What are the roles of regulated and unregulated Stablecoins now?

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It is universally agreed that lack of fiat currency on blockchains is an obstacle to the growth of digital assets. In cryptocurrencies, market forces solved this problem with the invention of the Stablecoin. Though trivial in value (US$172 billion total market capitalisation in September 2024) by comparison with the value of fiat currencies outstanding (US$215 trillion), Stablecoins have in the year to mid-September 2024 been used by about 180 million active addresses in US$4.6 trillion of underlying transactions, according to the Visa Onchain Analytics Dashboard. 

US$4.6 trillion is worth nearly two fifths of the US$12.3 trillion volume Visa hosted in its most recent financial year, and more than half the US$9 trillion managed by Mastercard. In other words, Stablecoins have built, in just ten years, a business that is attracting volumes equivalent to a third to a half of the long-established global card payments networks. 

True, their value is concentrated in the top ten Stablecoins, and especially the top two, and much of their use is confined to the cryptocurrency markets, where they are used to access the markets and store value between trades. Stablecoins have attracted business from consumers and entrepreneurs in less developed markets that need alternatives to banks and volatile domestic currencies too. In the last two years, according to Chainalysis, Stablecoins have also overtaken Bitcoin as the currency of choice for criminals. 

Combatting crime is obviously important to regulators. But it is the threat Stablecoins pose to the stability of the conventional financial and payments systems - something central banks first realised during the ultimately abortive Libra/ Diem Stablecoin episode of 2019-20 – that prompted official engagement with Stablecoins. From 2019, a global regulatory consensus on Stablecoins formed remarkably quickly, via the G20 and the G7.1 

It has been implemented via recommendations of the Financial Stability Board (which ensure Stablecoin issuers are regulated like banks), the Basel Committee on Banking Supervision (which obliges banks from January 2025 to allocate capital to Stablecoins) and the Principles for Financial Market Infrastructures (which tie Stablecoin issuers to the same constraints as payments market infrastructures).2 A PwC survey of 43 jurisdictions efound Stablecoin regulation was in place in 25 of them, under way in another ten and not happening at all in only eight. 

The measures taken by regulators are designed to favour banks over non-banks as issuers of Stablecoins, but traditional banks are noticeable by their absence. Only ANZ Bank (which used an A$ Stablecoin to make a payment in March 2022 on an Ethereum blockchain), National Australia Bank (which also tested an A$ Stablecoin on an Ethereum public blockchain in March 2023) and Société Générale (which has issued a EURCoinVertible on Bitstamp) have shown much interest, though other banks are reported to be looking at Stablecoins. 

The lack of bank activity reflects several concerns. One is whether Stablecoins will compete with banks to hold the High- Quality Liquid Assets (HQLAs) regulators would like them to hold. Indeed, the Bank for International Settlements (BIS) is running a project (Project Pyxtrial) designed to improve central bank monitoring of the assets backing Stablecoins. 

Another concern is the risk that Stablecoins issued by different banks will trade at different prices, undermining the singleness of money. But even if most regulated banks continue to spurn the Stablecoin opportunity, regulators will doubtless count their measures a success if non-bank Stablecoin issuers are persuaded to seek a banking licence. 

1. See Future of Finance, Stablecoins: Where They Came From, Where They Are Now, Where They Are Going Next, June 2023, at https://futureoffinance.biz/ stablecoins-where-they-came-from-where-they-are-now-where-they-are-going-next-2/ 

2. Committee on Payment and Settlement Systems and the Technical Committee of the International Organisation of Securities Commissions, Principles for financial market infrastructures, April 2012. 

Benefits

• The success of a major Stablecoin is explained not by its usefulness in bypassing Anti Money Laundering (AML), Countering the Financing of Terrorism (CFT) and sanctions checks, or in being beyond regulation – which, as a major holder of government debt, it cannot be - but by its distribution networks. 

• In 2022 the United Nations High Commissioner for Refugees (UNHCR) ran a pilot test in which the USDC Stablecoin was used as an efficient way for Ukrainians working abroad to send fiat currency remittance payments successfully and at low cost to displaced relatives in Ukraine. 

• Stablecoins have encouraged competition in payments, most obviously by stimulating central bank digital currencies (CBDCs) as a regulatory response to the fact that Stablecoins threatened the existing two-tiered model of central bank money and commercial bank money. 

• Stablecoins are safer than high-volume but thinly collateralised mobile payments apps and even banks, being akin to “narrow banks” that invest in high quality liquid assets only and do not engage in risky maturity transforming activities such as lending and are likely to be more private than CBDCs. 

• Criticism that Stablecoins yield no income are misplaced because lack of yield is an important aspect of their security relative to tokenised deposits and money market funds, and because Stablecoin holders that wish to generate a yield can reinvest their holdings with a variety of income-producing apps anyway. 

Issues

• Stablecoins developed initially as on and off ramps and a store of value on-chain for traders in the cryptocurrency markets, and that need will likely disappear over time as it becomes possible for traders to enter and exit cryptocurrencies directly from fiat currencies. 

• A second initial function of Stablecoins was to provide payment services and a store of value to consumers that are unbanked or trapped by currency volatility, but this edge will be eroded as tokenised deposits and money market funds offer the same benefits with the additional advantage of generating an income. 

• It is not obvious how bank-issued Stablecoins reserved with central bank money can be profitable, though there may be opportunities in emerging markets where the alternatives to Stablecoins are poor, and a consumer-friendly wallet plus links to conventional payments systems could sell well. 

Regulation

• To avoid regulatory arbitrage, Stablecoin regulation is settled at the global level and, although it is being implemented with local nuances at the national level, all regulators favour banks as issuers, to encourage non-bank issuers of Stablecoins to seek to obtain banking licences, though they will be free to obtain them in less rigorous jurisdictions. 

• The parallels between Stablecoins and money market funds are close, with regulators concerned to protect investors from “runs” that undermine their par value, because neither instrument is backed by deposit insurance, exposing taxpayers to the risk of making good the losses of holders. 

• The attitude of Federal regulators in the United States to granting banking licences to Stablecoin issuers has become less accommodating but State regulators that are trying to attract Stablecoin business provide a countervailing force that will eventually alter policy at the Federal level. 

• The regulatory preference for Stablecoins to invest in central bank deposits only, as in their exclusion from the Federal Reserve reverse repo programme and the Bank of England proposal that issuers hold £1 in central bank deposits for every £1 of coins issued once they become “systemic,” is a barrier to entry. 

• Regulators are constraining Stablecoins because they are concerned about several issues, including the risks that the Stablecoins might out-compete the existing banking and payments systems and that there are not enough HQLAs to back Stablecoins as well as commercial bank liquidity ratios.