There exists a gap in today’s market, as a result of the inability to satisfy the demand for low-cost, high-speed and frictionless cross-border money transfers. This gap is being filled by stablecoins, which pose an existential threat to the current financial markets, and to central banks.
At the heart of a stablecoin’s value proposition is an unparalleled ease of use and the ability to democratise access to financial ecosystems. Stablecoins promise to make transacting value as easy as using social media, integrating into our digital lives in ways that fiat currency, issued by central banks, cannot hope to.
They also have the potential to reach a vast percentage of the world’s population, including many regions in which people don’t have access to financial services. The creation of a stablecoin by the Facebook-led Libra consortium, for example, will allow anyone with Facebook, Instagram or WhatsApp to transact.
The creation and adoption of new forms of money, like stablecoins, will greatly depend on two questions:
- Can it be used as a store of value?
- Can it be used as a means of payment?
Can stablecoins be used as a store of value?
Stablecoins are cryptocurrencies that maintain a value against a target price, backed 1:1 by a stable asset such as USD or GBP. They’re designed for any application that requires a low threshold of volatility in order to be viable on a blockchain.
Volatility is the primary barrier to the widespread adoption of cryptocurrencies as a store of value. Cryptocurrencies are not currently a proper means of exchange, nor a unit of account, because they are subject to huge fluctuations in price. No sane business would accept a digital currency as a method of payment, when the value of said currency can drop drastically the very next day.
The issue of volatility also makes it harder to accept a cryptocurrency as a “unit,” since it’s impossible to reach a consensus on how much it’s worth, or will be in future. In other words, volatility transforms cryptocurrencies into speculative cryptoassets, worthwhile only for investors.
With decreased volatility, cryptocurrrencies can reach a much broader audience. Anyone that hopes to benefit from the advantages of blockchain technology, without losing out on guarantees provided by fiat currencies, will find a solution in stablecoins.
Can stablecoins be used as a means of payment?
Stablecoins solve some of the most fundamental problems with today’s payment systems—cost, reach, speed and openness—and this combination of qualities means they’re extremely attractive as a means of payment. The transactions are recorded in an immutable ledger (which can be designed with one party acting as an overseer), with many actors keeping copies that are updated simultaneously as additions are made.
Stablecoins allow money to be sent anywhere in the world, at minimal cost and almost instantly. The open architecture of stablecoins also means they’re easy to embed in digital applications, making their pool of potential users far greater than that of traditional financial services. In other words, stablecoins solve many issues that closed and proprietary legacy banking systems cannot.
That said, it will be essential to ensure that the collateral being used for the creation of stablecoins—whether that’s USD, GBP or RMB—is actually held by the coin provider. It remains unclear whether many of the stablecoins issued to date are actually backed by stable assets and fiat currencies as promised.
For example, Tether (USDT) is a stablecoin purportedly backed by USD, with a market cap of over $4,000,000,000. The stablecoin is a key source of liquidity for exchanges and traders around the world. However, Tether has been mired in controversy, not least because it was discovered that only 74 per cent of USDT is backed by cash.
The Libra Association has not yet confirmed how its stablecoin will be collateralised—an issue that deserves close scrutiny. In order for stablecoins like Libra to be used as a means of payment, users must be certain they’re backed by a stable asset 1:1
Why should central banks consider issuing stablecoins?
Many companies are already looking to capitalise on the opportunity represented by stablecoins. Facebook, Walmart, JPMorgan, Coinbase and Binance have all announced stablecoin projects, to name just a few.
However, beyond whispers from China, central banks have not yet issued their own stablecoin, despite the International Monetary Fund (IMF) recently expressing the view that “stablecoins are a threat to banking and cash.”
Despite the questions that need resolving before a central bank issues its own digital currency (e.g. who will take responsibility for KYC and AML requirements), there are many factors that should motivate central banks to take action.
For example, the use of stablecoins is set to reduce the influence that central banks currently have in setting monetary policy. There’s also a distinct chance that banks will forfeit their place as intermediaries if they lose deposits to stablecoin providers, which could amount to significant losses.
Ultimately, there’s no need to throw the baby out with the bathwater. That is to say, it’s possible to utilise what’s good about the existing banking system to create a central bank digital currency, with all the benefits of a privately-issued stablecoin. As per the IMF report, central banks are capable of regulating and institutionalising stablecoins, thereby addressing some of the central concerns and controversies holding them back at present.
The intensity of calls for the implementation of stablecoins is ever-increasing, as a greater number of individuals and organisations come to understand the benefits of a non-volatile digital currency. Central banks are faced with the possibility of losing significant business and political sway to stablecoin providers as a result.
The only risk is for central banks to do nothing. After all, progress waits for no one.
Monica Singer, South Africa Lead, ConsenSys