Image source: Stripe Inc.
Stripe Inc. is headquartered in South San Francisco, California, on Tuesday, April 16, 2024.
Stripe recently acquired the stablecoin orchestration startup Bridge, which has caused a significant stir in the cryptocurrency world. This is the first time a large payment company has invested over a billion dollars to promote the development of this technology. While this is not Stripe's first foray into the cryptocurrency industry, the timing feels particularly different. Currently, market enthusiasm for stablecoins is at an all-time high, and Bridge's co-founder Zach Abrams has successfully positioned the company as the 'Stripe of the cryptocurrency world,' thus attracting the attention of the Collison brothers.
Many may not have noticed that while Bridge is valued at $1.1 billion for Stripe, it may not have reached that valuation itself. This is not due to a lack of capability from the team—Zach and his team have gathered a group of top engineers—but because it is extremely challenging to profit in the stablecoin industry. Whether issuing, orchestrating (i.e., converting between different stablecoins), or integrating with traditional banking systems, achieving long-term profitability is a major challenge.
So why is this the case? After all, Circle and Tether have made substantial profits against the backdrop of rising interest rates over the past two years, and as market expectations for Circle's listing continue to grow, it seems the market is prepared for further growth and consolidation.
However, the reality is that the network effects in the stablecoin market may not be as strong as expected, and it is not a 'winner-takes-all' situation. In fact, stablecoins could just be loss-leading products that, without necessary supplementary assets, may even become loss-making projects. While industry insiders often believe liquidity is the main reason only a few stablecoins can dominate, the reality is much more complex.
What are some common misunderstandings about stablecoins? Let's dive deeper.
Image source: Photographer Nathan Laine/Bloomberg© 2023 Bloomberg Finance LP. Paolo Ardoino, CEO of Tether Holdings Ltd.
1. Stablecoins need a supporting business model.
When designing Libra, we realized that for stablecoins to succeed, they must rely on a supporting business model. The Libra ecosystem is built around a nonprofit association that combines wallets, merchants, and digital platforms to support the issuance of stablecoins and payment networks.
Relying solely on reserve interest to profit from stablecoins is not sustainable. We recognized this when planning to issue stablecoins backed by low-interest rates (like euros) or even negative rates (like yen). Stablecoin issuers like Circle and Tether seem unaware that the current high-interest environment is only a temporary anomaly, and a sustainable business model cannot be built on such a potentially quickly changing foundation.
Image source: Deep潮 TechFlow
Of course, stablecoins can profit not only from 'stocks' but also from 'flows.' Circle has recently raised redemption fees, indicating they are beginning to realize this. However, this practice contradicts a fundamental principle of the payment industry: to earn users' trust and loyalty, the movement of funds should be seamless. While exit fees may be acceptable in the gaming industry, such fees would undermine people's basic expectations of free-flowing funds in mainstream payments. Therefore, transaction fees may become a potential source of income, but implementing these fees on the blockchain without strict control protocols is quite challenging. Even so, it is not possible to charge fees for transactions between users within the same wallet provider. These are all scenarios we explored deeply in the Libra project, revealing the complexity and uncertainty of the nonprofit association business model.
So, how should stablecoin issuers choose? Unless they rely on temporary regulatory loopholes— which are unlikely to last long (discussed in the next section)— they need to start competing with their own customers.
Circle's recent series of initiatives, including the launch of programmable wallets, cross-chain protocols, and the Mint program, clearly shows the company's development direction. However, this is not good news for many closely related partners. This situation is not uncommon in platform strategies: never let partners intrude between you and your customers. However, many exchanges and payment companies have made this mistake by incorporating Circle into their ecosystems. To survive, Circle must transform into a payment company, even if it means encroaching on allies' markets. This model is not new—think of the relationships between Amazon and third-party sellers, travel platforms and hotel chains, or Facebook and news publishers. When a platform succeeds, it often consolidates functions originally dependent on partners and monetizes effective parts. Developers in the Apple and Google ecosystems are very familiar with this.
Stripe does not face such a dilemma. As one of the most successful payment companies globally, they have mastered how to build and profit from a streamlined software layer on top of global capital flows—this model efficiently expands functionality through network effects without relying on country-specific banking licenses. Stablecoins have accelerated this process by bridging Stripe with domestic banks and payment networks, enabling networks traditionally constrained by conventional institutions (like card companies) to overcome last-mile issues and provide greater value to merchants and consumers.
This is why PayPal launched its own stablecoin, and other fintech giants like Revolut and Robinhood followed suit. Unlike before, they have begun to compete on open protocols, but can enhance their core business by adjusting their stablecoin strategies. This way, they will make stablecoins extremely cheap and convenient for consumers and businesses.
Image source: 2023 Bloomberg Finance LP. On Tuesday, September 26, 2023, Argentine pesos worth $1,000 are sorted in Buenos Aires, Argentina.
2. Dollarization is not a product.
The cryptocurrency industry has seriously underestimated the impact of regulation on its future. We experienced this when we released the first version of the Libra white paper, leading to two years of difficult regulatory dialogues to ensure the project met the expectations of legislators and regulators.
Today's stablecoins face the same situation. Many believe stablecoins can seamlessly provide consumers and businesses with low-cost global dollar accounts. After all, during a crisis, people around the world want to hold dollars in a 'too big to fail' U.S. financial institution. Furthermore, some may believe that the U.S. government would support this trend, as it helps solidify the dollar's status as the global reserve currency.
However, the reality is much more complex. Although the U.S. would face huge losses if it lost its financial and sanctions infrastructure as the global standard—especially if the dollar's 'excessive privilege' is weakened like previous reserve currencies—the U.S. Treasury may not always support accelerated dollarization. In fact, its Office of International Affairs may see this as a significant challenge to diplomacy and global financial stability.
Countries that value monetary policy independence, are concerned about capital flight during crises, and prioritize the stability of domestic banks will strongly oppose the widespread adoption of frictionless dollar stablecoin accounts. They will use all means to prevent or restrict these accounts, just as they resist other forms of dollarization. Although a complete ban on crypto trading may be unrealistic, as evidenced by the evolution of the internet, governments still have various ways to limit access and suppress its adoption in the mainstream.
Does this mean that stablecoins will face difficulties in emerging economies with capital controls or concerns about capital flight? Not really—the rise of domestic stablecoins that adhere to local banking and regulatory frameworks is an inevitable trend. Although the U.S. dollar has long dominated the stablecoin market, the situation could change rapidly. In Europe, with the implementation of the MiCA regulations (Markets in Crypto-Assets), banks, fintech companies, and emerging enterprises are rushing to issue euro-denominated stablecoins. This strategy helps maintain the stability of the local banking system and will become increasingly important in regions like Latin America, Africa, and Asia.
Clear regulation also allows banks to compete in a fair environment, which has not yet been realized in the U.S. In addition to issuing fully backed stablecoins, banks can also issue deposit tokens, increasing profits through money creation. This places pure stablecoin issuers without banking licenses, discount windows, or government deposit insurance at a significant competitive disadvantage.
Image source: Anthony ... [+] © 2016 Bloomberg Finance LP. Various payment service icons displayed in Hong Kong, China.
3. There will not be a single stablecoin winner.
Indeed, issuers can build network effects around the global liquidity and availability of their stablecoins, but as decentralized exchange (DEX) protocols know, liquidity can be easily gained and easily lost. Similarly, the scale effects of branding and marketing may help issuers capture market share, but this does not always translate into a truly sustainable competitive advantage.
The reality is that the most core feature of stablecoins—being pegged to currencies like the U.S. dollar or euro—is also their greatest weakness. Currently, these assets are seen as existing independently, but once regulatory standards are unified to make all stablecoins equally secure, individuals and businesses will regard them as ordinary dollars or euros. Although there are indeed legal distinctions—as evidenced by the Silicon Valley Bank run—most people do not care whether their dollars are held in a U.S. bank or JPMorgan. This is the magic of the dollar as a currency, all driven by the Federal Reserve behind the scenes.
Stablecoins will also go through a similar process. Although there may be dozens of stablecoins in each major market, users will overlook this complexity. Once this happens, the economy of stablecoins will be more favorable to companies with complementary business models or those that control the interface between stablecoins and their supporting assets (such as bank deposits, U.S. Treasury bonds, or money market funds).
This is bad news for pure stablecoin issuers like Circle, as their banking system interfaces rely on companies like BlackRock and BNY Mellon. These financial giants could become direct competitors. For example, BlackRock is already operating the world's largest tokenized U.S. Treasury and repo fund (BUIDL).
A common misunderstanding in the history of technological disruption is that existing companies can often successfully fend off challenges. Even Clayton Christensen's classic case of disruptive innovation—the rise of hard disk drives over small disk drive manufacturers—is not entirely accurate: Seagate not only survived disruption but remains the largest manufacturer in the world. In highly regulated industries like financial services, the challenges faced by newcomers are even greater.
Image source: 深潮 TechFlow
Tech companies with banking licenses, such as Revolut, Monzo, and Nubank, have already secured advantageous positions in the market, while others may accelerate their license acquisition to gain similar advantages. However, many participants in the stablecoin market will struggle to compete with traditional banks and may face risks of being acquired or failing. Banks and credit card companies will resist a market dominated by a few stablecoins, instead favoring a market structure comprised of multiple interoperable and interchangeable issuers. When this happens, liquidity and availability will be driven by existing consumer and merchant distribution channels, which is where new banks and payment companies like Stripe and Adyen have an advantage.
Fully backed stablecoins like USDC and USDT need to find high-frequency use cases, such as cross-border capital flows, to maintain their market position or attract a decentralized finance (DeFi) ecosystem that can introduce transparent scoring to support their narrow banking model. At the same time, deposit tokens or tokenized funds issued by banks will see broader applications due to their stronger economic fundamentals, especially at the consumer and institutional levels. Institutional users are particularly accustomed to managing diversified assets, such as money market funds, and are very concerned about the opportunity cost of their capital. In this industry, competition for stablecoin yield sharing has already begun.
In each region, whether banks or cryptocurrency companies, they will strive to become the key gateway to local markets. However, they need to seriously consider how stablecoins can lower the barriers for foreign competitors to enter the market by connecting local payment systems with blockchain networks. After all, from a business perspective, the core change is that these systems will operate based on open protocols.
Image source: Vernon photographed... [+] Yuen/NurPhoto from Getty Images. Agustin Carstens, General Manager of the Bank for International Settlements.
So what does all this mean?
For leading payment companies, fintech firms, and emerging banks, the prospects are bright. They can leverage stablecoins to streamline operations and accelerate global expansion. This also creates new opportunities for domestic stablecoin issuers, enabling them to enhance their standing and prepare for the global interoperability of payment systems—in this industry, stablecoins are expected to succeed, while the vision of the Bank for International Settlements' 'financial network' may be difficult to realize.
Leading cryptocurrency exchanges will also leverage stablecoins more aggressively to enter the consumer and merchant payment industries, becoming strong competitors to major fintech and payment companies.
Despite ongoing questions about how stablecoins can expand functions for anti-money laundering and compliance controls during their popularization process, there is no doubt that they provide an opportunity to rapidly modernize the financial services system and change the industry leadership landscape.
[Disclaimer] The market has risks, and investment should be cautious. This article does not constitute investment advice, and users should consider whether any opinions, views, or conclusions in this article align with their specific circumstances. Invest accordingly, at your own risk.
This article is republished with permission from: (深潮 TechFlow)
Original author: Christian Catalini
