King's College London

In the last few weeks, the already rapid pace of change around digital money has accelerated in the UK and worldwide. The UK government released a statutory instrument outlining long-awaited proposals for crypto assets, including stablecoins, Hong Kong passed their first stablecoin bill and the GENIUS act cleared the first hurdle in the US Congress, raising hopes that a fully-fledged Federal framework for stablecoins may be at hand. Stablecoin regulation is already up and running in Europe as of last year, under the MiCA legislation, and other significant jurisdictions, including Japan and Switzerland, also have frameworks in place.

In terms of usage and private sector activity, stablecoin transaction volume now surpasses those of Visa and Mastercard combined. Even traditional titans of finance are getting on board, such as Visa and Mastercard, which have recently launched their own stablecoin-based services, Stripe, which has made acquisitions in the area and is building it into their offerings, and PayPal which issues its own stablecoin, PYUSD.

Overall, the mood around stablecoins is bullish. But in recent years there have been many false dawns for digital assets in general, and stablecoins in particular. Is this time different? What can be done to ensure this time is different? Dr Rhys Bidder, Deputy Director of the Qatar Centre for Global Banking and Finance addresses this issue in a new working paper, “Taking the next step? What is the future of stablecoins, and how do we get there?”.

What are stablecoins?

Stablecoins are a new form of money, issued on blockchains as an alternative to volatile cryptocurrencies such as bitcoin or ether. They are designed to maintain a fixed price with regard to an underlying asset, often the US dollar, with the intent that users can always exchange a stablecoin for a dollar and vice versa. In principle, market forces and careful design of the stablecoin should then maintain its price close to or at $1. This should enable stablecoins to function as a form of cash on-chain, which is vital for payments, reliable storage of funds, and, increasingly, collateral. Stablecoins are frequently referred to as “the first killer app” of blockchains.

Dr Bidder’s paper acknowledges the apparently promising path that stablecoin adoption seems to be on, but argues that to accelerate this growth, and to make it safe and sustainable, it is important for stablecoin issuers to adopt a more standardized, uniform approach. He warns that without this standardisation, there may be a risk of inconsistencies that undermine the “fungibility” that we have come to expect for moneys. If these new moneys branch off in different directions, liquidity pools could become fragmented, undermining the efficiency of markets and raising costs for users. Fragmentation would also make it more difficult for regulators to assess risks and challenging for the market to develop novel financial services, at scale, across the globe.

Dr Bidder notes that there are key dimensions in which stablecoins should begin to coalesce. As the industry is still in flux, some of these areas are not quite ready for narrowly defined technical standards, but in his view the time has come for, at least, more consistency in approach.

Dr Bidder also flags privacy protection as an area where standardization will be important. However, owing to the rapid developments in confidentiality-enhancing technology, and the challenging interplay with regulatory compliance and cross-chain interoperability, this area is less ready for immediate standardization – but likely soon will be.

The working paper starts an important conversation in this area and reflects ongoing work in this area by Dr Bidder and his colleagues, which also involves central bank digital currencies, tokenization and decentralized finance.

Dr Bidder has taught Digital Assets on the school’s recent MSc in Financial Policy and Regulation. He consults on the digital euro and payments at the Central Bank of Ireland and is an advisor for Chainlink Labs.