The launch of a space rocket grabs everyone’s attention, yet few are aware of the steadily growing number of satellites that silently circle the globe, enabling much of life as we know it. Similarly, crypto currencies may dominate the financial news today, but it is stablecoins that are subtly on track to transform banking.
Stablecoins are simply the digital version of the cash in your wallet. Like cash, they don’t earn interest, and they are pegged one-to-one to a currency, like a dollar. They have major advantages – efficiency, accessibility, transparency, and security – and can be exchanged back into your currency.
As with the satellites overhead, most people would be surprised to learn how indispensable stablecoins have become:
- The total value of stablecoins linked to the dollar has grown to $221 billion, with the average supply of stablecoins overall growing 28% per year.
- Tether, the world’s largest stablecoin issuer, reported a net profit of $13 billion last year with just 80 employees.
- On their own, stablecoins would already be a top 20 U.S. bank.
Opportunity or threat?
Stablecoins could flatten the world of finance and allow banks to offer clients a vastly improved money transfer service that is both quicker and cheaper. This is already happening despite the lack of bank involvement as stablecoins account for a greater share of international money transfers than Visa and Mastercard combined. The use of stablecoins for payments could soon pick up, with Worldpay announcing that it will let customers in Europe and the U.S. make stablecoin payments and Stripe acquiring stablecoin payment platform Bridge.
Another opportunity, pending regulation, is the use of stablecoins as an interest-free deposit source. Which bank would not be interested in a deposit product that incurs no cost? Brian Moynihan, CEO of Bank of America, said earlier this year: “If they make it (stablecoins) legal, we will go into that business.”
Regulators have emphasized their intention to give the industry the clarity it needs, with Congress proposing the GENIUS Act to establish a regulatory framework for stablecoins.
On the flipside, stablecoins could pose a substantial risk to banks and the banking system as a whole, particularly if they are allowed to pay interest (which remains unsettled with regulators). Incumbents that are slow to add stablecoins could struggle to retain customers seeking to benefit from what could be a high rate checking account.
More broadly, if stablecoins continue to grow without oversight they could drain critical reserves – sucking deposits out of the banking system and, ultimately, leading to a slowdown in bank lending. This liquidity drain isn’t lost on US regulators, who have rejected narrow banking charters that focus strictly on payments to the exclusion of lending.
The network is the key
Most banks lack the readiness to launch a stablecoin today.
The biggest hurdle will be solving distribution – creating a network effect that results in a coin being widely adopted. For example, Circle pays Coinbase $900M per year to distribute USDC broadly and to achieve this network effect.
Banks will need efficient API structures to transfer stablecoins and switch back and forth between fiat and digital currencies. These on- and off-ramps are crucial to integrating with multiple third-parties.
Metcalfe’s Law says the value of any network grows proportionally to the square of the number of users. This was best illustrated when Edison launched the telephone. Many failed to grasp its potential, asking “Who am I going to call – nobody I know has one!” So a stablecoin that fails to develop a network could end up being a road to nowhere.
Plus, if every bank issues their own, we’re back in the wildcat banking system from the 1800s. And who wins in that game? The player that creates the automated market maker that facilitates the exchange of wildcats. There may, instead, be safety in numbers by working together.
Fit for purpose
There is broad recognition that traditional financial rails, as well as the older crypto currency tools, cannot fully meet the demands of modern finance.
Many believe stablecoins offer banks and their clients the prospect of significantly better performance. We could be on the precipice of a new era in banking, akin to when everyone was using BlackBerrys but the iPhone was rapidly coming around the corner.
But creating an effective set of products and services won’t be easy. Striking the right balance of KYC and risk management standards will be critical for building trust and navigating the many, often diverse, regulatory regimes that affect international banks.
Lower standards may win the network game initially, with things being sorted out later. The big risk for banks is that they are so thoughtful about KYC that they develop a stablecoin that no one wants to use.
However, while these considerations and hurdles may slow some banks’ entry into this market, it’s unlikely to prevent it. This may not be the Wild West, but it could prove to be a goldrush.
With many in the industry enamored with crypto, bitcoin and the other shiny objects on the hill, stablecoins could actually change the game in banking. Are you ready for it?
Read the full article here
