating stablecoins and possibly driving regulatory arbitrage for the next 20 years.

Bauguess: That's a good question more generally, which is just we see a lot of offshore innovation taking place outside of regulated jurisdictions, and why is that?

Okay, well thank you. I'm told that everybody is to remain seated while they rearrange the chairs for the next panel. Thank you, Francesca.