Stablecoins and a Non-Independent Fed Don't Mix. Central Banks Beware. — Barrons.com

By Derek Horstmeyer

About the author: Derek Horstmeyer is a professor of finance at George Mason University's Costello College of Business.

Since the Bretton Woods accords of 1944, central banks around the world have more or less shared a set of priorities — controlling inflation and unemployment — and collaborated extensively when needed, often in times of economic crises.

This era of collegiality and cooperation among central banks may soon be ending. The simultaneous rise of stablecoins and the weakening of Federal Reserve independence could distort the power the U.S. central bank and the dollar wield over the rest of the world.

In the coming years, the reach of the dollar will expand globally, via the widespread circulation of dollar-pegged stablecoins. A nonindependent Fed might weaponize this great dollar saturation by withholding liquidity to other central banks, in an attempt to curry favor or achieve short-term gain.

More than 50 countries have rolled out a central bank digital currency or a pilot program for one in recent years, as a way to protect their monetary sovereignty in the digital era. The U.S., however, has taken a different approach. President Donald Trump has banned a CBDC in the U.S. With bipartisan support in Congress, he also signed into law the Genius Act, giving a strong legal backbone and support to private-sector digital coins, called stablecoins.

This decision isn't without merit. As other countries, such as China and Japan, increasingly unload their U.S. government bonds and the U.S. continues to issue more Treasuries to fund its ever-growing debt, it has become imperative for the Treasury Department to have an outlet for its borrowing. I have written here before that stablecoins create just such an offramp: They allow private sector entities to create a Treasury-backed digital dollar that can be issued and traded around the world.

This will expand the reach of the dollar to areas around the globe where converting to dollars has historically been difficult.

A border-traversing digital dollar (that is, a stablecoin) gives foreign nationals the ability to turn their back on their own nation's currency and run to the dollar with greater ease. This doesn't become a real problem without the next piece of the puzzle: a nonindependent Fed that realizes it can weaponize this situation.

In much the same way as tariffs are currently being used to achieve political objectives in trade, it isn't hard to see the next natural step being the use of the Fed to achieve similar objectives on a currency front.

If we are headed toward a Fed that is less independent and less focused on the long-term strength of the dollar, it is then not hard to also envision it being used to achieve short term objectives at the expense of other nations around the world. The Fed and the liquidity it offers to the world will become a bargaining chip when others need it most.

This may unfold during a financial crisis. The Fed typically opens swap lines to support other countries in their time of financial distress. But a weaponized Fed may withhold swap lines to distressed economies, knowing that stablecoins — and by proxy the dollar — benefit in a time of crisis elsewhere.

Central banks around the world will see this coming. They will recognize that a Fed that is losing its independence and the expansion of the stablecoin market as a threat to their sovereign currency and their new CBDCs. This, in turn, will disturb the status quo between central banks and the Fed. It could lead to an era in which central banks aren't working in cooperation, but one in which they are directly competing to preserve their own currencies.

When paired with stablecoins, a nonindependent Fed willing to take advantage of its privilege may usher in an era where central banks view the Fed as a foe. That will surely hurt U.S. exceptionalism, and, ultimately, the dollar dominance the U.S. enjoys.

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