As Stablecoins Adjust to Regulatory Scrutiny, Crypto Traders Are Embracing Stability Wherever They Find It

Blockchain, Investing, News, Opinion, Regulation | May 18, 2022 By:

As crypto market volatility and unprecedented global economic uncertainty persists, the use of stablecoins to de-risk crypto trading has soared. The market cap of three of the most popular U.S. dollar-backed cryptocurrencies, Tether (USDT), Circle USD (USDC) and Binance’s USD (BUSD), tripled from $50 billion to $150 billion in the last year alone. And a growing number of stablecoins are emerging as viable new currencies in some of the most unexpected corners of the world.  

Beyond USD, British pound and Euro, stablecoins pegged to currencies such as the Turkish Lira (TBD) are trading in sharp volumes due in part to inflationary fears. People are turning to reputable (and sometimes not-so-reputable) platforms to trade in and out of their local currency. In countries like Venezuela, Brazil and South Africa, pandemic-driven recessions are compelling people to embrace stablecoins as a means of combating crippling inflation and interest rate pressures.  

The Case for Stablecoins

Unlike Central Bank Digital Currencies (CBDCs), which are developed and distributed by central banks, stablecoins are privately issued digital assets pegged to a relatively stable currency, such as the U.S. dollar (USD) or exchange-traded commodity, as a means of offsetting volatility.  

Innovative financial instruments that can steady the dynamic crypto markets are particularly compelling for the legions of non-professional traders and investors looking for safe entrée to these markets. Indeed, stablecoins have become the on-ramping tool of choice for the crypto enthusiasts and crypto curious alike.

Most crypto exchanges welcome the use of stablecoins as a means of minimizing asset, portfolio and counterparty risks. Besides being used to facilitate trading, stablecoins have also been used by investors as a means to deploy arbitrage strategies and optimize their investment yields.

With their rising popularity, regulators and industry watchdogs are examining the extent to which stablecoins have attracted illicit activities that threaten global financial market stability.  

Movement in Washington Signals a Seachange

Following President Biden’s Executive Order in early March,the U.S. Treasury Department is partnering with other agencies to produce in the coming months a report and recommendations on stablecoins and a possible central bank digital currency (CBDC); the future of finance and payment systems; as well as the financial stability, security and illicit activity risks posed by digital assets. One area authorities are investigating is the extent to which stablecoin providers do not disclose their use of collateral and the quality of that collateral, such as high-risk real estate versus highly liquid crypto assets.

The Case for Embracing Traditional Banking Safeguards

As regulators and world leaders weigh the benefits of stablecoins, we expect new regulations to tighten industry controls and investor safeguards. Trading platforms and wallet custody service providers will undoubtedly be subject to new federal oversight and risk-management standards.  This may include a potential requirement for such platforms to hold deposit insurance, similar to the Federal Deposit Insurance Corporation (FDIC).

We also foresee changes to rules governing commercial stablecoin issuers, such as Circle and Tether. Bellwethers for the industry, these providers may be required, for the first time, to hold bank charters subject to new disclosure and reporting requirements.

In the crypto markets, the pace of change is exceptionally challenging for not only traders and investors alike, but also regulators and oversight authorities around the world to navigate. After all, it is a formidable task to track the ever-evolving complex algorithms and network activity that govern fund flows. 

Stablecoins continue to be minted in record volumes to meet growing demand, however the majority of crypto trading venues have yet to implement traditional banking safeguards.  As countries layer on their own crypto regulations and regulators work to study the effects on participants, individuals would be wise to conduct careful due diligence when selecting an onramp to these rapidly evolving markets.