The Rise of Stablecoins
Key Takeaways
Symbiotic relationship between stablecoin issuers and government. Issuers buy government debt receiving interest importing stability from the dollar.
Stable coins unlock “trapped capital” through instant transactions: boosting liquidity
Citizens in high-inflation economies are shifting to dollar based stablecoins in to protect savings
Government regulations are being passed to protect the lending market from stablecoins.
To look at the creation of stablecoins, we first have to understand the rise of cryptocurrencies. The main goal of cryptocurrency was to create independent electronic cash separate from a “Trusted Third Party,” like a bank. The main problems with the traditional system were the power of banks to freeze cash or block transactions, and the possibility of currency dilution by a central authority.
To address this, Satoshi Nakamoto engineered Bitcoin to be “deflationary” and decentralized. While central banks can print unlimited money, consequently lowering the value of each dollar, the total amount of Bitcoin is strictly capped at 21 million. It also operates under "Proof of Work," which requires real-world energy and money to “mine” blocks. The mining reward is cut in half every four years, a mechanism intended to increase or preserve purchasing power over time. Furthermore, it operates without a single central authority; instead, the power and decision-making are distributed throughout a global network that enforces rules through consensus. Because of this, no single individual can control, freeze, or shut down the network.
However, because the supply of Bitcoin is inelastic, the network cannot create more coins to meet rising demand. This causes the price to rise massively to balance that demand. To reduce this volatility while maintaining independence from third-party lenders, stablecoins became the pragmatic solution.
The widespread use of stablecoins means multiple things for the economy today. The biggest effect is the "Hyper-Dollarization" of foreign markets. In high-inflation countries, citizens are bypassing local currencies and shifting to dollar based stablecoins to save their money. This leads to higher demand for the U.S. Dollar because the issuer of the coin is required to back each token with liquid reserves. This has created a symbiotic relationship between the government and stablecoin issuers: the issuer buys Treasury bills to back the coins, and in return, they keep the interest as revenue while harboring trust by holding government debt.
Stablecoins also pose a risk to traditional banks. As more people shift their capital to stablecoins, because transactions are faster, global, and more secure, banks are drained of deposits, significantly reducing their lending power. For this reason, the GENIUS Act was passed, which prohibits stablecoin issuers from paying interest, a deliberate protection of the lending market.
As stablecoins become more prominent, we can expect the government to get involved through CBDCs (Central Bank Digital Currencies), banks to evolve into crypto companies, and an increased tokenization of real-world assets.