01 What are Stablecoins
Stablecoins are a monetary system design that differs from both fiat digital currencies and cryptocurrencies. Here we use a somewhat awkward term called 'monetary system design' because we are still unsure whether it counts as genuine currency.
A typical stablecoin mechanism is (referencing the plan from Hong Kong, other places may differ):
The issuer (private sector) reserves a certain amount of real assets (domestic or foreign fiat currency, or other creditworthy financial assets such as government bonds, precious metals, and can also include cryptocurrencies), issues a certain number of stablecoins backed by 100% of one or a group of real assets, and then these stablecoins are traded on a distributed ledger.
Note a few points:
(1) The issuer is the private sector, not an official monetary authority (like a central bank).
(2) There is a 100% reserve of real assets, which can be a combination of one or multiple types.
(3) Operate on a distributed ledger. Centralized deposit currencies are not included.
This scheme ensures that stablecoins will not be issued excessively, as every stablecoin is backed by real assets, and holders of stablecoins can redeem the reserve assets from the issuer at any time. If the reserve assets are fiat currency, then it can ensure that the credit of stablecoins is basically consistent with that of fiat currency.
Moreover, if the reserve assets are set as a combination of multiple assets, it can offset the value fluctuations caused by significant fluctuations in any one asset.
Then stablecoins run on distributed ledgers, allowing them to enjoy various benefits of decentralized systems, such as: limited anonymity (market participants cannot snoop on others' transactions, but judicial or regulatory authorities can when necessary), difficulty to tamper, and cannot kick people out (like the kicking actions of certain payment organizations), etc. Moreover, the peer-to-peer transactions on distributed ledgers naturally transcend national borders, making it inherently an international payment settlement mechanism.
02 Characteristics of Stablecoins
The earliest stablecoin, USDT, was launched by Tether in July 2014 and officially traded on exchanges in February 2015. The underlying reserve is in US dollars, and it is currently the largest stablecoin in the world.
The original intention of USDT was to address the huge price fluctuations of cryptocurrencies, represented at that time by Bitcoin, which clearly could not fulfill the functions of money. Therefore, a currency was designed to correspond 1:1 with the US dollar, and it operates on a decentralized distributed ledger like cryptocurrencies.
It is evident that the original intention of stablecoins was to bridge traditional finance and crypto finance.
Purely from the perspective of the 1:1 setting with the US dollar, it resembles a token of the US dollar, but this token connects to a decentralized distributed ledger, facilitating usage. Later, the reserve assets of USDT became diversified, increasing the inclusion of cryptocurrencies, gold, corporate bonds, and other contents. Among the held US dollar reserves, there are not only deposits but also US government bonds.
The diversification of reserve assets can also alleviate people's concerns about the value fluctuations of fiat currencies. After all, in those years, apart from the significant fluctuations in the value of cryptocurrencies, policies like QE implemented by some countries, which led to excessive issuance of currency, also caused concerns about the value of fiat currencies.
USDT is popular among various parties, especially as stablecoins are a natural cross-border tool, residents from other countries will also start to use them. Particularly in regions with underdeveloped formal finance, people can use stablecoins with just a smartphone, without needing a bank account. Therefore, stablecoins will also be used in the gray economy and cross-border payments, challenging regulation and even offending the monetary sovereignty of a country or region.
At this time, more and more formal financial institutions and enterprises have begun to accept stablecoins, such as for payments in trade. Some international investors also see stablecoins as an investment or savings tool because they correspond to a basket of good assets.
If a new thing indeed has its value and challenges regulation, then the best response is to bring it under standardized regulation. In recent years, several countries and regions have begun to formulate regulatory measures to standardize the operation of stablecoins.
03 The Future of Stablecoins
Now, multiple countries and regions have begun to standardize the regulation of stablecoins and have launched their own stablecoin schemes. Due to the natural cross-border attribute of stablecoins, various stablecoins will compete on the international stage in the future to capture user adoption.
Firstly, stablecoins are used for cross-border payment settlements, challenging the original centralized payment settlement methods. The most classic way for cross-border payment settlements is centralized, similar to 'SWIFT + clearing institutions', but it has issues such as high costs, low efficiency, and susceptibility to political interference. The multilateral currency digital bridge (using central bank digital currency) is a recently emerged decentralized solution that is currently in rapid development. Stablecoins represent a brand new idea, seemingly having strong advantages in many details, but they pose significant challenges to regulation, and there are many regulatory issues that need to be resolved.