What are stablecoins?

Stablecoins are a form of cryptocurrency. Unlike Bitcoin and other speculative coins, however, stablecoins are nominally pegged to the underlying assets in order to limit price fluctuations. This stability has made it the currency of choice for purchasing other cryptocurrencies.

Stablecoins first appeared around 2014, but their use has grown rapidly since the start of this year. As of January, there were approximately $ 30 billion in coins in circulation. In October, that figure stood at over $ 130 billion.

There are dozens of coin types, but a handful make up most of the total value: $ 70 billion was issued by market leader Tether in October; Another $ 32 billion was in USD Coin, which is jointly managed by payment services company Circle and cryptocurrency exchange Coinbase.

How are they used?

Clients buy stablecoins from exchanges, with some of that money theoretically being used to buy reserves to provide asset support. The Stablecoins can then be used to buy other cryptocurrencies. Compared to wire transfers of dollars, stablecoins can settle transactions much faster. This makes them suitable both for acquiring volatile cryptocurrencies and for exiting when the price drops.

Stablecoins have also found uses in decentralized finance, where they can generate income for clients in a variety of ways, including being loaned to other users or providing liquidity for trading. In the offline world, there are also reports that stablecoins are being used for cross-border transfers in places where access to dollars is limited.

What assets are they attached to?

The vast majority of stable coins are indexed to fiat currencies. Tether, USD Coin and the third issuer, Binance USD, all say they are pegged to the US dollar. Others are pegged to the euro and the yen, although these are only a very small part of the category. A few stablecoins are linked to gold reserves, including offers from Tether and Paxos, which operates Binance USD.

A smaller, though still notable proportion of these currencies are known as algorithmic stablecoins. They are linked to other cryptocurrencies, including in some cases stablecoins. Their algorithms are intended to create and destroy coins in order to avoid breaking the ankle. The largest of these, Dai, has around $ 6 billion in coins in circulation.

What are they supported by?

While issuers may say that fiat coins are pegged to the dollar, their reserves may be more exotic – the result of more lax regulation than the rules of commercial banks or money market funds. Without an obligation to clarify the assets they hold, different stablecoin operators have offered varying amounts of details.

In Tether’s case, about half of its $ 70 billion is in commercial paper, a form of short-term debt. The issuer and even the country of origin of this paper is unknown, although the wallet is believed to include at least a few international papers. The size of the company’s declared reserves has also raised eyebrows among regulators and others, who are concerned it could affect financial stability. Fitch, the rating agency, has warned that if stablecoin commercial paper holdings collapse, it could cause contagion in credit markets.

Circle and Coinbase have committed to ensuring that USD Coin will be fully backed by cash and treasury bills (government bonds) by the end of September. It was fully backed by dollars until March 2020, although Coinbase continued to claim it was until August. The September certificate has not yet been published.

What are the regulators saying?

Tether has long been in the sights of regulators. In February, he paid $ 18.5 million to settle with New York attorney general Letitia Jones, who accused the company and sister exchange Bitfinex of covering up “massive” losses. The investigation found that, for a while, the company did not have access to any bank accounts in the world, despite its claims that it held a dollar for every Tether. Neither company admitted to having committed a wrongdoing.

Regulators are now increasingly convinced that the entire sector must be brought under control because of the risks associated with consumer protection, the effectiveness of monetary policy and the stability of the financial system.

In the United States, the President’s Treasury-led Financial Markets Task Force is working on a soon-to-be-released report that will make recommendations on how to regulate stablecoins.

In the UK, the Bank of England has warned that stablecoins face “tough questions.” The Financial Action Task Force noted last year that asset stabilization mechanisms could present avenues for market manipulation.

A report released by the Payments and Market Infrastructures Committee – part of the Bank for International Settlements – and the International Organization of Securities Commissions in October proposed to align stable coins with existing standards for systems. payment and clearing houses.