Stablecoins and emerging market currencies: a time-varying analysis

Ayuba Napari, Asad Ul Islam Khan, Muhittin Kaplan and Hasan Vergil

Digital Transformation and Society, 2025, vol. 4, issue 3, 251-276

Abstract: PurposeOwing to the growing evidence of crypto asset connectedness and correlation with traditional financial assets, this study sought to determine if there is a time-varying correlation and/or connectedness between the stablecoin market and the currencies of emerging market and developing economies (EMDEs) with significant cryptocurrency penetration.Design/methodology/approachThis study uses a probabilistic principal component analysis (PPCA) to create stablecoin and EMDEs currency returns and volatility indices for EMDEs with significant cryptocurrency penetration. We then employ a time-varying correlation and time-varying parameter vector autoregressive (TVP-VAR) connectedness measures to document the time-dependent correlation and connectedness between the EMDE currencies and the stablecoin market.FindingsThe result points to a spillover of return shocks from the EMDE currencies to the stablecoin market prior to and after the COVID-19 pandemic. This is indicative of a flight-to-safety role of stablecoins for EMDE currencies. This calls for increased attention to the stablecoin market by money market investors and monetary authorities.Originality/valueThe paper contributes to the growing cryptocurrency and finance literature by empirically examining the level of connectedness between stablecoins and emerging market currencies. Knowing the relationship (correlation) and shock spillover (connectedness) between the stablecoins and the EMDE currencies will be valuable to currency investors’ diversification and hedging strategies, and to macroeconomic policymakers in designing and implementing regulation.

Keywords: Stablecoins; Emerging markets; Exchange rates; Spillover; Volatility (search for similar items in EconPapers)
Date: 2025
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Persistent link: https://EconPapers.repec.org/RePEc:eme:dtspps:dts-09-2024-0167

DOI: 10.1108/DTS-09-2024-0167

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