Original Title: Stablecoin Playbook: Flipping Billions to Trillions
Author: Rui Shang, SevenX Ventures
Translation: Mensh, ChainCatcher
Overview: 8 main stablecoin-related opportunities —
The younger generation are digital natives, and stablecoins are their native currency. As artificial intelligence and the Internet of Things drive billions of automated microtransactions, global finance needs flexible currency solutions. Stablecoins act as 'currency APIs,' transferring seamlessly like internet data and reaching a transaction volume of $45 trillion by 2024, a figure expected to grow as more institutions realize that stablecoins are an unparalleled business model — Tether made $5.2 billion in profits in the first half of 2024 by investing its dollar reserves.
In the competition of stablecoins, complex crypto mechanisms are not key; distribution and real adoption are what truly matters. Their adoption is primarily reflected in three key areas: crypto-native, fully banked, and underbanked worlds.
In a $29 trillion crypto-native world, stablecoins are critical entry points for DeFi, essential for trading, lending, derivatives, liquidity farming, and RWA. Crypto-native stablecoins compete through liquidity incentives and DeFi integration.
In a fully banked world of over $400 trillion, stablecoins enhance financial efficiency and are primarily used for B2B, P2P, and B2C payments. Stablecoins focus on regulation, licensing, and leveraging 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 critical.
Digital Natives of the Crypto World
In the second quarter of 2024, stablecoins accounted for 8.2% of the total crypto market cap. Maintaining exchange rate stability remains challenging, and unique incentives are key to expanding on-chain distribution, with the core issue being the limited applicability of on-chain applications.
The Dollar Peg Battle
Fiat-backed stablecoins rely on banking relationships: 93.33% are fiat-backed stablecoins. They have greater stability and capital efficiency, with banks having the final say through control of redemptions. Regulated issuers like Paxos have become PayPal's dollar issuer due to their successful redemption of billions in BUSD.
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 challenges in scaling and volatility. By 2024, CDPs have increased their resilience by accepting broader liquidity and stable collateral, with Aave's GHO accepting any asset in Aave v3, and Curve's crvUSD recently adding USDM (real assets). Partial liquidation is improving, especially with crvUSD's soft liquidation, providing buffers for further bad debt through its custom automated market maker (AMM). However, the ve-token incentive model faces issues, as the valuation of CRV declines after large-scale liquidations, leading to a decrease in the market value of crvUSD.
Synthetic dollars maintain stability through hedging: Ethena USDe alone accounted for 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 hedges against volatility by opening short positions in derivatives. It is expected to perform well in the upcoming bull market, even after seasonal fluctuations. However, its long-term viability largely depends on centralized exchanges (CEX), which raises questions. As similar products increase, the impact of small funds on Ethereum may diminish. These synthetic dollars may also be vulnerable to black swan events and may only maintain subdued funding rates during bear markets.
Algorithmic stablecoins drop to 0.56%.
Liquidity Guidance Challenges
Crypto stablecoins attract liquidity through yields. Fundamentally, their liquidity costs include the risk-free rate plus a risk premium. To remain competitive, stablecoins' yields must at least match Treasury bill (T-bill) rates — we have already seen stablecoin borrowing costs decline as T-bill rates reached 5.5%. sFrax and DAI lead in Treasury bill exposure. By 2024, multiple RWA projects are improving 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 bill rates, stablecoins adopt various strategies to increase risk premiums, including fixed budget incentives (such as those from decentralized exchanges, which may lead to constraints and death spirals); user fees (linked to borrowing and perpetual contract trading volumes); volatility arbitrage (selling off when volatility decreases); and reserve utilization, such as staking or re-staking (which is not attractive).
In 2024, innovative liquidity strategies are emerging:
Maximizing in-block yields: While many yields currently stem from self-consuming DeFi inflation as incentives, more innovative strategies are emerging. By using reserves as banks, projects like CAP aim to direct MEV and arbitrage profits directly to stablecoin holders, providing sustainable and more substantial potential yield sources.
Compounding with T-bill yields: Utilizing the new composability of RWA projects, initiatives like Usual Money (USD 0) provide 'theoretically' unlimited yields, benchmarked against T-bill yields — attracting $350 million in liquidity providers and entering Binance's launch pool. Agora (AUSD) is also an offshore stablecoin with T-bill yields.
Balancing high yields against volatility: Newer stablecoins adopt diversified basket approaches to avoid single yield and volatility risks, providing balanced high yields. For instance, Fortunafi's Reservoir allocates Treasury bills, Hilbert, Morpho, and PSM, dynamically adjusting portions and incorporating other high-yield assets as necessary.
Is total locked value (TVL) ephemeral? Stablecoin yields often face scalability challenges. While fixed-budget yields can provide initial growth, as total locked value increases, yields may be diluted, leading to diminishing returns over time. Without sustainable yields or true utility in trading pairs and derivatives post-incentives, total locked value is unlikely to remain stable.
DeFi Gateway Dilemma
On-chain visibility allows us to examine the true nature of stablecoins: Are stablecoins the genuine representation of currency as a medium of exchange, or merely financial products for yield?
Only the best-yielding stablecoins are used as trading pairs on CEXs: nearly 80% of trades 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 from USDT and USDC. Additionally, stablecoins are struggling to become margin deposits for CEXs.
Few stablecoins are used as trading pairs on DEXs: currently, only USDT, USDC, and a small number of DAI are used as trading pairs. Other stablecoins, such as Ethena, whose 57% USDe is staked in its own protocol, are purely held as financial products to earn yields, far from being exchange media.
Makerdao + Curve + Morpho + Pendle, combination allocation: Markets like Jupiter, GMX, and DYDX tend to use USDC for deposits, as the minting-redemption process of USDT is more suspicious. Lending platforms like Morpho and AAVE prefer USDC due to its better liquidity on Ethereum. On the other hand, PYUSD is primarily used for borrowing on Kamino on Solana, especially when incentivized by the Solana Foundation. Ethena's USDe is mainly used for yield activities on Pendle.
RWA is undervalued: Most RWA platforms, such as Blackstone Group, use USDC as minting assets for compliance reasons, and Blackstone is also a shareholder of Circle. DAI has achieved success in its RWA products.
Expanding markets or exploring new territories: While stablecoins can attract major liquidity providers through incentives, they face bottlenecks — DeFi usage is declining. Stablecoins now face a dilemma: they must wait for the expansion of crypto-native activities or seek new utility beyond this realm.
Anomaly in a fully banked world
Key players are taking action
Global regulation is gradually becoming clearer: 99% of stablecoins are dollar-backed, with the federal government holding ultimate influence. Following a crypto-friendly Trump presidency, regulatory frameworks in the United States are expected to become clear, with promises to lower interest rates and ban CBDCs, which could benefit stablecoins. The U.S. Treasury report indicates the impact of stablecoins on demand for short-term government debt, with Tether holding $90 billion in U.S. debt. Preventing crypto crime and maintaining the dominance of the dollar are also motivating factors. By 2024, multiple countries have established regulatory frameworks under shared principles, including approvals for stablecoin issuance, reserve liquidity and stability requirements, restrictions on the use of foreign currency stablecoins, and typically prohibiting the generation of interest. Key examples include: MiCA (EU), PTSR (UAE), Sandbox (Hong Kong), MAS (Singapore), 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 management. Key participants include Paxos (PYUSD, BUSD), Brale (USC), and Bridge (B2B API). Reserve management is handled by trusted institutions like BNY Mellon, safely generating income by investing in their Blackstone-managed funds. BUIDL now allows a broader range of on-chain projects to generate income.
Banks are the gatekeepers of withdrawals: while deposits (fiat to stablecoin) have become easier, withdrawals (stablecoin to fiat) still pose challenges, 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 reputable banks like Standard Chartered begin to accept withdrawals, smaller banks like Singapore's DBS are acting quickly. B2B services like Bridge aggregate withdrawal channels and manage billions of dollars in transaction volume for high-end clients including SpaceX and the U.S. government.
Issuers have the final say: as a compliance stablecoin leader, Circle relies on Coinbase and is seeking global licenses and partnerships. However, as institutions issue their own stablecoins, this strategy may be impacted, as its business model is unparalleled — Tether, with 100 employees, made $5.2 billion in profits in the first half of 2024 from investing its reserves. 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, not just integrating USDC. PayPal has also issued PYUSD to capture reserve income. Card networks like Visa and Mastercard are tentatively accepting stablecoins.
Stablecoins enhance efficiency in the banked world.
With trusted issuers, healthy banking relationships, and distributors as foundational support, stablecoins can improve the efficiency of large-scale financial systems, especially in the payments sector.
Traditional systems face efficiency and cost constraints. In-app or intra-bank transfers offer instant settlement but are limited to their ecosystems. Interbank payment fees are about 2.6% (70% to the issuing bank, 20% to the receiving bank, 10% to the card network), with settlement times exceeding a day. Cross-border transaction costs are higher, around 6.25%, with settlement times extending up to five days.
Stablecoin payments provide peer-to-peer instant settlement by eliminating intermediaries. This accelerates the speed of fund flow, reduces capital costs, and offers programmable features like conditional automatic payments.
B2B (Annual Transaction Volume $120-150 Trillion): Banks are in the best position to drive stablecoin adoption. JPMorgan has developed JPM Coin on its Quorum chain, which is used for approximately $1 billion in transactions daily as of October 2023.
P2P (Annual Transaction Volume $1.8-2 Trillion): E-wallets and mobile payment apps are best positioned, with PayPal having launched PYUSD, currently valued at $604 million on Ethereum and Solana. PayPal allows end users to register for free and send PYUSD.
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 the underbanked world
Shadow Dollar Economy
Emerging markets desperately need stablecoins due to severe currency devaluation and economic instability. In Turkey, stablecoin purchases account for 3.7% of its GDP. People and businesses are willing to pay a premium above the statutory dollar for stablecoins, with Argentina's stablecoin premium reaching 30.5% and Nigeria's at 22.1%. Stablecoins offer access to dollars and financial inclusion.
Tether dominates the field with a reliable 10-year track record. Even when faced with 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 strong shadow dollar economy: in emerging markets, people rarely exchange USDT for fiat currency, viewing it instead as dollars, a phenomenon particularly evident in regions like Africa and Latin America for paying employees, invoices, and more. Tether achieved this without incentives, relying solely on its long-standing presence and continued practicality, enhancing its credibility and acceptance. This should be the ultimate goal for every stablecoin.
Dollar Acquisition
Remittances: Remittance inequality hampers economic growth. In Sub-Saharan Africa, individuals sending money to low and middle-income countries and developed nations pay an average of 8.5% of the total remittance amount. For businesses, the situation is even more dire, with high fees, long processing times, bureaucracy, and exchange rate risks directly impacting growth and competitiveness in the region.
Dollar acquisition: From 1992 to 2022, currency volatility resulted in a GDP loss of $1.2 trillion for 17 emerging market countries — an astonishing 9.4% of their total GDP. Accessing dollars is crucial for local financial development. Many crypto projects are dedicated to entry, with ZAR focusing on grassroots 'DePIN' approaches. These approaches leverage local agents to facilitate cash and stablecoin transactions in Africa, Latin America, and Pakistan.
Foreign exchange: Today, the foreign exchange market trades over $7.5 trillion daily. In the Global South, individuals often rely on black markets to exchange local fiat for dollars, primarily because black market rates are more favorable than official channels. Binance P2P is beginning to be adopted, but its order book approach lacks flexibility. Many projects like ViFi are building on-chain automated market maker forex solutions.
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, amid deepening political and economic crises, frontline medical workers used USDC to pay for medical supplies during the COVID-19 pandemic.
Conclusion: Interwoven
Interoperability
Cross-currency swaps: The traditional foreign exchange system is highly inefficient and faces multiple challenges: counterparty settlement risks (CLS, though enhanced, remains cumbersome), the costs of multi-bank systems (involving six banks when purchasing yen from Australian banks to London dollars), global settlement timezone differences (Canadian and Japanese bank systems overlap for less than 5 hours each day), and limited forex market access (the fees paid by retail users are 100 times that of large institutions). On-chain forex 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 transaction costs to 0.15-0.25% — about 90% lower than traditional foreign exchange. Shifting from T+2 bank settlements to instant settlements enables arbitrageurs to employ various strategies to correct mispricing.
Flexibility and accessibility: On-chain forex allows corporate treasurers and asset managers to access a wide range of products without needing multiple bank accounts in specific currencies. Retail users can access 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 the underlying jurisdiction. This approach leverages the efficiencies of digitization while maintaining currency sovereignty, although drawbacks remain.
However, challenges persist, including the scarcity of non-dollar-denominated digital assets, oracle security, support for long-tail currencies, regulation, and unified interfaces with on-chain and off-chain solutions. Despite these barriers, on-chain forex still presents enticing opportunities. For example, Citigroup is developing a blockchain forex solution under the guidance of the Monetary Authority of Singapore.
Cross-stablecoin swaps: Imagine a world where most companies are issuing their own stablecoins. Stablecoin exchanges present a challenge: using PayPal's PYUSD to pay merchants at JPMorgan. While on-chain solutions can address this issue, they lose the efficiency promised by cryptocurrencies. On-chain automated market makers (AMMs) provide optimal real-time low-cost stablecoin-to-stablecoin trading. For example, Uniswap offers multiple such pools with fees as low as 0.01%. However, once billions in funds enter the chain, there must be trust in the security of smart contracts, and sufficient liquidity and instant performance must be in place to support real-world activities.
Cross-chain swaps: Major blockchains have diverse advantages and disadvantages, leading to stablecoins being deployed across multiple chains. This multi-chain approach introduces cross-chain challenges, with bridging posing significant security risks. In my view, the best solution for stablecoins is to launch their own Layer 0, such as USDC's CCTP, PYUSD's Layer 0 integration, and the recent actions of USDT recalling bridged locked tokens, which may launch similar Layer 0 solutions.
Unresolved Questions
Meanwhile, several unresolved questions remain:
Will compliant stablecoins hinder 'open finance,' as compliant stablecoins can potentially monitor, freeze, and extract funds?
Will compliant stablecoins still avoid providing yields that could be classified as securities products, thus preventing on-chain decentralized finance (DeFi) from benefiting from its large-scale expansion?
Given Ethereum's slowness and its L2 reliance on a single sequencer, Solana's imperfect track record, and other popular chains' lack of long-term performance records, can any open blockchain truly handle massive funds?
Does the separation of currency and jurisdiction introduce more chaos or opportunity?
The financial revolution led by stablecoins is both exciting and unpredictable — a new chapter where freedom and regulation dance in delicate balance.
