Yves here. I wish I had reposted some of the content from a great 2022 post at Heisenberg Report, Dear Crypto: You Have No Lender of the Last Resort, since it is beyond the reach of archive services. It was a long-form takedown of crypto as private currencies and why that is extremely problematic. The short version is that private currencies, like frequent flier miles, have at best limited uptake, so any use is limited to particular communities. That results in other risks, like devaluation and illiquidity.
The easily-found estimates of how many cryptocurrencies exist ranges from over 20,000 to 37 million unique cryptocurrencies. Needless to say, many (arguably most) are inactive, meaning worth nothing. Wikipedia points out the number of non-traded cryptocurrencies is rising.
This article focuses on a different issue: the volatility of those crypto that do trade, and the fact that stablecoins are a con. There’s no way for a provider to make a deemed-to-be adequate return and have the stablecoin be fully backed by secure dollar assets like Treasuries. That means they will be subject to the equivalent of bank runs.
By Sergi Basco, Profesor Agregado de Economia, Universitat de Barcelona. Originally published at The Conversation
On June 17, the US senate passed the GENIUS Act, which was seen as a big win for the cryptocurrency sector. The bill aims to regulate a type of cryptocurrency known as “stablecoins”, but a closer look at the law reveals that it could, quite easily, lead to the next global economic crash.
To understand the GENIUS Act, we can look back to the early days of cryptocurrencies. They were created as decentralised currencies whose supply – and, thus, value – would not be determined by people in dark suits in Washington DC or Frankfurt, but rather by a complex, globalised computer system.
The most promininent early cryptocurrency was Bitcoin, and the idea was that it would be akin to gold. It could be mined to provide an (almost) constant supply, offering a return to the gold standard era, when the value of any currency was determined by the value of gold rather than national economies.
However, the most benign way to define cryptocurrency today is a casino. Indeed, people invest in crypto precisely because it is not stable and dependable like gold, but rather because its volatile value can lead to huge returns on investment. Since the factors that determine its price are often unclear, crypto investment is essentially a roll of the dice. Making profits on crypto trading is often as likely as winning at roulette.
Making Crypto Credible
The crypto industry understood that this high volatility (and unpredictability) was a barrier to attracting more cautious investors. To gain the appearance of stability, companies began to create “stablecoins”: cryptocurrencies whose prices are pegged to another currency.
Imagine, for instance, that a company called “T” creates its own cryptocurrency called “t-coin”, which is pegged to the US dollar at a 1:1 rate. If I buy one t-coin, I know I can go back to the company T and get 1 USD. If the company cannot provide me with 1 USD, the currency and the company both collapse, and investors that purchased t-coin lose their money.
This kind of crash is far from hypothetical – in South Korea in 2022, USD-pegged stablecoin Terra plummeted, sparking a cataclysmic crash that wiped around half a trillion USD from internaional crypto markets overnight.
Safe Cryptocurrencies?
Several years ago, I had the pleasure visiting a Las Vegas casino. At the entrance, I exchanged USD for casino tokens or “chips”, which I used instead of money inside the casino. If I finished the night with any left, I could then exchange them back to dollars at the same rate. A stablecoin is essentially the same thing, but with electronic tokens instead of casino chips.
With the GENIUS Act through the US Senate, big companies like Amazon and Walmart are already planning to issue their own stablecoins for customers to use. But the idea of businesses having their own currency raises some serious questions. Will I be able to use Amazon tokens to pay in Walmart, or vice versa? Will the value of Amazon tokens be the same if I use them to pay in Walmart? If each major company in the US decides to create its own token, which token do you use for each transaction?
Since the GENIUS Act will regulate stablecoins, people may believe that all stablecoins are equally safe. However, this is impossible to guarantee, and huge questions remain about how businesses will leverage their own stablecoins to their advantage.
The Next Global Financial Crisis
During my trip to the casino, I had no concerns that once I went to swap my tokens back to USD, the establishment would hold up their end of the bargain. However, imagine I had taken my tokens home and gone back the following night to find the casino had closed down, or that it didn’t have enough dollars to cash me out.
The world has experienced several currency crises like this, where a country instead of a company issues a pegged currency. Argentina is the classic example. From 1991 to 2002, the Argentinian Central Bank promised to exchange one peso for 1 USD, but this artificially skewed trade with non-dollar economies. An economic crisis ensued, and worsened when the peg was finally removed.
Now imagine that in the US, a very big company issues 100 billion USD-pegged stablecoins. The company is successful and has enough assets (including US treasury bills or bonds) to guarantee the coin’s value. It keeps issuing more stablecoins, but then its finances take a turn for the worse.
This would set off a chain reaction. Investors would, at some point, realise that the company has issued more stablecoins than the value of US treasuries it claims to have. They would then start returning stablecoins, prompting the company to sell off its US treasury bills to (probably unsuccessfully) calm nervous investors.
The impacts soon start to ripple outwards. A selloff of US bonds would decrease the price of bonds themselves, causing US interest rates to spike. A sudden, unexpected, and drastic increases in US interest rates could easily translate into a global financial crisis, as banks and governments all around the world would suddenly face solvency crises.
Regulation Is No Guarantee
Obviously, this does not need to happen. Under the new legislation companies issuing stablecoins will be regulated, and regulators will make sure that they have enough reserves to fulfil their promises if investors start to panic.
However, US financial regulators are not infallible. Just a few years ago, they failed to notice that Silicon Valley Bank had too many assets at risk of an increase in interest rates, an oversight that caused the bank to collapse in 2023.
It is therefore not difficult to imagine a situation where multiple companies are able to irresponsibly issue too many stablecoins. If this happens, the consequences could be dire, not just for the US, but for the entire global economy.
This gave me a feeling of déjà-vu, and indeed Adam Levitin descibed the awfulness of this law in some detail back in May.
If a bank run occurs, the crypto investors will come out ahead of ordinary depositors (read: you need to shut down your account if your bank is trading in crypto).
Next up in the regulator toolkit? And how would they do a bail-in?
Bad Bank, Worse Bank
Amazon or any other company issuing crypto is surely just a bad version of a gift card? They’d have to offer a benefit to make it worth while surely? Such as buy a USD worth of out magic coin and you’ll get 1.1 to spend.
My worry is when these companies start to pay their staff in their own currency. Back to the company store days.
That should have occurred to me. An important issue, and thanks for bringing it up.
I already see the additional cost of Walmart – Amazon type cross payment offers as I shop. I am offered to use my cc thank you points to pay for purchases….at a discount to the issuer.
St. Peter don’t you call me ’cause I can’t go, I owe my soul to the company store.
Tennessee Ernie Ford
Shades of Tennessee Ernie Ford.
How many underfunded pensions are there out there? The temptation to spend (or distribute to investors) those Treasury dollars is going to be large, even if it means borrowing against them which will be a hidden risk.
Let’s pretend it is 1965 and GM is issuing stable coins OR 1985 and it’s Kodak who’s issuing stable coins. What would those stable coins be worth in the year 2000 or even in 2009 during the last financial crisis? I’d suspect stable coin holders are just one class level above common stockholders in a bankruptcy.
What you wrote makes no sense.
Underfunded pensions keep only necessary liquidity on hand. They tend to overdo on risky investment to dig themselves out of their hole, like private equity and debt. They seek the illiquidity risk premium, which stablecoin does not offer.
Crypto has gone from being funny-ha ha, to being funny-uh oh.
Bitcoin is $111k, wow.
What if Crypto works out to be the perfect thing for Wall*Street to pin the tale on the donkey when things come a cropper in cash equivalents?
Of course if the bottom falls out of stable coin causing a crash in the next three years, I would guess that a Trump government would rush in and try to back it up with US government money to maintain its “value” for the “good of the economy” – and to protect the investments of his supporters as well as his own. I honestly think that if this required adding a few trillion to the national debt, then they would have no problem with this.
I don’t know how to recommend an article for links but as this is relevant to crypto and stable coins I’m sharing it here.
https://blog.bitmex.com/assume-the-position/
This is a take from a crypto insider but it also goes into the background of stable coins and their use to the early crypto community and the global south. All of these angles relevant to naked capitalism discussion topics.
One note of warning: the author uses profanities in his writing so be aware.
Thanks for this, I think…
Halfway in, it reads like a good, concise history of Bitcoin through Tether to Ether, with Hong Kong banks supplying liquidity and the web supplying distribution.
Are there yet any derivative schemes for these stable cryptos? Oh what fun is in store for the adventurous investor. And don’t worry about employees being paid in company coins. Surely the first in line at the troughs will be worthy executives who will be rewarded their well deserved bonuses inflated by company crypto.
Interesting thought. Creating a.false sense of low volatility via futures has certainly crossed the minds of our crypto lords.
Yes there is. Bitmex which is hosting the blog on my post above. The blog is from a cofounder of the exchange. Futures are settled in Bitcoin.
If and when this crypto nonsense all blows up, I now believe we’re at the point where the government will start coming in and making people whole. There will be bailouts, mark my words. That’s why the crypto community is cozying up to political leaders.
Quite a good scam. Pay to buy a presidency. Get protections put in for crypto. Then deliberately inflate the narket until it collapses and repalce worthless crypto woth dollars.
And how long before the Fed provides a “liquidity facility” for these creatures? Levitin via Marcel points out that stablecoin holders are first in line after bankruptcy. Excuse me!? The fecklessness of our pols really knows no bounds. Of course this all conveniently comes with the US Treasury preparing to unload a deluge of bills, notes and bonds in the next decade. Correspondingly, the Fed is proposing a change in the enhanced supplementary leverage ratio for the too big to fails. As I understand it, this change will allow banks to engage in more lending soaking up treasury notes as leverage backup. It’s all serendipity, no? Anyway, as soon as the rain stops I’m heading uptown to pay cash for my first gold coin. And here is the ever astute Varoufakis on the subject.