Stablecoins, stablecoins, stablecoins. The cryptoverse can’t seem to get rid of them, with their importance to the market confirmed earlier this summer, when Binance USD (BUSD) cracked the top ten of cryptoassets by market capitalization. It has been in and out of the club since and today is ranked 11th.
In either case, BUSD’s entry into the top ten meant that the latter included three stablecoins, with Tether (USDT) and USD Coin (USDC) being the other two. At the time of writing, these three tokens currently have a combined value of USD 101.9bn, while their combined 24-hour volumes consistently exceed the combined volumes of the rest of the top ten cryptoassets.
This might pose some risks for the market, with analysts speaking to Cryptonews.com agreeing that prices would drop across the board if something (e.g. regulation, legal action) were to happen to one or more of the three big stablecoins. However, most also claim that the market would recover from any stablecoin-induced crash and newer stablecoins would likely emerge to replace any that failed.
The growth of stablecoins
To put this into some perspective, USDT, USDC and BUSD were together worth USD 26bn on January 1. This indicates that their combined capitalization has risen by 292% since the start of the year, similarly to the percentage (270%) by which bitcoin (BTC)’s price has increased over the past 12 months.
But why issue stablecoins pegged to the US dollar in the first place?
“They exist because they are more flexible than fiat currencies and can move on the blockchain, providing nearly instant settlement for deposits, withdrawals and transactions. In contrast, moving fiat around is not as seamless and traders would need to use banking services for every deposit and withdrawal,” said Hunain Naseer, a senior editor at OKEx Insights.
Others within the industry agree with this account, with CoinShares’ Christopher Bendiksen telling Cryptonews.com that the three big stablecoins have grown large for a few different reasons.
“First of all, they are immensely superior to fiat money for cross-exchange arbitrage, making them highly popular with trading desks who require rapid settlement. I suspect this is their primary use case: stablecoins can be settled in a matter of hours whereas regular fiat takes days at best,” he said.
As a second reason, Bendiksen suggested that stablecoins help people in authoritarian countries access dollars, with China and Turkey being perhaps the most notable examples.
“Thirdly, they enable crypto exchanges to operate without the same need for risky and costly banking relationships as is normally necessary,” he added.
In other words, because so much of the crypto market and ecosystem is unregulated, there’s been a growing need for stablecoins as the industry itself has grown.
More specifically, some commentators credit major crypto exchange Binance with fostering the stratospheric rise of stablecoins.
“Most of the world’s crypto trading is carried out on Binance, using tether as the base currency to move in and out of different cryptos. Tether, of course, is widely known to be an extremely unsafe asset to park money in, but that hasn’t stopped millions of people from using it, including — sometimes — myself,” said Glen Goodman, an analyst and author of the bestselling book The Crypto Trader.
Goodman noted that most liquid, widely traded currency pairs are USDT pairs. “It’s quite hard to avoid using it if you want to utilize the world’s most liquid crypto markets.”
Meanwhile, crypto skeptics, such as author David Gerard, keep arguing that market manipulation is the reason behind this rapid expansion of stablecoins, reminding the never-ending debate about the backing of these tokens. (Learn more: Crypto Industry Players Dismiss Reports of Manipulated Bitcoin Rally)
“Tether’s ‘commercial paper’ can’t be US commercial paper, or everyone else in the US commercial paper market would have known about Tether being in the market. They won’t reveal what it is, strongly suggesting that confidence would be affected if people knew,” Gerard said, adding that other two big stablecoins have similar issues too.
However, Goodman also says that “Tether is possibly the greatest risk to the health of the crypto market, because it is largely backed by volatile investments.”
“If the stock and crypto markets crashed simultaneously (as they did in March 2020), and there was a run on USDT where lots of people tried to cash in their USDT for dollars simultaneously, it is quite possible that there wouldn’t be enough asset-backing to pay people 1 dollar for each tether,” he said.
Assuming that USDT wasn’t sufficiently backed, Goodman suggests that this would cause a panic and the value of USDT would collapse. In turn, this would precipitate a plunge in the prices of pretty much every major cryptoasset.
“Having the largest market cap, USDT has a major impact on the market and regulatory challenges do pose risks. In the event of a collapse, we could see prices crashing all around,” said Hunain Naseer.
For Christopher Bendiksen, the effect of a collapse or fatal regulatory/legal challenge would be pretty acute, but it wouldn’t necessarily be long-lasting.
“I’m sure the overall market would suffer if one or more of them were to collapse, but it would be a temporary setback. Bitcoin does not need stablecoins to operate, and even though the loss of liquidity would be negative, I highly doubt it would present any existential problems for the industry at large,” he said.
The future, alternatives, and regulation
Bendiksen added that decentralized alternatives would eventually emerge to take the place of any extinct stablecoin. Conversely, David Gerard argued that they more or less have to emerge, if the market is to continue growing.
“New stablecoins will emerge as the old ones have to stop for some reason. Tether issuance stopped in May, for unknown reasons, so USDC and BUSD issuance went up like a rocket,” he said.
Yet for more sympathetic observers, stablecoins may eventually clean up their act, assuming that regulation arrives which clamps down on their worst effects while allowing for genuine use cases.
“As a general trend, I believe increased regulation acts like an evolutionary selective pressure on cryptoassets, favouring increasingly robust and antifragile solutions to any product which is desired by the market,” said Christopher Bendiksen.
Likewise, Glen Goodman noted that US Treasury Secretary Janet Yellen’s recent calling on regulators to “act quickly” on stablecoins might end up being positive for the sector as a whole.
He concluded, “If this is done in a sensible way, it might actually encourage their use. Regulators need to finely tune their response, to regulate without suffocating innovation.”