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Stablecoin regulation is getting closer and closer

Stablecoin regulation is getting closer and closer

In Elizabeth Warren's words, "stablecoins provide the lifeblood of the DeFi ecosystem." She does not mean it as a compliment. Her follow-up sentences defined Defi as the shadiest part of crypto.

Warren is one of the many political figures urging regulatory action on stablecoins. Stablecoins are probably one of the most urgent matters on the table of regulators and traditional financial institutions looking at crypto either as a threat or an opportunity.

Why is this?

A stablecoin is a digital asset whose value is pegged to another asset like a commodity or another currency and therefore has a stable price. As a result, they benefit from the transaction speed and low prices of cryptocurrencies while avoiding the problem of volatility. They have two primary use cases that have the potential of eating off of the big brother's cake:

  • They are used to investing in digital assets without resorting to fiat currencies. Money can move around crypto without touching a bank because stablecoins provide a home currency to go back to and often a bridge between protocols, platforms, and blockchains. They are the lifeblood of DeFi; Warren's not wrong.
  • They also have great potential as cross-border fast and cheap payment methods.

Regulators have some legitimate concerns, while others may not be so legitimate. There are questions about the stability among the fair points, as most protocols haven't been tested under large-scale stress conditions. Plus, some stablecoins (USDT, we’re looking at you) have behaved suspiciously in the past and have led to a bad reputation as possible market manipulators. But also, stablecoins erode government and corporate power, something regulators don't like…but some people in crypto quite like it.

Legislators worldwide have been increasingly vocal about regulating the space in recent times. We could say the last chapter in this series kicked off at the beginning of November when the President's Working Group on Financial Markets (PWG) in the USA released a report on stablecoins. The PWG urged lawmakers to subject stablecoin issuers to the same strict federal oversight as banks. In recent days, Japan announced a similar possible approach to legislation that might happen in early 2022. The country's 70 most important financial institutions are working in a CBDC project that might have also triggered the need for more control.

Other international organizations, like the World Economic Forum or the European Council, are lagging a little bit behind, still going through the phase of producing recommendations. But in these cases, too, proposals are pushing for regulation.

When it comes to taking action, things get more complicated and nuanced. The US Senate recently launched consultations and hearings to dig deeper into the industry. Their energy was less combative in general than that of other politicians (yes, Mrs. Warren, we're talking about you. We know you read this newsletter), and Senators have often stated that regulation needs to be careful not to stifle innovation.

Corporations and big finance also have heterogeneous positions on stablecoins. There's a general sense of interest, but it can manifest through copycat projects that try to embrace the virtues of digital assets virtues without the decentralization and subsequent loss of power. But other institutions, like Bank of America, have openly urged regulators to act because they want to come out and play properly once and for all.

If we zoom out and see the forest, we probably witness the baby steps of the first significant regulatory intervention in crypto. The first generation of regulatory efforts aimed to close the most urgent loopholes of crypto: lack of AML or KYC in substantial businesses, essential investor protection from fraud, etc. Stablecoins are the first opportunity for regulators, traditional finance, and crypto native corporations to build a framework that pushes adoption while respecting innovation.