According to a high-ranking official at the International Monetary Fund (IMF), the creation of domestic-currency stablecoins could have the unintended consequence of boosting the popularity of dollar-backed digital tokens.

Dan Katz, the First Deputy Managing Director of the IMF, explained that users might ultimately gravitate towards digital dollars due to their superior liquidity, established network effects, and widespread acceptance across international borders.

Speaking at the University of Cape Town on a Friday, Katz elaborated on how this mechanism could unfold. He stated that once local and dollar-denominated stablecoins operate on shared blockchain infrastructure, users gain the ability to seamlessly convert between them. This can be accomplished through decentralized exchanges, liquidity pools, or direct peer-to-peer swaps.

This potential shift could redirect foreign exchange activities away from traditional institutions like banks and currency dealers, Katz noted. Such a development would diminish the friction that currently provides authorities with the tools needed to monitor and control capital flows.

“In this way, local-currency stablecoins might even accelerate the adoption of FX stablecoins,” he said.

As an example, Katz highlighted the situation in South Africa. In that market, dollar-backed stablecoins have achieved only limited traction, while rand-linked tokens have seen even lower demand from users.

Although he cautioned that it is too early to make definitive conclusions, Katz suggested that the preference of many users may lie with dollar tokens. He attributed this to their liquidity advantages, the power of their network effects, and their usability across various platforms and countries.

The risks associated with this trend, Katz said, are not uniform and differ from one country to another. In economies that are already highly dollarized, stablecoins might simply substitute existing holdings of U.S. dollars. However, in nations with restricted access to dollars and weaker economic frameworks, these digital tokens could significantly heighten the demand for foreign currency.

In response to these potential challenges, Katz urged regulatory authorities to proactively bring key transaction points—including onramps, offramps, and on-chain exchange mechanisms—under the purview of established regulatory frameworks.