A Blessing in Disguise? DeFi Exploits and Short-Horizon Responses in U.S. Commercial Paper Spreads

TL;DR

This paper investigates how DeFi exploits influence traditional short-term funding markets, revealing a short-term flight-to-quality pattern where commercial paper spreads narrow after exploits, suggesting capital reallocation.

Contribution

It uncovers a novel short-horizon response pattern in traditional markets following DeFi exploits, highlighting a liquidity-recycling mechanism inferred from pricing and holdings data.

Findings

DeFi exploits lead to narrowing of 3-month AA-rated commercial paper spreads.

Capital appears to reallocate from DeFi to traditional cash markets after exploits.

The pattern is specific to exploit-driven shocks and short event windows.

Abstract

Do vulnerabilities in Decentralized Finance (DeFi) destabilize traditional short-term funding markets? While the prevailing ``Contagion Hypothesis'' posits that stablecoin reserve liquidations may transmit distress to traditional markets through fire-sale pressure, we document a short-horizon ``Flight-to-Quality'' pattern in the opposite direction. In the wake of major DeFi exploits, spreads on 3-month AA-rated commercial paper (CP) tend to narrow rather than widen. We interpret this pattern as consistent with a ``liquidity-recycling'' channel: capital leaving DeFi may be re-intermediated into traditional cash-management markets, with regulatory segmentation under SEC Rule 2a-7 making prime-eligible paper a plausible marginal destination. Because we do not directly observe daily fund-level routing into prime money market funds, this mechanism is inferred from pricing patterns and monthly holdings evidence rather than directly identified. The result is specific to exploit-driven operational shocks, this U.S. CP spread, and short event windows.