Original Title: Stablecoin Playbook: Flipping Billions to Trillions
Author: Rui Shang, SevenX Ventures
Compiled by: Mensh, ChainCatcher
Overview: 8 key stablecoin-related opportunities—
The younger generation, as digital natives, finds stablecoins their natural currency. As AI and the Internet of Things drive billions of automated microtransactions, global finance requires flexible currency solutions. Stablecoins, as 'currency APIs', transfer seamlessly like internet data, achieving $4.5 trillion in transaction volume by 2024, a figure expected to grow as more institutions realize stablecoins represent an unparalleled business model—Tether earned $5.2 billion in profits through investing its dollar reserves in the first half of 2024.
In the stablecoin competition, complex crypto mechanisms are not key; distribution and real adoption are crucial. Their adoption is mainly reflected in three key areas: crypto-native, fully banked, and unbanked worlds.
In a $29 trillion crypto-native world, stablecoins act as gateways to DeFi, crucial for trading, lending, derivatives, liquidity farming, and RWA. Crypto-native stablecoins compete through liquidity incentives and DeFi integration.
In a fully banked world exceeding $400 trillion, stablecoins enhance financial efficiency, primarily for B2B, P2P, and B2C payments. Stablecoins focus on regulation, licensing, and utilizing banks, card networks, payments, and merchants for distribution.
In an unbanked world, stablecoins provide access to dollars and promote financial inclusion. Stablecoins are used for savings, payments, foreign exchange, and yield generation. Grassroots market promotion is crucial.
Natives of the crypto world
In Q2 2024, stablecoins accounted for 8.2% of the total crypto market cap. Maintaining exchange rate stability remains challenging, with unique incentives being key to expanding on-chain distribution, and the core issue lies in the limited applicability of on-chain applications.
The battle for dollar peg
Fiat-backed stablecoins rely on banking relationships:
93.33% are fiat-backed stablecoins. They offer greater stability and capital efficiency, with banks having the final say on redemptions. Regulated issuers like Paxos, due to their successful redemption of billions of BUSD, have become the dollar issuers for PayPal.
CDP stablecoins improve collateral and liquidation to enhance exchange rate stability:
3.89% are collateralized debt position (CDP) stablecoins. They use cryptocurrencies as collateral but face issues with scalability and volatility. By 2024, CDPs have improved their risk resilience by accepting broader liquidity and stable collateral; Aave's GHO accepts any asset in Aave v3, while Curve's crvUSD recently added USDM (real assets). Partial liquidations are improving, especially with crvUSD's soft liquidation, providing buffers for further bad debts through its customized automated market maker (AMM). However, the ve-token incentive model is problematic, as the valuation of CRV drops after large liquidations, causing crvUSD's market cap to shrink accordingly.
Synthetic dollars utilize hedging to maintain stability:
Ethena USDe independently captured 1.67% of the stablecoin market share within a year, reaching a market cap of $3 billion. It is a delta-neutral synthetic dollar that combats volatility by opening short positions in derivatives. Funding rates are expected to perform well in the upcoming bull market, even post-seasonal fluctuations. However, its long-term viability largely depends on centralized exchanges (CEXs), raising concerns. As similar products proliferate, the influence of small funds on Ethereum may diminish. These synthetic dollars may be susceptible to black swan events and can only maintain subdued funding rates during bear markets.
Algorithmic stablecoins have dropped to 0.56%.
Liquidity guidance challenges
Crypto stablecoins leverage yields to attract liquidity. Fundamentally, their liquidity costs include the risk-free rate plus risk premium. To remain competitive, stablecoin yields must at least match treasury bill (T-bill) rates—we have seen stablecoin borrowing costs decrease as T-bill rates reached 5.5%. sFrax and DAI lead in treasury bill exposure. By 2024, multiple RWA projects have enhanced the composability of on-chain treasury bills: CrvUSD uses Mountain's USDM as collateral, while Ondo's USDY and Ethena's USDtb are backed by Blackstone's BUIDL.
Based on treasury bond rates, stablecoins adopt various strategies to increase risk premiums, including fixed budget incentives (such as distributions from decentralized exchanges that could lead to constraints and death spirals); user fees (tied to lending and perpetual contract volumes); volatility arbitrage (selling off during decreased volatility); and reserve utilization, such as staking or re-staking (insufficient attractiveness).
In 2024, innovative liquidity strategies are emerging:
Maximizing on-chain yields: While many yields currently stem from self-consuming DeFi inflation as incentives, more innovative strategies are emerging. By treating reserves as banks, projects like CAP aim to channel MEV and arbitrage profits directly to stablecoin holders, providing sustainable and more substantial potential sources of yield.
Compounding with treasury yields: Using new combinatory capabilities from RWA projects, initiatives like Usual Money (USD0) offer 'theoretically' unlimited yields pegged to treasury bond returns—attracting $350 million in liquidity providers and entering Binance's launch pool. Agora (AUSD) is also an offshore stablecoin with treasury bond yields.
Balancing high yields against volatility: Newer stablecoins employ diversified basket approaches to avoid single yield and volatility risks, offering balanced high yields. For example, Fortunafi's Reservoir allocates treasury bonds, Hilbert, Morpho, PSM, and dynamically adjusts components, incorporating other high-yield assets as necessary.
Is Total Value Locked (TVL) ephemeral? Stablecoin yields often face scalability challenges. While fixed budget yields can generate initial growth, as total value locked increases, yields get diluted, leading to diminishing yield effects over time. Without sustainable yields or real utility in trading pairs and derivatives after incentives, its total locked value is unlikely to remain stable.
DeFi Gateway Dilemma
On-chain visibility allows us to scrutinize the true nature of stablecoins: are stablecoins a genuine representation of currency as a medium of exchange, or merely financial products for yields?
Only the best-yielding stablecoins are used as trading pairs on CEXs:
Nearly 80% of transactions still occur on centralized exchanges, with top CEXs supporting their 'preferred' stablecoins (e.g., Binance's FDUSD, Coinbase's USDC). Other CEXs rely on the spillover liquidity of USDT and USDC. Additionally, stablecoins are striving to become margin deposits for CEXs.
Very few stablecoins are used as trading pairs on DEXs:
Currently, only USDT, USDC, and a few DAI are used as trading pairs. Other stablecoins, such as Ethena, have 57% of USDe staked within their own protocol, held purely as financial products to earn yields, far from being mediums of exchange.
Makerdao + Curve + Morpho + Pendle, composition allocation:
Markets like Jupiter, GMX, and DYDX tend to use USDC for deposits, as the minting-redeeming process of USDT is more suspect. Lending platforms like Morpho and AAVE prefer USDC due to better liquidity on Ethereum. Conversely, PYUSD is primarily used for lending on Solana's Kamino, especially when incentives are offered by the Solana Foundation. Ethena's USDe is mainly used for yield activities on Pendle.
RWA is undervalued:
Most RWA platforms, such as Blackstone, use USDC as the minting asset for compliance reasons, and Blackstone is also a shareholder of Circle. DAI has seen success in its RWA products.
Expanding markets or exploring new domains:
While stablecoins can attract major liquidity providers through incentives, they face a bottleneck—the usage of DeFi is declining. Stablecoins are now at a crossroads: they must either wait for the expansion of crypto-native activities or seek new utility beyond this space.
Anomaly in a fully banked world
Key players are taking action
Global regulation is gradually clarifying:
99% of stablecoins are dollar-backed, with the federal government holding ultimate influence. Following the crypto-friendly Trump presidency, the U.S. regulatory framework is expected to clarify, with promises to lower interest rates and ban CBDCs, potentially benefiting stablecoins. The U.S. Treasury report highlights the impact of stablecoins on the demand for short-term government bonds, with Tether holding $90 billion in U.S. debt. Preventing crypto crime and maintaining dollar dominance are also motivators. By 2024, multiple countries have established regulatory frameworks under common principles, including approval for stablecoin issuance, reserve liquidity and stability requirements, restrictions on foreign currency stablecoin usage, and generally prohibiting interest generation. Key examples include: MiCA (EU), PTSR (UAE), Sandbox (Hong Kong), MAS (Singapore), and PSA (Japan). Notably, Bermuda has become the first country to accept stablecoin tax payments and license interest-bearing stablecoin issuance.
Licensed issuers gain trust:
The issuance of stablecoins requires technical capabilities, inter-regional compliance, and strong governance. Key players include Paxos (PYUSD, BUSD), Brale (USC), and Bridge (B2B API). Reserve management is handled by trusted institutions like BNY Mellon, which safely generates returns by investing in funds managed by Blackstone. BUIDL now allows a broader range of on-chain projects to earn returns.
Banks are the gatekeepers for withdrawals:
While deposits (fiat to stablecoin) have become easier, the challenges of withdrawals (stablecoin to fiat) remain, as banks struggle to verify the source of funds. Banks prefer to use licensed exchanges like Coinbase and Kraken, which conduct KYC/KYB and have similar anti-money laundering frameworks. While high-reputation banks like Standard Chartered have begun accepting withdrawals, smaller banks like Singapore's DBS Bank are moving quickly. B2B services like Bridge aggregate withdrawal channels and manage billions in transaction volume for high-end clients, including SpaceX and the U.S. government.
Issuers hold the final say:
As a leading compliant stablecoin issuer, Circle relies on Coinbase and is seeking global licenses and partnerships. However, as institutions issue their own stablecoins, this strategy may be affected, given its unparalleled business model—Tether, with 100 employees, earned $5.2 billion in profits from investing its reserves in the first half of 2024. Banks like JPMorgan have already launched JPM Coin for institutional trading. Payment app Stripe's acquisition of Bridge shows interest in owning a stablecoin stack rather than just integrating USDC. PayPal has also issued PYUSD to capture reserve yields. Card networks like Visa and Mastercard are tentatively accepting stablecoins.
Stablecoins enhance efficiency in a banked world.
With trusted issuers, healthy banking relationships, and distributors as foundational support, stablecoins can enhance the efficiency of large-scale financial systems, especially in payments.
Traditional systems face limitations in efficiency and cost. In-app or intra-bank transfers provide instant settlement, but are limited to within their ecosystems. Interbank payment fees are around 2.6% (70% to issuing banks, 20% to receiving banks, 10% to card networks), with settlement times exceeding a day. Cross-border transaction costs are even higher, around 6.25%, and settlement times can extend to five days.
Stablecoin payments offer instant settlements by eliminating intermediaries. This accelerates the flow of funds and reduces capital costs while providing programmable features like conditional auto-payments.
B2B (annual transaction volume $120-150 trillion): Banks are well-positioned to drive stablecoin adoption. JPMorgan developed JPM Coin on its Quorum chain, which, as of October 2023, is used for approximately $1 billion in transactions daily.
P2P (annual transaction volume $1.8-2 trillion): E-wallets and mobile payment apps are well-positioned, with PayPal launching PYUSD, currently valued at $604 million on Ethereum and Solana. PayPal allows end users to register and send PYUSD for free.
B2C Commerce (annual transaction volume $5.5-6 trillion): Stablecoins need to collaborate with POS, banking APIs, and card networks, with Visa becoming the first payment network to settle transactions using USDC in 2021.
Innovators in an underbanked world
Shadow dollar economy
Due to severe currency devaluation and economic instability, emerging markets urgently need stablecoins. In Turkey, stablecoin purchases account for 3.7% of its GDP. People and businesses are willing to pay a premium over the fiat dollar for stablecoins, with Argentina's stablecoin premium reaching 30.5% and Nigeria's at 22.1%. Stablecoins provide access to dollars and financial inclusion.
Tether dominates this space with a reliable 10-year track record. Even when facing complex banking relationships and redemption crises—Tether admitted in April 2019 that USDT was only 70% backed by reserves—its peg remains stable. This is because Tether has built a robust shadow dollar economy: in emerging markets, people rarely exchange USDT for fiat; they view it as dollars, a phenomenon particularly evident in regions like Africa and Latin America for paying employees, invoices, etc. Tether achieved this without incentives, relying solely on its long-standing presence and continued utility to enhance its credibility and acceptance. This should be the ultimate goal for every stablecoin.
Dollar Acquisition
Remittances: Remittances inequality slows economic growth. In Sub-Saharan Africa, individuals sending remittances to low- and middle-income countries and developed countries pay an average of 8.5% of the total remittance amount. For businesses, the situation is even more severe, with high costs, long processing times, bureaucracy, and exchange rate risks directly affecting the growth and competitiveness of companies in the region.
Dollar Acquisition: From 1992 to 2022, currency fluctuations caused a GDP loss of $1.2 trillion in 17 emerging market countries—an astonishing 9.4% of their total GDP. Acquiring dollars is crucial for local financial development. Many crypto projects are focused on entering the market, with ZAR concentrating on grassroots 'DePIN' methods. These methods leverage local agents to facilitate cash and stablecoin transactions across Africa, Latin America, and Pakistan.
Foreign Exchange: Today, the foreign exchange market has a daily trading volume exceeding $7.5 trillion. In the Global South, individuals often rely on black markets to exchange local fiat currency for dollars, mainly due to more favorable rates compared to official channels. Binance P2P has begun to be adopted, but its order book approach lacks flexibility. Many projects like ViFi are building on-chain automated market maker solutions for foreign exchange.
Humanitarian Aid Distribution: Ukrainian war refugees can receive humanitarian aid in the form of USDC, which they can store in digital wallets or cash out locally. In Venezuela, frontline healthcare workers used USDC to pay for medical supplies during the COVID-19 pandemic amid deepening political and economic crises.
Conclusion: Interwoven
Interoperability
Exchanging different currencies:
Traditional foreign exchange systems are highly inefficient and face multiple challenges: counterparty settlement risks (CLS has improved but is cumbersome), costs within multi-bank systems (involves six banks when purchasing yen at Australian banks to London dollar offices), global settlement timezone differences (Canadian and Japanese bank systems overlap for less than five hours daily), and limited access to foreign exchange markets (retail users pay 100 times the fees of large institutions). On-chain foreign exchange offers significant advantages:
Cost, efficiency, and transparency: Oracles like Redstone and Chainlink provide real-time price quotes. Decentralized exchanges (DEXs) offer cost efficiency and transparency, with Uniswap CLMM reducing trading costs to 0.15-0.25%—about 90% lower than traditional foreign exchange. Shifting from T+2 bank settlements to instant settlements allows arbitrageurs to employ various strategies to correct mispricing.
Flexibility and accessibility: On-chain foreign exchange enables corporate treasurers and asset managers to access a wide range of products without needing multiple bank accounts for specific currencies. Retail users can obtain the best forex prices using crypto wallets with embedded DEX APIs.
Separation of currency and jurisdiction: Transactions no longer require domestic banks, detaching them from underlying jurisdictions. This approach leverages the efficiencies of digitization while maintaining monetary sovereignty, although drawbacks still exist.
However, challenges remain, including the scarcity of non-dollar-denominated digital assets, oracle security, support for long-tail currencies, regulation, and unified interfaces with on- and off-ramps. Despite these hurdles, on-chain foreign exchange still presents enticing opportunities. For instance, Citibank is developing blockchain FX solutions under the guidance of the Monetary Authority of Singapore.
Interchanging different stablecoins:
Imagine a world where most companies issue their own stablecoins. Stablecoin exchanges pose a challenge: paying JPMorgan merchants with PayPal's PYUSD. While on- and off-ramp solutions could address this issue, they lose the efficiency promised by cryptocurrencies. On-chain automated market makers (AMM) provide optimal real-time low-cost stablecoin-to-stablecoin trading. For instance, Uniswap offers multiple such pools, with fees as low as 0.01%. However, once billions flow onto the chain, trust in the security of smart contracts is essential, and there must be sufficient liquidity and instant performance to support real-world activities.
Interchanging different chains:
Major blockchains have diverse advantages and disadvantages, leading to stablecoins being deployed on multiple chains. This multi-chain approach introduces cross-chain challenges, with bridging posing significant security risks. In my view, stablecoins launching their own Layer 0 is the best solution, such as USDC's CCTP, PYUSD's Layer 0 integration, and the actions we witness from USDT recalling bridged locked tokens, potentially launching similar Layer 0 solutions.
Meanwhile, several pending questions remain:
Will compliant stablecoins hinder 'open finance' because they could potentially monitor, freeze, and seize funds?
Will compliant stablecoins still avoid providing yields that could be classified as securities products, thereby preventing on-chain decentralized finance (DeFi) from benefiting from its massive expansion?
Considering Ethereum's slowness and its L2 dependence on a single sequencer, Solana's imperfect track record, and other popular chains lacking long-term performance records, can any open blockchain truly handle massive funds?
Does the separation of currency and jurisdiction introduce more chaos or opportunities?
The financial revolution led by stablecoins is both exciting and unpredictable before us—this is a new chapter where freedom and regulation dance in delicate balance.