DP18521 Contagious Stablecoins?
We study competition between stablecoins pegged to a stable currency. Stablecoins are issued by coalescing investors and backed by long-term assets. They can either be redeemed with the issuer or traded in a secondary market. When an issuer limits redemption and sticks to an investment rule, its stablecoin is stable in an idiosyncratic sense—it is invulnerable to runs and always trades at the pegged price. Competition between issuers, however, entails a coordination problem in which an issuer must pay interest on its stablecoin if other issuers pay interest as well. As a consequence, the economy can be inefficient and unstable. The efficient allocation can be implemented uniquely when regulation prevents the issuance of interest-bearing stablecoins, as these can be contagious.