Stablecoins pose grave risks to the financial system and the economy and should be under the jurisdiction of federal regulators and issued only by insured depository institutions, national banking regulators said in a new report.
But some stablecoin issuers and industry observers are pushing back on the idea that this asset class is inherently risky and that it should be the exclusive purview of federally insured and regulated banks.
Stablecoins are digital assets that should always be equal in value to a fiat currency such as the U.S. dollar. They’re used by cryptocurrency investors and traders who want to buy and sell digital assets on exchanges quickly, without having to wait for funds in a bank account to be sent to the exchange through an automated clearinghouse or wire payment.
“Speculative digital asset trading, which may involve the use of stablecoins to move easily between digital asset platforms or in decentralized finance arrangements, presents risks related to market integrity and investor protection,” said the report, which was published last week. “Where these activities involve complex relationships or significant amounts of leverage, there may also be risks to the broader financial system.”
‘Suspicious collateral’
In their paper and in recent public comments, national bank regulators have said the way stablecoins are reserved poses risks.
“There are no standards regarding the composition of stablecoin reserve assets, and the information made publicly available regarding the issuer’s reserve assets is not consistent across stablecoin arrangements as to either its content or the frequency of its release,” the report stated.
Bill Demchak, chairman and chief executive of PNC Financial Services Group,
“The financial disruption of crypto broadly, and probably inside of that, stablecoin, is a real threat,” he said. “There's the risk I think that people are aware of with certain of the stablecoins having, let's call it, suspicious collateral behind them.”
Hong Kong-based Tether Holdings, the largest issuer of stablecoins, with about 74 billion in circulation, is frequently criticized on this front. In a February
U.S. stablecoin issuers say their stablecoins are backed by cash and U.S. Treasuries and that they are audited by accounting firms.
“Not all stablecoins are created equal, nor should there be a one-size-fits-all regulatory regime around these innovations,” said Dante Disparte, chief strategy officer and head of global policy at Boston-based Circle Internet Financial, the largest U.S. issuer of stablecoins, with 34.3 billion USD coins in circulation.
Circle has already been working to obtain a national bank charter.
“That's why we're very welcoming of the fact that the [President’s Working Group is] weighing in on stablecoins and proposing federal approaches to their regulation and oversight,” Disparte said. He pointed out that Circle is already regulated by state banking authorities such as the New York State Department of Financial Services.
“The opportunity to have a federal pathway for this industry is only an upgrade,” he said.
But others are not happy with the notion that only FDIC-insured banks supervised by national regulators should be allowed to issue stablecoin.
“There are risks in stablecoins, but they have not manifested yet, outside of Tether,” said Caitlin Long, founder and CEO of Avanti Financial Group, which is one of two Cheyenne, Wyoming, companies that have received a special purpose depository institution from the state. (The other is Kraken Bank.) Avanti plans to issue a stablecoin-like tokenized dollar called the Avit that would be backed by cash on deposit at the Federal Reserve.
“It’s our earnest hope that the end result of the President’s Working Group’s review of stablecoins is not to deny those interested in innovative financial alternatives offered by upstart players by concentrating stablecoin issuance in the hands of a few powerful, entrenched institutions,” Long said.
Avanti announced Friday it’s applying for deposit insurance from the FDIC in response to the President’s Working Group report’s requirement that all stablecoin issuers have such insurance.
These states’ regulatory authority “is being preempted by the new federal bank regulators' coordinated policy in D.C. — not only to require stablecoin issuers to be FDIC-insured banks, but to prohibit uninsured entities from issuing them,” said Long.
The reasons the regulators gave to restrict stablecoin issuance to banks “are borderline nonsensical,” said Norbert Michel, vice president and director of the Cato Institute's Center for Monetary and Financial Alternatives. “You're talking about a $150 billion market in the middle of tens of trillions of dollars, and you're talking about a niche payment mechanism that isn't even an investment.”
But Michel said he has no problem with the idea of a regulatory framework that would require stablecoin issuers to disclose how they are reserving against the digital assets and submit to audits “so that you can't say you have all this collateral when you really don’t.”
The threat of a run
Another concern the report expressed is the danger that investors could get spooked and could try to cash in their stablecoins all at once. If issuers don’t have all that cash on hand, there could be a run that could affect other markets.
“If stablecoin issuers do not honor a request to redeem a stablecoin, or if users lose confidence in a stablecoin issuer’s ability to honor such a request, runs on the arrangement could occur that may result in harm to users and the broader financial system,” the report stated.
Michel objects to the use of the word “run.”
Because stablecoins are a mechanism investors use to buy cryptocurrencies, it’s unlikely there would be a run on stablecoins themselves, he pointed out. If investors want to sell the cryptocurrency they invested in, they might use stablecoin to cash out. But that shouldn’t dramatically affect stablecoins themselves or the fiat currencies that back them.
“The ‘run’ theory has the causation backwards,” Michel said. “If all fiat currencies are suddenly worthless, it’s not because of stablecoins, and we have bigger problems. What we're really talking about is whether we're going to allow somebody to move their money, whether it's a capital markets investment or a stablecoin.”
Even if all stablecoin owners wanted their money back at the same time, “there's no reason for that to cause some sort of calamitous economic meltdown,” Michel said.
The Cato Institute has proposed that stablecoin issuers be regulated as newly created limited purpose investment companies that would be overseen by the SEC, similar to the way the SEC regulates money market mutual funds under the Investment Company Act.
What regulators are really afraid of, Michel speculates, is the creation of a massive private payment mechanism that's outside of federal control and outside of the banking system.
“They don't want that,” he said. “They're afraid that that's going to in some way diminish the use of the U.S. dollar.”
“The broader policy question at that point is, is that okay, should we allow that?” he continued. “I'm going to fall on the side of yes. Because if you're a good steward of the U.S. dollar, you should be open to exposing it to competition.”
Michel is in favor of a regulatory framework that would make it possible for legitimate stablecoin issuers to operate in the U.S.
“People are clearly using these stablecoins for a reason,” he noted. “And the reason is because our payment system is ancient and inefficient in places. So rather than come out with a report that talks about all these fantastical, possible problems down the road, how about fixing that?”
