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Stablecoins vs. Tokenized Deposits: The Narrow Banking Debate Revisited

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Abstract

We study how the type of money used in blockchain-based trade affects interest rates, investment, and welfare. Stablecoins in our model are backed by safe assets, while banks issue deposits (both traditional and tokenized) to fund a portfolio of safe and risky assets. Deposit insurance creates a risk-shifting incentive for banks, and regulation increases banks’ costs. If regulatory costs are large and risk-shifting is limited, we show that allowing only tokenized deposits to be used in crypto trade raises welfare by expanding bank credit. If regulation is lighter and the risk-shifting incentive is strong, in contrast, allowing only stablecoins is desirable despite crowding out credit. In between these cases, allowing stablecoins and tokenized deposits to compete is optimal. The tradeoffs between these policies are reminiscent of both historical and recent debates over the desirability of narrow banking.

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  • Xuesong Huang & Todd Keister, 2026. "Stablecoins vs. Tokenized Deposits: The Narrow Banking Debate Revisited," Staff Reports 1179, Federal Reserve Bank of New York.
    • Handle: RePEc:fip:fednsr:102411
    DOI: 10.59576/sr.1179
    Note: Revised February 2026.
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    JEL classification:

    • E42 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Monetary Sytsems; Standards; Regimes; Government and the Monetary System
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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