The Evolution of Stablecoins

Digest2019.07.26

This post is also available in Korea (Click)

Intro

The surged attention toward blockchain and cryptocurrency has highly affected and developed Stablecoins. Stablecoin is a cryptocurrency that is designed to maintain a certain level of the price range.

Unlike the name ‘currency’ can refer, most cryptocurrencies have shown high, unstable volatility and received criticism that they cannot be used as the ‘Medium of Exchange.’ However, Stablecoins, which has relatively steady volatility and value appeared and many people started to expect that the stablecoins could compensate for the price volatility issues. And this phenomenon let other stablecoins to emerge.

Based on the stabilization structure, Stablecoins can be categorized into three types: 1) fiat-collateralized, 2) cryptocurrency-collateralize, and 3) algorithm-based.

The fiat-collateralized stablecoins deposit the same amount of fiat money as the amount of cryptocurrency, and in case of requests, it guarantees a steady level of value (e.g. 1 USD) by guaranteeing the exchange of the issued stablecoin to fiat currency.

Since having the same amount of fiat currency or not decides the value of a stablecoin, the validation for possession of the same amount of fiat currency is important. The most common examples of fiat-collateralized stablecoins are represented as Tether, True USD, Paxos Standard, etc.

The cryptocurrency-collateralized stablecoins deposit cryptocurrency as a collateral and rent stablecoins by amount proportioned to the collateral value. It is important for the cryptocurrency-collateralized typed stablecoins to avoid the value decrease in the collateral value from the cryptocurrency price volatility, so that they can prevent the value fluctuations of stablecoins. For this, many different mechanisms like issuing lesser stablecoins than the collateral value are used. DAI’s Maker DAO is one of the most well-known examples.

The algorithm-based stablecoins use algorithms and control the supply and demand of stablecoins to keep its price stable. The value stabilization mechanism for the algorithm-based stablecoins can operate well when the stablecoins are used often enough, while the users are trusting the system. Terra is one of the well-known examples.

In this article, I’d like to go over some of the major stablecoins and discuss the outlook of stablecoins.

Tether, USDT

Tether is a fiat-collateralized stablecoin that is issued by Tether Limited of Hong Kong.

Tether stores the same amount of dollars as the issued USDT within the issuers’ reserve to guarantee its value as 1 USDT = 1 USD. Tether, which has been traded via Hong Kong’s cryptocurrency exchange Bitfinex since January 2015, is a stablecoin that has the highest market capitalization and transactions.

However, some doubt about Tether’s transparency. In September 2017, the accounting firm Friedman LLP has stated with their audit report that they possess more assets than the total amount of issued Tether. While the reliability of their accounts and many other related issues weren’t clarified, a press exposing no working relationships with Friedman LLP and Tether Limited was released in January 2018.

There was more news on the issue. Although both Bitfinex and Tether Limited have been stating that they are each separated entities since the beginning, the truth revealed was that they both were the subsidiaries of iFinex.

Bitfinex also has been accused of the price manipulation of BTC with Tether, and also the misuse of Tether Limited’s asset to cover the loss from Bitfinex. Finally, Tether Limited has officially admittedthat they have only 74% of assets compared to the issuance amount on April 2019. With these issues, Tether lost its trust and the price dropped down to $0.88.

As the concerns toward Tether grew, so did the number of corporations that tried to create opportunities out of it. In January 2018, Trust Token launched True USD (TUSD), a stablecoin that guarantees the 1:1 collateralization with USD, along with the assurance of regular financial audit and transparent information sharing.

On the following September, NYDFS approved the issuance of USD-collateralized stablecoin that has been co-launched by Gemini Trust Company and Paxos Trust Company.

Also in October, a Goldman Sachs-invested and FINCEN-registered corporation, “Circle” issued USD-Collateralized stablecoin.

As you can see from these cases, a lot of newly-launched fiat-collateralized stablecoins are emphasizing their transparency to distinguish themselves with Tether, and they are actively implemented by more and more crypto exchanges.

DAI

DAI is a cryptocurrency-collateralized stablecoin that is issued by MakerDAO, and it is one of the most frequently used stablecoins.

As mentioned earlier, for the cryptocurrency-collateralized stablecoins, the collateralized subject, cryptocurrency has higher price volatility. So it becomes important to effectively defend the collateral value.

And one of the methods that DAI tries to implement is to collateralize various types of cryptocurrencies.

Currently, DAI can only deposit and receive Ethereum as collateral. However, the range of cryptocurrencies for collateral will soon be widened into various types of Ethereum-based tokens.

But the prices of most cryptocurrencies have high correlations with BTC price. So the plan for expanding the range of collateralizable cryptocurrencies may look ineffective in terms of securing the collateral value stabilization.

One of the most distinctive features of DAI is that it has positively affected many platforms that have stablecoins.

The collateralization of Ethereum and reception of stablecoin in return enhanced the usability and liquidity of Ethereum.

Also, as DAI is actively used within the Ethereum ecosystem, a lot of developers started to build services that use DAI as the main transaction medium. Also, finance services like cryptocurrency rental/loan appeared and are used widely.

Stablecoins brought an unexpected synergy with the present cryptocurrencies and created an extra value.

Libra

Libra is a stablecoin launched by Facebook in June 2019. According to its whitepaper, Libra secures its value by collateralizing a ‘basket’ that is comprised of currencies from many countries and short-term government bonds.

Unlike other fiat-backed stablecoins that match its value as a 1:1 basis, Libra differentiates itself as it uses investment assets with high liquidity along with other fiat currencies. And many assume that Facebook now wants to create a global currency.

The synchronization of a stable coin to just one type of fiat currency can deliver the reliability and usability of the fiat currency directly. On the other hand, the function of the stable coin can be subordinative to the monetary policy and the exchange rate of the central bank of certain countries.

Thus, if Facebook’s trying to implement global currency, it’ll be reasonable to adopt a ‘basket’ system that can put various currencies into one basket.

But to make Libra to be used worldwide, it must meet the regulations from each country. And it doesn’t look that easy.

The US Congress has requested Facebook to pause the development of Libra until they finish the investigation on Libra’s actual effects. Also, France and Germany are declaring that Facebook’s Libra needs to go through a thorough investigation as well.

Bank for International Settlements (BIS), responsible for countries’ central banks and their settlement, has warned Facebook that it can risk financial stability. As notorious with its own personal data scandal, Facebook is receiving concerns on its plan to collect personal financial data.

The ‘basket’ method itself has much room for concerns as well. Using currencies and government bonds from multiple countries may lower the risks influenced by certain countries’ economic crisis. However, in terms of regulation, the probability for simultaneously provoking multiple countries can increase as well.

Libra takes a diversified investment method in collateral assets to low-risk, low-return assets and allocates investment profits to operating subjects. Still, as George Soros has done in the past, a loss in the collateral is possible if a currency speculation attack on a specific currency in the ‘basket’ happens.

Libra can exchange their Libra tokens for fiat currency of each country when upon user requests. However, when there is a loss in collateral assets, the possibility for a bank run should also be taken into consideration.

That means Libra can have higher instability compared to the stablecoins with just one type of base currency that is commonly and globally accepted.

Meanwhile, Facebook is promoting its mission to provide financial services for financially-isolated (or ‘unbanked’) classes with contents like their service intro video.

But according to the Global Findex Database 2017, only a billion people out of the entire 1.7 billion people who are financially isolated has a cellular phone, and only half a billion people have access to the Internet.

And half of these financially-isolated 1.7 billion people come mostly from the 6 countries including Bangladesh, China, Indonesia, Mexico, Nigeria, and Pakistan: and the majority bans the cryptocurrency in general, provides limited access to Facebook, or subject to the Financial Action Task Force (FATF) regulation.

Some articles also criticize that the only developing country-based corporation from the members for Libra is Mercado, yet there is no corporation based in Africa or Asia, where the most financially-isolated demographics live. Thus, it is a little too soon to imagine how Libra can help the financially-isolated.

How will the Stablecoins Evolve?

What would be the most ideal type of Stablecoin to make regarding the current situations? If practicality is the priority, fiat-collateral can be the best, compared to applying the cryptocurrency-collateralized or the algorithm-based methods. Because for the cryptocurrency-collateralized, it will be difficult to understand how it works on the crypto newbies’ side; and the stability for the algorithm-based is not verified yet.

Also, it seems more reasonable to collateralize a single fiat currency than choosing the basket method. Not only because it is easier to follow the regulations, but because it has much outstanding stability and liquidity compared to the basket.

If globally-based fiat currency is collateralized, the concern about price volatility for the assets can decrease significantly. And since the base currency is commonly used in the world, exchanging the stablecoin to fiat currency can be relatively easy.

Certainly, in the case of the global economic crisis, the currency value may drop. But we’ll need to understand that the 1:1 match rule is a premise applied to the currency and the token. The token price decrease is not ultimately the decrease in the token’s value but the fiat currency’s value. This explains how the phenomenon is a separate issue from the stablecoin’s feature itself.

Also, as the country issuing the base currency has a great international influence, the news related to that country are less likely to affect the base currency unless the issue is related to that country alone.

In terms of the regulations, it’s more efficient to deal with just one country than many. So it is more ideal to collateralize just one base currency than many. Thus, there will be more stablecoins that collateralize other base currencies that are not as demanding and competitive as USD, and also conduct a regular financial audit and share information publicly.

Applications of Stablecoins

Ironically, stablecoins’ price is somewhat unstable despite the definition of the term ‘stable’ imply. As stablecoins are traded at crypto exchanges, the price depends on the market supply or the issuers’ reliability. However, if the stablecoin’s target value is guaranteed by the value stabilization method, the price can normally be adjusted at the targeted value.

Besides, the price changes independently occur from each stablecoin. So there is a possibility for margin trading services targeting the difference from stablecoins and actual collateral, and differences between different stable coins.

If more of EUR or JPY based stable coins are circulated in the market beside the USD-based stablecoins, then a gap between real foreign exchange market and stable coins will emerge as well. As a result, another margin trading market that can adapt to those gaps can develop.

Meanwhile, many platforms like TRONand Ontologyare implementing stablecoins into their platform, and running promotional events to activate the stablecoin market. What are they looking for, and why are they implementing the stablecoins?

Stablecoins can vitalize the platforms.

Stablecoins keep the same price as the fiat currencies that are already common in our lives, so even those who are negative about the cryptocurrencies can accept them more easily.

Hence, as more stablecoin-based services are launched and commonized in the market, more people and audiences will be open to the cryptocurrencies — and that will be when many will seamlessly use and accept blockchain-based services.

Also, as the number of blockchain network users increases, the demand for the native coins for that platform will grow as well.

It’s because the users will need to pay the commission to transfer tokens on the blockchain network, and will need to use the native coins for that network as a commission.

Also, since many investors use the amount transferred from the market capitalization and network as the valuation evaluator, the activation of the blockchain network can be connected into industry investors’ interest.

As the supply of DAI helped financial services on the Ethereum network to grow, the supply of stablecoins can build the foundations for the crypto asset-based financial services. As mentioned, besides the stablecoin-based services, the services that can improve the usability of native coins on the platforms and other tokens can advance the market as well.

To make this happen, the support to accelerate developer communities like Ethereum and DAI is necessary to allow the 3rd-party platforms to develop and operate the service as they want on the platform.

When service developers want to implement cryptocurrency into a service that already has a secure user base, they could apply the relationship between stablecoins and the platforms.

Once stablecoins are implemented into the familiar services, then the users will have more understandings in cryptographic assets. And then, the developers can use the cryptocurrencies with price volatility and integrate platform’s activity with the cryptocurrencies so that they can make the platform more complete.

With the blockchain network, we can build borderless financial services. So if more and more financial services that can close the distances between users in different countries are launched and become popular, then the chances to increase awareness for platforms will increase as well.

With this, I believe more companies will start to become interested in establishing a global economic ecosystem and ideally use and adapt those different characteristics of cryptocurrencies.

As you can see, stablecoins are as unique as what they are. And they are building a new form of a market by mutually influencing the blockchain platform.

And I think this tendency will continue for a while. LINE is also paying close attention to the market trends. And with our 187 million global users, we want to be the front-runner that leads the expansion in blockchain-based fintech area and mass adoption of blockchain services.

Many are actively studying and developing stablecoins today. And this makes us wonder how stablecoins can change the cryptocurrencies in the future, or how stablecoins can go further with cryptocurrency. We probably won’t have to wait much longer to witness the changes — so let’s stay wide awake until we see the future!

 

The Evolution of Stablecoins

The Evolution of Stablecoins

Digest・2019.07.26


This post is also available in Korea (Click)

Intro

The surged attention toward blockchain and cryptocurrency has highly affected and developed Stablecoins. Stablecoin is a cryptocurrency that is designed to maintain a certain level of the price range.

Unlike the name ‘currency’ can refer, most cryptocurrencies have shown high, unstable volatility and received criticism that they cannot be used as the ‘Medium of Exchange.’ However, Stablecoins, which has relatively steady volatility and value appeared and many people started to expect that the stablecoins could compensate for the price volatility issues. And this phenomenon let other stablecoins to emerge.

Based on the stabilization structure, Stablecoins can be categorized into three types: 1) fiat-collateralized, 2) cryptocurrency-collateralize, and 3) algorithm-based.

The fiat-collateralized stablecoins deposit the same amount of fiat money as the amount of cryptocurrency, and in case of requests, it guarantees a steady level of value (e.g. 1 USD) by guaranteeing the exchange of the issued stablecoin to fiat currency.

Since having the same amount of fiat currency or not decides the value of a stablecoin, the validation for possession of the same amount of fiat currency is important. The most common examples of fiat-collateralized stablecoins are represented as Tether, True USD, Paxos Standard, etc.

The cryptocurrency-collateralized stablecoins deposit cryptocurrency as a collateral and rent stablecoins by amount proportioned to the collateral value. It is important for the cryptocurrency-collateralized typed stablecoins to avoid the value decrease in the collateral value from the cryptocurrency price volatility, so that they can prevent the value fluctuations of stablecoins. For this, many different mechanisms like issuing lesser stablecoins than the collateral value are used. DAI’s Maker DAO is one of the most well-known examples.

The algorithm-based stablecoins use algorithms and control the supply and demand of stablecoins to keep its price stable. The value stabilization mechanism for the algorithm-based stablecoins can operate well when the stablecoins are used often enough, while the users are trusting the system. Terra is one of the well-known examples.

In this article, I’d like to go over some of the major stablecoins and discuss the outlook of stablecoins.

Tether, USDT

Tether is a fiat-collateralized stablecoin that is issued by Tether Limited of Hong Kong.

Tether stores the same amount of dollars as the issued USDT within the issuers’ reserve to guarantee its value as 1 USDT = 1 USD. Tether, which has been traded via Hong Kong’s cryptocurrency exchange Bitfinex since January 2015, is a stablecoin that has the highest market capitalization and transactions.

However, some doubt about Tether’s transparency. In September 2017, the accounting firm Friedman LLP has stated with their audit report that they possess more assets than the total amount of issued Tether. While the reliability of their accounts and many other related issues weren’t clarified, a press exposing no working relationships with Friedman LLP and Tether Limited was released in January 2018.

There was more news on the issue. Although both Bitfinex and Tether Limited have been stating that they are each separated entities since the beginning, the truth revealed was that they both were the subsidiaries of iFinex.

Bitfinex also has been accused of the price manipulation of BTC with Tether, and also the misuse of Tether Limited’s asset to cover the loss from Bitfinex. Finally, Tether Limited has officially admittedthat they have only 74% of assets compared to the issuance amount on April 2019. With these issues, Tether lost its trust and the price dropped down to $0.88.

As the concerns toward Tether grew, so did the number of corporations that tried to create opportunities out of it. In January 2018, Trust Token launched True USD (TUSD), a stablecoin that guarantees the 1:1 collateralization with USD, along with the assurance of regular financial audit and transparent information sharing.

On the following September, NYDFS approved the issuance of USD-collateralized stablecoin that has been co-launched by Gemini Trust Company and Paxos Trust Company.

Also in October, a Goldman Sachs-invested and FINCEN-registered corporation, “Circle” issued USD-Collateralized stablecoin.

As you can see from these cases, a lot of newly-launched fiat-collateralized stablecoins are emphasizing their transparency to distinguish themselves with Tether, and they are actively implemented by more and more crypto exchanges.

DAI

DAI is a cryptocurrency-collateralized stablecoin that is issued by MakerDAO, and it is one of the most frequently used stablecoins.

As mentioned earlier, for the cryptocurrency-collateralized stablecoins, the collateralized subject, cryptocurrency has higher price volatility. So it becomes important to effectively defend the collateral value.

And one of the methods that DAI tries to implement is to collateralize various types of cryptocurrencies.

Currently, DAI can only deposit and receive Ethereum as collateral. However, the range of cryptocurrencies for collateral will soon be widened into various types of Ethereum-based tokens.

But the prices of most cryptocurrencies have high correlations with BTC price. So the plan for expanding the range of collateralizable cryptocurrencies may look ineffective in terms of securing the collateral value stabilization.

One of the most distinctive features of DAI is that it has positively affected many platforms that have stablecoins.

The collateralization of Ethereum and reception of stablecoin in return enhanced the usability and liquidity of Ethereum.

Also, as DAI is actively used within the Ethereum ecosystem, a lot of developers started to build services that use DAI as the main transaction medium. Also, finance services like cryptocurrency rental/loan appeared and are used widely.

Stablecoins brought an unexpected synergy with the present cryptocurrencies and created an extra value.

Libra

Libra is a stablecoin launched by Facebook in June 2019. According to its whitepaper, Libra secures its value by collateralizing a ‘basket’ that is comprised of currencies from many countries and short-term government bonds.

Unlike other fiat-backed stablecoins that match its value as a 1:1 basis, Libra differentiates itself as it uses investment assets with high liquidity along with other fiat currencies. And many assume that Facebook now wants to create a global currency.

The synchronization of a stable coin to just one type of fiat currency can deliver the reliability and usability of the fiat currency directly. On the other hand, the function of the stable coin can be subordinative to the monetary policy and the exchange rate of the central bank of certain countries.

Thus, if Facebook’s trying to implement global currency, it’ll be reasonable to adopt a ‘basket’ system that can put various currencies into one basket.

But to make Libra to be used worldwide, it must meet the regulations from each country. And it doesn’t look that easy.

The US Congress has requested Facebook to pause the development of Libra until they finish the investigation on Libra’s actual effects. Also, France and Germany are declaring that Facebook’s Libra needs to go through a thorough investigation as well.

Bank for International Settlements (BIS), responsible for countries’ central banks and their settlement, has warned Facebook that it can risk financial stability. As notorious with its own personal data scandal, Facebook is receiving concerns on its plan to collect personal financial data.

The ‘basket’ method itself has much room for concerns as well. Using currencies and government bonds from multiple countries may lower the risks influenced by certain countries’ economic crisis. However, in terms of regulation, the probability for simultaneously provoking multiple countries can increase as well.

Libra takes a diversified investment method in collateral assets to low-risk, low-return assets and allocates investment profits to operating subjects. Still, as George Soros has done in the past, a loss in the collateral is possible if a currency speculation attack on a specific currency in the ‘basket’ happens.

Libra can exchange their Libra tokens for fiat currency of each country when upon user requests. However, when there is a loss in collateral assets, the possibility for a bank run should also be taken into consideration.

That means Libra can have higher instability compared to the stablecoins with just one type of base currency that is commonly and globally accepted.

Meanwhile, Facebook is promoting its mission to provide financial services for financially-isolated (or ‘unbanked’) classes with contents like their service intro video.

But according to the Global Findex Database 2017, only a billion people out of the entire 1.7 billion people who are financially isolated has a cellular phone, and only half a billion people have access to the Internet.

And half of these financially-isolated 1.7 billion people come mostly from the 6 countries including Bangladesh, China, Indonesia, Mexico, Nigeria, and Pakistan: and the majority bans the cryptocurrency in general, provides limited access to Facebook, or subject to the Financial Action Task Force (FATF) regulation.

Some articles also criticize that the only developing country-based corporation from the members for Libra is Mercado, yet there is no corporation based in Africa or Asia, where the most financially-isolated demographics live. Thus, it is a little too soon to imagine how Libra can help the financially-isolated.

How will the Stablecoins Evolve?

What would be the most ideal type of Stablecoin to make regarding the current situations? If practicality is the priority, fiat-collateral can be the best, compared to applying the cryptocurrency-collateralized or the algorithm-based methods. Because for the cryptocurrency-collateralized, it will be difficult to understand how it works on the crypto newbies’ side; and the stability for the algorithm-based is not verified yet.

Also, it seems more reasonable to collateralize a single fiat currency than choosing the basket method. Not only because it is easier to follow the regulations, but because it has much outstanding stability and liquidity compared to the basket.

If globally-based fiat currency is collateralized, the concern about price volatility for the assets can decrease significantly. And since the base currency is commonly used in the world, exchanging the stablecoin to fiat currency can be relatively easy.

Certainly, in the case of the global economic crisis, the currency value may drop. But we’ll need to understand that the 1:1 match rule is a premise applied to the currency and the token. The token price decrease is not ultimately the decrease in the token’s value but the fiat currency’s value. This explains how the phenomenon is a separate issue from the stablecoin’s feature itself.

Also, as the country issuing the base currency has a great international influence, the news related to that country are less likely to affect the base currency unless the issue is related to that country alone.

In terms of the regulations, it’s more efficient to deal with just one country than many. So it is more ideal to collateralize just one base currency than many. Thus, there will be more stablecoins that collateralize other base currencies that are not as demanding and competitive as USD, and also conduct a regular financial audit and share information publicly.

Applications of Stablecoins

Ironically, stablecoins’ price is somewhat unstable despite the definition of the term ‘stable’ imply. As stablecoins are traded at crypto exchanges, the price depends on the market supply or the issuers’ reliability. However, if the stablecoin’s target value is guaranteed by the value stabilization method, the price can normally be adjusted at the targeted value.

Besides, the price changes independently occur from each stablecoin. So there is a possibility for margin trading services targeting the difference from stablecoins and actual collateral, and differences between different stable coins.

If more of EUR or JPY based stable coins are circulated in the market beside the USD-based stablecoins, then a gap between real foreign exchange market and stable coins will emerge as well. As a result, another margin trading market that can adapt to those gaps can develop.

Meanwhile, many platforms like TRONand Ontologyare implementing stablecoins into their platform, and running promotional events to activate the stablecoin market. What are they looking for, and why are they implementing the stablecoins?

Stablecoins can vitalize the platforms.

Stablecoins keep the same price as the fiat currencies that are already common in our lives, so even those who are negative about the cryptocurrencies can accept them more easily.

Hence, as more stablecoin-based services are launched and commonized in the market, more people and audiences will be open to the cryptocurrencies — and that will be when many will seamlessly use and accept blockchain-based services.

Also, as the number of blockchain network users increases, the demand for the native coins for that platform will grow as well.

It’s because the users will need to pay the commission to transfer tokens on the blockchain network, and will need to use the native coins for that network as a commission.

Also, since many investors use the amount transferred from the market capitalization and network as the valuation evaluator, the activation of the blockchain network can be connected into industry investors’ interest.

As the supply of DAI helped financial services on the Ethereum network to grow, the supply of stablecoins can build the foundations for the crypto asset-based financial services. As mentioned, besides the stablecoin-based services, the services that can improve the usability of native coins on the platforms and other tokens can advance the market as well.

To make this happen, the support to accelerate developer communities like Ethereum and DAI is necessary to allow the 3rd-party platforms to develop and operate the service as they want on the platform.

When service developers want to implement cryptocurrency into a service that already has a secure user base, they could apply the relationship between stablecoins and the platforms.

Once stablecoins are implemented into the familiar services, then the users will have more understandings in cryptographic assets. And then, the developers can use the cryptocurrencies with price volatility and integrate platform’s activity with the cryptocurrencies so that they can make the platform more complete.

With the blockchain network, we can build borderless financial services. So if more and more financial services that can close the distances between users in different countries are launched and become popular, then the chances to increase awareness for platforms will increase as well.

With this, I believe more companies will start to become interested in establishing a global economic ecosystem and ideally use and adapt those different characteristics of cryptocurrencies.

As you can see, stablecoins are as unique as what they are. And they are building a new form of a market by mutually influencing the blockchain platform.

And I think this tendency will continue for a while. LINE is also paying close attention to the market trends. And with our 187 million global users, we want to be the front-runner that leads the expansion in blockchain-based fintech area and mass adoption of blockchain services.

Many are actively studying and developing stablecoins today. And this makes us wonder how stablecoins can change the cryptocurrencies in the future, or how stablecoins can go further with cryptocurrency. We probably won’t have to wait much longer to witness the changes — so let’s stay wide awake until we see the future!

 


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