The New Dilemma in the Age of Stablecoins: Government Debt Shrinks While Private Credit Dries Up

A $2 Trillion Market Shift That Could Reshape U.S. Monetary Policy

There’s one number keeping U.S. Treasury Secretary Scott Bessent up at night: $1 trillion. That’s how much the U.S. government is expected to pay in net interest next year—crossing the 13-digit threshold for the first time in history. This nightmare figure is a result of fiscal deficits reaching 7% of GDP and a sharp rise in Treasury yields over the past four years.

In this context, stablecoins are emerging as potential saviors. Citigroup projects the current $257 billion stablecoin market could grow to $1.6 trillion by 2030, while Standard Chartered sees it reaching $2 trillion in just three years. But is this massive inflow of capital a blessing solely for the U.S. government? Let’s look at the structural changes it might bring to the financial system.

Dual Effects of Falling Neutral Rates: The Fed’s Two-Front Battle

A New Engine of Treasury Demand

Stablecoin issuers hold most of their reserves in short-term U.S. Treasuries to maintain a 1:1 peg with fiat currencies. Tether—the largest stablecoin issuer—holds more U.S. Treasuries than all investors in Germany combined.

History offers a hint of what this means: In 2015, $6.1 trillion in Treasury purchases by foreign central banks lowered the U.S. neutral interest rate by about 0.5 percentage points. A $2 trillion stablecoin market would exert meaningful downward pressure on rates. According to the Bank for International Settlements (BIS), even a $3.5 billion inflow into stablecoins can lower 3-month Treasury yields by 0.05 percentage points within 20 days.

A New Fed Dilemma: Weakening Policy Transmission

However, the expansion of the stablecoin ecosystem introduces unforeseen complexity for Fed policy. Interest rates on stablecoin loans made through decentralized finance (DeFi) protocols appear largely detached from the Fed’s benchmark rate.

This means a growing portion of the financial system may lie outside the Fed’s direct influence. As a result, conventional rate changes may only weakly affect the stablecoin-driven market, potentially forcing the Fed to implement more aggressive rate shifts to reach its monetary policy goals.

The Double-Edged Sword of Short-Term Debt Strategy

The U.S. government currently sees short-term Treasury issuance as an attractive option. In a market expecting two Fed rate cuts this year, short-term Treasuries stand to benefit immediately from falling rates.

However, it is also a dangerous bet. If the economic cycle shifts and the Fed begins raising rates, the short maturities of these Treasuries mean the government will need to roll over debt at much higher costs, translating interest rate hikes into instant fiscal stress.

Private Credit Contraction: Robbing Peter to Pay Paul

Source of Funds Determines Impact

The effects of the trillions flowing into stablecoins depend on their origin. If the money comes from money market funds (MMFs), the shift is largely neutral—simply a reallocation within similar short-term financial products.

The problem arises if the source is bank deposits. Banks rely on deposits to extend loans to businesses and consumers. When deposits flow into stablecoins, banks lose a core funding source leading to a reduction in credit supply.

A Structural Weakening of Credit Creation

JPMorgan Chase estimates that only 6% of current stablecoin demand comes from evading capital controls in emerging markets. The remaining 94% likely comes from within the U.S. financial system. If a significant portion of that is from bank deposits, then the result is a weakening of private-sector credit creation in exchange for easier government financing.

This could conflict with the Fed’s dual mandate of “maximum employment.” While the government enjoys reduced interest burdens, the tradeoff could be weaker private investment and consumer spending.

The Rise of New Financial Stability Risks

Regulatory Blind Spots

Stablecoins perform functions similar to banks but lack equivalent prudential oversight. This creates a new breed of systemic risk.

As a form of digital “private money,” stablecoins are vulnerable to mass withdrawals (“runs”) during market turmoil. Most issuers do not have direct access to the Fed’s liquidity facilities, making them especially fragile in crises.

Expanding the Lender of Last Resort Role

If a large-scale stablecoin run occurs, the impact could ripple across the financial system. In such a scenario, the Fed may be pressured to intervene as a lender of last resort. This would extend its traditional role beyond the banking sector into the crypto ecosystem.

An Irony in the Push to Reduce the Trade Deficit

There’s a peculiar irony in the Trump administration’s support for stablecoins. A surge in foreign demand for stablecoins raises global demand for U.S. dollars. This strengthens the dollar, boosting Americans’ purchasing power, but also making U.S. exports less competitive abroad. For a mercantilist administration focused on reducing the trade deficit, this is an unintended and counterproductive side effect.

Conclusion: The Challenge of Finding the Right Balance

The rapid growth of the stablecoin market undeniably presents an opportunity to ease the U.S. government’s interest burden. However beneath that opportunity lie several complex challenges: weakened monetary policy transmission, contraction of private credit, and new financial stability risks.

The key is to strike the right balance between short-term fiscal relief and long-term financial system stability. As the $2 trillion stablecoin era approaches, policymakers must closely monitor these interlinked effects and craft proactive strategies.