Hello and welcome to the FT Cryptofinance newsletter.
The nightmare scenario for global monetary authorities is not that they will eventually be replaced by crypto but that one day they will have to bail the market out.
The closest we have come is when Silicon Valley Bank collapsed last year. Circle, the stablecoin operator and SVB’s largest depositor, had parked $3.3bn of its reserves uninsured at the stricken lender. In the panic, Circle’s “safe” stablecoin USDC lost its peg to the dollar and it was only when the Federal Reserve guaranteed SVB’s deposits that the crisis was averted.
As more commercial companies launch stablecoins and US politicians consider legislation that could boost use of these tokens, the time may be approaching when central banks have to lay out their terms of engagement with crypto.
Stablecoins, issued by private firms, are the closest equivalent to digital cash and most track the value of the US dollar one-for-one. Moreover they are supposed to keep the equivalent amount in dollars in reserve. As the crypto market recovers from its 2022 nadir, these coins are grabbing serious attention.
The amount of stablecoins in circulation is approaching an all-time high of about $150bn. In recent months firms such as PayPal and Ripple have announced plans and more are coming. Last month US senators Cynthia Lummis and Kirsten Gillibrand proposed legislation to create a regulatory framework for these tokens.
But it is the return of payments giant Stripe, the $65bn Silicon Valley giant, to crypto payments after a six-year absence that really made people sit up.
Jonathan Bixby, a crypto entrepreneur, likened the Stripe move to the arrival of US spot bitcoin ETFs in January.
“The bitcoin ETF was at its core an onboarding exercise of traditional capital flows into ‘cryptoland’,” he said. “The Stripe announcement in some ways is the same principle in reverse. Instead of fiat coming into cryptoland, it’s crypto being used as a currency in the real world.”
Collectively it has bolstered the narrative that stablecoins — at last — provide an answer to the killer question: “what is crypto for?” The argument goes that they can be used for consumer and business-to-business payments, meeting future payment needs and even increasing financial inclusion.
How much is used in real world transactions is another matter. Eye-catching analysis by Visa suggests there has been more than $2.5tn of stablecoin transaction volume in the past 30 days and that USDC far outstripped Tether, long assumed to be the market leader.
Yet when Visa stripped out trades linked to pre-programmed trading algorithms, the total value of transactions using stablecoins dropped around 85-90 per cent a day. That vast discrepancy may be because USDC is widely used in decentralised finance, which relies more on automated trading to provide market liquidity.
But what if Stripe and others are right, and stablecoins become sufficiently large and representative of weighty transactions? That would make them guardians of trillions of dollars, and significant players in the “shadow banking” system, a catch-all term for financial institutions that lend, hold or borrow money but aren’t regulated like banks. That includes pension funds, asset managers, clearing houses and insurance companies.
One crucial issue is what becomes of the dollar assets that are held in reserve, because locking up cash or Treasuries could potentially act as a huge drain on liquidity in the financial system on which stablecoins rely.
At present, most stablecoin operators either put the cash into short-term US Treasuries, where they earn a healthy yield, leave them as cash deposits at a bank or do a reverse repo in the market. The latter lends out excess cash and takes assets such as Treasuries as collateral for a short period.
It is strong protection against the risk of counterparty failure because the value of the government bonds you hold is likely to rise if your counterparty fails. Clearing houses do this all the time with excess deposits from derivatives margin payments.
Dealing with vast sums would change the picture. Stablecoin operators already exhaust the insurance limits on bank deposits. One answer may be for authorities to mandate that stablecoin operators reverse repo out their cash.
However, as independent financial commentator Frances Coppola pointed out, locking up assets as cash or reverse repo trades comes with drawbacks for operators. “They can keep their assets very short term . . . their problem is going to be that they’re not going to make any money,” she said.
If they choose to earn a higher yield by buying Treasuries, then stablecoin operators risk creating a balance sheet in which the average duration of liabilities is shorter than the average duration of assets.
Furthermore, the Fed may fear that stablecoins hoard too many Treasuries and seek to restrict their size. Any such worries may be overblown, however, especially when one considers the projections for US debt issuance in coming years.
Some banking regulators privately see the issue of stablecoin size as some way off, and believe these tokens would need to be tied to trillions of dollars before starting to get worried.
But markets are most shaken by issues that are overlooked, those that are considered unimportant in the early days but grow as business activity expands. Then suddenly such an issue is at the centre of a crisis. Nobody notices at first because they’re looking at the money coming in the front door, not what’s happening out the back.
What’s your take on where stablecoins are going? Email me at philip.stafford@ft.com
Join me and fellow colleagues at FT’s flagship Crypto and Digital Assets Summit on 8-9 May in London. Hear from some of the leading players in the industry including Julia Hoggett, Chief Executive Officer, London Stock Exchange, Bim Afolami, Economic Secretary to the Treasury and City Minister, UK Government, Michael Sonnenshein, CEO, Grayscale Investments, and many more. Secure your seat now at crypto.live.ft.com
Weekly highlights
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Roger Ver, dubbed ‘Bitcoin Jesus’ because he was such an early crypto evangelist, was charged by the US Department of Justice over mail fraud, tax evasion and filing false tax returns. He was arrested in Spain last weekend.
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Hong Kong followed the US by approving spot bitcoin exchange traded funds.
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The new US spot bitcoin ETFs are discovering their cryptocurrency vaults are gathering dust and vomiting frogs.
Soundbite of the week: Moving on
Changpeng Zhao, or “CZ”, the former chief executive of Binance, was sentenced on Tuesday for failures to comply with money laundering rules.
The judge was not swayed by the Department of Justice’s request for three years and set a custodial sentence of just four months. Zhao has said little since pleading guilty in November but told the court that “I deeply regret my failure, and I am sorry,” AP reported. Later on the X social media site he said:
“I will do my time, conclude this phase and focus on the next chapter of my life (education).”
Data mining: The trend is not your friend
The laziest way to explain why bitcoin went up as much as 72 per cent this year, to a record high in March, is because the inflows to the new US spot bitcoin ETFs generated more buying. The day-to-day moves of bitcoin are more complicated than that. Still, thrive on the narrative, wither on it too. Wednesday was the worst-ever day for US spot BTC ETFs as bitcoin flirted with $56,000. All of them — including BlackRock — registered outflows for the first time, and the total collective outflow was $571mn, according to CoinShares. A fourth week of outflows beckons as the early momentum wanes.
Cryptofinance is edited by Laurence Fletcher. To view previous editions of the newsletter click here.
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