Saturday 11 March 2023 began a kind of journey to hell for the crypto USDC (USD Coin).
Actually USDC is not a cryptocurrency in the strict sense, but a crypto token that represents the US dollar on some blockchain.
In fact, the US dollar itself is not exchangeable on the blockchain, but it is possible to create tokens that have the exact same value as the dollar and are exchangeable on the blockchain. These special cryptocurrencies are called stablecoins.
USD Coin is a stablecoin whose USDC tokens run specifically on the Ethereum network.
To ensure that they always maintain the value of $1, their issuer (Circle) makes them redeemable at any time at par with the dollar. So anyone with USDCs should be able to return their tokens by receiving an equal amount of US dollars (USD) in return.
The crypto USD Coin (USDT) journey to hell
USDC’s ‘journey to hell’ began on Saturday, 11 March, when the stablecoin’s own issuer, Circle, claimed to have $3.3 billion stuck on Silicon Valley Bank.
1/ Following the confirmation at the end of today that the wires initiated on Thursday to remove balances were not yet processed, $3.3 billion of the ~$40 billion of USDC reserves remain at SVB.
— Circle (@circle) March 11, 2023
Given that the total market capitalisation of USD Coin was about $43.5 billion, it meant that more than 7.5 per cent of USDC’s reserves were no longer available.
In fact, the day before, on Friday 10 March, Silicon Valley Bank (SVB) was closed because it was bankrupt.
With the bank’s closure, all those who had funds on deposit with it were in danger of losing all or most of them. So on Saturday it was believed that Circle actually had a 3.3 billion hole in USDC’s reserves, so much so that the stablecoin lost its value peg to the dollar.
The problem at that point was that not all USDC holders would be able to return their tokens to receive an equal value of USD in return. Because with 45.3 billion USDCs in circulation Circle only had more than 40.2 billion USDs on hand.
Moreover, there was another problem.
As reported in a post on its official blog, banks were closed over the weekend, so Circle could not process sending USD to those who wanted to return USDC.
So the returns were at a standstill until the banks reopened on Monday.
Return to normal
Even at one point yesterday, Circle made it known that it was ready to meet all USDC ransom demands, at the cost of having to put up the missing USD3.3 billion out of its own pocket.
At that point, not only did the collapse in the value of USD Coin stop, but it slowly began to rise again, until it had almost fully recovered its peg with the dollar.
In fact, at some point news broke that the US central bank, the Federal Reserve (Fed), had decided to step in to cover the entire shortfall that was preventing SVB from returning all the money to its depositors.
In this way, even if Circle should fail to withdraw all the 3.3 billion it had on deposit with SVB, it will still be able to withdraw it thanks to the Fed.
Using other words, the Fed has solved the problem of the hole in USDC’s hedge, so it can once again become 100% redeemable in USD at par.
USD Coin (USDC) crypto price fluctuations
Taking the exchange rate on Coinbase of USDC into USDT as a reference, the dynamics are very clear.
It must be said that Coinbase is a partner of Circle, and is in fact the exchange through which USDC tokens are placed on the market. So the exchange rate of USDC on Coinbase is in fact the primary exchange rate.
Problems started to occur as early as the evening of Friday 10, when the first rumours began to circulate that Circle might somehow be involved in SVB’s bankruptcy.
However, at that time the market value of USDC was still very close to $1, only slightly lower.
Overnight, however, it began to lose value quickly, so that within only eight hours its value had plummeted to $0.84.
When it reached that figure, however, after Circle’s official announcement that it had a $3.3 billion hole that was no longer redeemable by SVB, there was a reversal, so that within two hours USDC’s market value was back to $0.95.
That figure was still not worthy of a true stablecoin, but it hinted that the markets were expecting a possible solution to the problem.
Indeed, it seemed at least plausible that somehow Circle would manage to find the missing $3.3 billion, although for another eight hours the market value of USDC remained in pain, falling as low as $0.89.
Towards the end of the evening, however, it began a real recovery, so much so that by Sunday it had returned close to $0.97.
Once the news began to circulate that the Fed would cover all the shortfalls in SVB’s customer accounts, the market value of USD Coin returned to $0.99 overnight between Sunday and Monday, so much so that it is plausible at this time that it could regain full peg with the dollar.
In some ways similar is the case with its market capitalisation.
On Friday it was around 43.5 billion dollars, down slightly from 43.8 billion at the beginning of the week.
As soon as it started to lose its peg with the dollar, it collapsed to 36 billion within eleven hours. This is a capitalisation loss of 17%, which is in line with the -16% drop in the USDC price.
The fact is that by now the USDC token return was closed for the weekend, so USD Coin holders could not return and redeem them.
However, it has to be said that over the weekend the capitalisation then recovered to 40.8 billion, or 6% less than on Friday, against a cumulative loss in value of about 1%.
So net of the loss in value due to the price drop, USDC actually lost some market capitalisation due to the return of tokens.
Today, with the banks reopening and thus the return of USD tokens to those who decide to give back their USDC tokens, it is possible that USD Coin’s capitalisation will fall again.
The Market Situation
Another US bank, Signature Bank, also went bankrupt over the weekend, and at least one other is reported to be in trouble (First Republic Bank).
In order to avoid a contagion that could potentially implode the US banking system, the Fed has decided on an emergency intervention that does not aim to save the failed banks by paying off their debts, but only to ensure that all their customers can withdraw 100% of their sums still on deposit.
The traditional US markets are still closed, but since the reaction of the crypto markets to this decision has been very good, it is safe to assume that the traditional stock exchanges will also react well today.
So for now the problem seems to be under control, and even if the chain of bank failures is not stopped, at least customer deposits are safe, at least for now.
On the other hand, the Fed’s sharp increase in interest rates during 2022/2023 may have been the fuse that set the situation off. It is more than normal that the Fed itself took it upon itself to intervene to prevent the banks’ mismanagement from adversely affecting the assets of their unsuspecting customers.