Stablecoins have become a cornerstone of the cryptocurrency landscape — offering what many view as the “best of both worlds”: the flexibility and innovation of crypto, combined with the price stability of a traditional fiat currency, typically the U.S. dollar. In principle, a stablecoin aims to maintain a fixed value — ideally always $1 — so users can transact, trade, or store value without exposure to extreme volatility.
But beneath that promise lies a complex web of structural vulnerabilities. Recent research and real‑world events reveal that the very mechanisms used to preserve a stablecoin’s peg might also make it highly susceptible to sudden and devastating “runs.” With regulatory scrutiny increasing and stablecoin adoption skyrocketing, the risk isn’t just to individual investors — it could threaten broader financial stability.
The Promise — And Rapid Growth — of Stablecoins
For more than a decade, stablecoins have been marketed as a bridge between traditional finance and the digital asset world. They allow near-instant transfers, cross-border payments, decentralized finance (DeFi) applications, and leverage — all while offering a semblance of price stability. This combination has powered widespread adoption in crypto trading, DeFi lending, and payments.
By mid-2025, the total market capitalization of stablecoins had crossed USD 250–300 billion, a massive expansion reflecting both demand and confidence in “crypto‑cash equivalents.” icoholder.com+2CoinDesk+2
Such rapid growth has also drawn the attention of regulators and central banks worldwide. For example, the European Central Bank (ECB) recently warned that stablecoins could siphon off deposits from traditional banks — thereby threatening the stability of the banking system — and spark broader financial instability in the event of a run. CoinDesk+1
Yet amid all this expansion and regulatory focus, new research points to a stark reality: stablecoins may be far more fragile than their name implies.
How Stablecoins Are Structured — And Why That Matters
To understand the hidden vulnerabilities, it’s important to grasp how most stablecoins are designed and operated. The typical structure involves two overlapping markets:
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Primary market: A small, vetted set of authorized dealers or “arbitrageurs” (authorized participants) who can redeem stablecoins directly with the issuer for cash or reserve assets.
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Secondary market: Regular users and traders who buy and sell stablecoins on exchanges. Prices here can fluctuate slightly — sometimes above or below the “peg” — depending on supply, demand, and market sentiment.
This dual system is meant to maintain the $1 peg through arbitrage: if the price dips below $1, arbitrageurs buy coins; if it rises above $1, they sell. In theory, this keeps stablecoin prices roughly at $1.
But this structure also introduces a key fragility: while arbitrageurs help maintain short‑term stability, under stress they can accelerate instability — or even trigger a full-blown run. Cointeeth+2Brookings+2
Unlike a traditional bank, where depositors might withdraw from many branches, stablecoin redemption depends on a handful of dealers — so liquidity and confidence become highly concentrated.
Triggers of Stablecoin “Runs” or Depegging Events
Several conditions can trigger large-scale redemption demand — or panic — which can destabilize a stablecoin:
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Reserve-asset downgrades or devaluation: Many stablecoins are backed by bonds, cash, or other financial instruments. If these reserve assets lose value (e.g., due to credit downgrades or interest rate shifts), confidence can erode quickly. Brookings+1
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Liquidity stress in markets: If market-wide liquidity dries up, issuers may struggle to quickly liquidate reserve assets, leading to delays or shortfalls in redemptions. Cointeeth+1
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Regulatory actions or uncertainty: Government scrutiny, enforcement, or regulatory announcements can spook investors, prompting them to exit en masse. Brookings+1
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Large redemption requests — especially from institutions: When big players withdraw large amounts, arbitrage mechanisms may be overwhelmed, triggering cascading selling pressure. PANews+1
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Contagion via interlinked protocols or collateralization: In DeFi ecosystems where stablecoins are used as collateral, a peg loss can trigger a wave of liquidations, further selling, and protocol instability. Webopedia+1
These triggers show how stablecoins — particularly in times of stress — behave more like banks under a bank run than like risk‑free digital assets.
The Paradox of Arbitrage: Stability Mechanism That Can Trigger Instability
Arbitrageurs are often viewed as a stabilizing force. Their presence and activity help keep the stablecoin price near $1 under normal conditions. However, research indicates a paradox: the more arbitrageurs available, the greater the risk of fast, widespread exits in a crisis.
Consider two of the largest stablecoins:
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Tether (USDT) — typically serviced by only a handful of authorized dealers (~6 on average).
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USD Coin (USDC) — serviced by hundreds of dealers (hundreds to 500+).
In a panic:
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USDT’s limited dealers may be unable to absorb large redemption demand, resulting in sharp drops (e.g., from $1 to $0.95) and triggering investor panic.
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USDC’s many dealers may successfully buy coins to maintain the peg (e.g., price dropping only to $0.99), but the perceived stability may encourage more investors to exit — compounding redemption pressure.
In other words: more “exits” (arbitrage paths) make daily stability easier, but in a crisis, those same exits become escape routes — fueling a mass exit. The very mechanism meant to safeguard stability turns into a channel for mass withdrawal. PANews+2Brookings+2
Some analogies liken this to a building evacuation: a few exits may slow down initial movement (giving people time to reconsider), while many exits make evacuation easy — but during panic, that easy exit becomes a stampede.
Quantifying the Risk: What Research Finds
Recent academic and industry research have tried to put numbers to the run risk inherent in stablecoins.
One recent model suggests that major stablecoins carry a 3%–4% estimated annual probability of a “run.” PANews+1
To put that in perspective: traditional bank deposit insurance or federally backed savings has risk levels orders of magnitude lower. For many holders of stablecoins, that means over a decade, the cumulative probability of a major disruption could approach roughly one in three.
Even if this sounds acceptable to a risk‑tolerant investor, the risk is not just individual — systemic. A run on a large stablecoin could ripple through DeFi platforms, exchanges, and — potentially — the traditional financial system. Brookings+2whaleempire+2
Moreover, a concentration of stablecoin holdings among just a few tokens further amplifies this risk. If one major coin fails, the broader ecosystem — including lending protocols, exchanges, and crypto institutions — could face cascading failures. whaleempire+1
Real‑World Examples: When Stablecoins Didn’t Hold Up
History has already provided several cautionary tales. These real-world episodes underscore the theoretical risks described above:
TerraUSD (UST) and LUNA (2022)
UST aimed to maintain its peg through algorithmic mechanisms (via LUNA), not traditional collateralization. In May 2022, a large outflow of UST from yield‑generating protocols triggered panic selling. UST fell below $1, arbitrageurs burned UST for LUNA, dramatically increasing LUNA’s supply — causing hyperinflation and devastating collapse. UST never recovered — wiping out tens of billions of dollars in value across the crypto market. Webopedia+2Cointelegraph+2
This crash was dramatic, but it exposed a core lesson: stablecoin models that rely on fragile or circular collateralization mechanisms (e.g. “token A backs token B, token B backs token A”) are inherently unstable under stress. Serrari Group+1
Recent de‑pegging of smaller stablecoins (2025)
Crashes aren’t only a relic of 2022. In late 2025, a smaller Bitcoin‑backed stablecoin (YU) backed by protocol Yala suffered a de‑peg and lost its $1 value after an apparent exploit. The crisis exposed thin on-chain liquidity and the vulnerability of lesser-known stablecoins — even those with substantial backing. TradingView+1
In addition, fiat-backed stablecoins have also had their share of trouble. For example, in 2023, when a U.S. bank that held a portion of reserves failed, some stablecoins experienced peg instability — demonstrating that even “backed” coins are not immune to real‑world banking risks. Brookings+1
These real-world failures show that even well-known stablecoins — or those with good backing — can unravel rapidly under stress.
Systemic Risk: Why This Matters for the Broader Financial Ecosystem
The risks inherent in stablecoins are not just about individual losses. Because stablecoins are deeply integrated into large parts of the crypto ecosystem — including exchanges, DeFi protocols, lending platforms, and even institutional products — their collapse could create cascading problems.
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As stablecoins grow in adoption, they increasingly compete with traditional banking for deposits. The ECB has flagged that stablecoins could draw retail deposits away from banks — destabilizing traditional banking systems. CoinDesk+1
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Stablecoin issuers often hold significant amounts of government debt (e.g., U.S. Treasuries). A fire sale in the event of a run could disrupt bond markets — potentially spilling over into wider financial markets. CoinDesk+1
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DeFi protocols, which rely heavily on stablecoins for liquidity and collateral, would be at great risk of mass liquidation and collapse if a major stablecoin fails — with knock‑on effects across other crypto assets. whaleempire+1
In short: a stablecoin failure is not just a “crypto problem.” Given scale and interconnection, it could become a systemic financial shock.
Can Stablecoins Be Made Safer? Proposed Innovations and Regulatory Approaches
Given these risks, how could stablecoins evolve to become more stable — in more than name only? Several approaches and innovations are being proposed and studied:
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100% Reserve‑Backed Stablecoins with Transparent Assets
Some researchers argue that stablecoins need to be fully backed by highly liquid, transparent assets — such as cash or short‑term government bonds — rather than risky securities or volatile holdings. arXiv+1 -
Hybrid Monetary Architectures
A recently proposed model suggests combining private stablecoins with central‑bank-backed digital currencies (CBDCs), creating a “hybrid monetary ecosystem.” Under such a system, stablecoins would have access to standing liquidity facilities and redemption rails — improving resilience under stress. arXiv+1 -
Improved Transparency and Frequent Auditing
Regular, independent audits of reserves — along with real‑time disclosure — could improve trust and reduce the chance of sudden surprises that trigger runs. This approach would push stablecoins closer to traditional banking standards. Brookings+1 -
Liquidity Backstops and Redemption Facilities
Establishing mechanisms (e.g., “standing liquidity facilities”) that intervene during stress — providing liquidity or absorbing redemption pressure — could help avoid fire sales of reserve assets. arXiv+1 -
Regulatory Frameworks to Limit Risk Concentration and Enforce Reserve Quality
Regulations could require stablecoin issuers to hold only high‑quality, liquid reserves; limit leverage; ensure custody separation; and mandate reserve composition disclosures. These steps could help mitigate “too big to fail” risks. Brookings+2PANews+2
While none of these solutions eliminate risk entirely, they could substantially increase resilience, reducing the likelihood and severity of runs.
Lessons for Investors, Regulators, and Financial Institutions
Given all the risks and emerging solutions, what should different stakeholders take away?
For Investors
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Treat stablecoins as risky assets — not risk-free cash substitutes. Stablecoins’ peg does not guarantee safety; run probabilities over time are nontrivial.
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Diversify — and avoid over-relying on a single coin. Holding multiple stablecoins, or a mix of stablecoins and other assets, can reduce exposure to a failure of any one coin.
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Pay attention to transparency and reserve quality. Stablecoins backed by liquid and transparent assets are generally safer. Investigate if issuers provide regular audits and clear disclosures.
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Stay aware of macro conditions. Interest rate changes, regulatory developments, banking sector stress, or market liquidity events can unexpectedly impact stablecoin stability.
For Regulators and Policymakers
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Recognize the systemic risk posed by stablecoins. As stablecoin adoption grows, their failure could affect not only the crypto sector but also traditional finance — through deposits, bond markets, and liquidity flows.
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Implement reserve standards and transparency requirements. Mandating high‑quality liquid reserves, regular independent audits, and public disclosures can improve stability.
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Consider hybrid monetary architectures. Combining private stablecoins with central‑bank-backed assets or liquidity facilities could balance innovation and safety.
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Monitor market concentration. With a few major players dominating stablecoin supply, regulators should watch for “too big to fail” dynamics and encourage competition and decentralization.
For Financial Institutions & DeFi Platforms
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Integrate stress-testing and contingency plans. Just as banks perform stress tests, DeFi platforms and institutions integrating stablecoins should simulate extreme withdrawal scenarios and plan liquidity backstops.
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Avoid overreliance on a single stablecoin. Building protocols or business models around one dominant stablecoin increases vulnerability to a single point of failure.
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Design for transparency and risk mitigation. Use diversified collateral, implement fallback mechanisms, and ensure clarity around reserve backing to build resilience.
Why This Matters: The Bigger Picture
Stablecoins represent a significant evolution in finance — bridging traditional and crypto finance, enabling global transfers, programmable money, and new financial products. But with scale comes responsibility and risk.
As of 2025, the stablecoin ecosystem is no longer small or niche: with hundreds of billions in assets, adoption across exchanges, DeFi, and even institutional usage, stablecoins are increasingly interwoven into the fabric of global finance. icoholder.com+2CoinDesk+2
This broad integration means that a stablecoin collapse would not remain contained within “crypto world.” Instead, it could ripple outward — affecting traditional banking (via deposit outflows), bond markets (through fire‑sales of reserve assets), and global liquidity.
The paradox is unfortunate but real: the mechanisms that give stablecoins their attractiveness — liquidity, instantaneous transfers, near‑dollar stability — are also the ones that make them fragile under stress.
At a time when regulators are contemplating stablecoin legislation, and financial institutions are watching crypto more closely than ever, this hidden fragility should serve as a wake-up call. Without thoughtful design, transparency, oversight, and risk management, stablecoins risk becoming a systemic vulnerability rather than a convenience.
Toward Safer Stablecoins — Possible Futures
The path forward doesn’t require abandoning stablecoins. Rather, the goal should be to evolve them into robust, resilient, transparent financial instruments that offer stability without hidden fragility. Some possible futures include:
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Fully backed stablecoins — those backed by high-quality, liquid assets (cash or short-term government bonds) and audited regularly.
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Hybrid stablecoin-CBDC ecosystems — combining the benefits of private stablecoins (speed, flexibility, programmability) with the security and liquidity guarantees of central-bank-backed systems. Research shows such hybrid architectures could significantly reduce run risk and stabilize redemption dynamics. arXiv+1
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Regulated stablecoin frameworks — enforced by governments or financial regulators, requiring regular disclosures, reserve separation, redemption guarantees, and stress-testing.
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Decentralized but diversified stablecoins — distributing risk across many smaller issuers rather than a few dominant players; using diversified reserve holdings; or adopting new mechanisms that balance decentralization with asset security.
These changes won’t happen overnight — but given the growth and importance of stablecoins, they may well be necessary for long-term viability and financial stability.
Conclusion
Stablecoins stand at a critical inflection point. On one hand, they offer powerful tools: liquidity, global payments, decentralized finance, and programmable value. On the other, they harbor hidden fragilities that — under stress — could trigger financial instability with far-reaching consequences.
The promise of stablecoins should not blind us to their dangers. The history of failures — from algorithmic collapses like TerraUSD to 2025’s liquidity‑driven de‑pegging events — shows that no stablecoin is immune to crisis.
At present, the risk is real and quantifiable. As stablecoins grow in scale and interconnection with traditional finance, their instability is no longer a niche concern — it is a systemic one.
But there is hope. Through transparency, better reserve management, regulation, and perhaps hybrid monetary designs, stablecoins can evolve from fragile experiments into stable, trustworthy components of a modern financial system.
For investors, regulators, and institutions alike, the message is clear: treat stablecoins not as “digital cash,” but as complex financial instruments — and manage them accordingly.