Picture source: weixin portfolio: DAYBREAKER, about Tomo: eth Foundation Illustrator
"Recommended message: Stablecoins have the potential to reshape the global financial system and put the banking and financial industries under new digital competition. The battle for stablecoins is like the war in the home video industry. The outcome does not depend on the quality of technology. Or existing status, but the battle for applications. Although regulators can make it more difficult for innovators to compete, they cannot forever prevent their progress. In the end, the most likely outcome is that multiple stablecoins will disappear into the background and bring costs to the world. Lower and faster payment services.”
Stablecoins, as a novel interoperable and programmable form of currency, have the potential to reshape the global financial system. In the process, they could enable software to start eating into banking and financial services industries that have been relatively untouched by the impact of the Internet. They could replace traditional payment and credit card networks such as SWIFT, Visa and MasterCard, accelerate the unbundling of financial institutions and expand access to dollars in severely constrained countries, including those restricted by sanctions.
They also promised to change the balance of power in these industries. The companies that control the stablecoin market will have a significant impact on the future of the currency.
Given these high stakes, we are witnessing increasing competition among stablecoin issuers, established digital wallet providers, and traditional banks, all vying to establish dominance of their platforms. This article delves into the strategies of incumbents and challengers, the role regulators will play, and ultimately predicts how the market will evolve. The results are significant not only for financial institutions, but also for any company and digital platform that relies on large-scale financial flows.
Towards a currency operating system?
Platform wars, when competitors with visions of the future battle it out for market dominance, are some of the most tumultuous and tumultuous chapters in business industry, illustrating the pros and cons of business strategy.
Some devolve into trench warfare, like the endless skirmishes and (sometimes controversial) growth tactics Uber deployed against Lyft in its city-on-city battle. Or, for example, Didi used its home field advantage to poach drivers, collect counterintelligence, and use the power of regulators to outwit Uber.
Others begin quietly as technical discussions within standards-setting organizations—such as the HD-DVD vs. Blu-ray debate—and only become heated when competitors drive prices to rock bottom to tilt the market in their favor. Because these markets are winner-take-all, CEOs will do anything to seize the opportunity.
Often, the actual technology is far less important than people think. While experts continue to debate the technical merits of each solution, ultimately, the winner is execution. A classic but dated example is the VHS vs. Betamax competition in the 1980s, where JVC beat Sony despite having fewer resources and a lower-quality product. JVC understands that having more content—what we today call “apps”—is far more important than perfect videos.
The same is true in the blockchain world: Bitcoin has been an experiment for more than a decade, with countless teams raising billions in an attempt to replace Bitcoin's limited design. Yet Bitcoin is still here to stay, with its network effects and institutional adoption eclipsing other options. While engineers obsess over metrics like transactions per second, energy consumption, or dimensions of scalable functionality and decentralization, the world keeps moving forward.
Platform wars always end the same way: one dominant design emerges, everyone switches to it, and the conflict ends. The loser can only regain a chance when a new technological paradigm emerges: think about the competition between Mac and PC, Apple was only able to make a comeback on the iPhone; or Meta is actively developing AR/VR, because it is currently restricted by iOS on the mobile terminal. and Android.
In the blockchain infrastructure industry, Bitcoin and Ethereum have become the dominant designs, and more activity will converge towards them (although some people tend to ignore this fact).
However, while the blockchain war may have come to an end, the battle for stablecoin dominance has only just begun. The former is crucial to developers, while the latter will determine our daily usage. The reason is simple: Stablecoins are the bridge between cryptocurrencies and traditional finance. Without stablecoins, crypto applications have to deal with volatility, which makes financial contracts costly.
The past and future of money
Regulators appear to have recognized the relevance of stablecoins and their stakes. Without stablecoins, blockchain lacks competitiveness. However, in their current form, stablecoins pose a challenge to banks, are used to circumvent capital and anti-money laundering regulations, and could trigger or accelerate a crisis in the banking industry.
The run on Silicon Valley banks was just a small preview: With around 8% of Circle’s $USDC reserves at risk, it quickly decoupled and withdrew $3 billion from the troubled bank. Although such risks can be easily avoided through proper reserve design, they are real.
Back in 2019, when Facebook announced Libra—a project devised by one of the article’s authors—central bankers may have known that the currency would never become the new unit of account. The euro took many years to establish and was enforced from the top down by all governments involved. Even so, Libra poses a credible threat to the status quo and has been sharply criticized by financial vested interests. There are legislative proposals to ban it and regulatory agencies have put obstacles in its way. By 2022, the project was winding down.
But blocking the coalition behind Libra only buys time for existing institutions, and the situation is heating up again.
Existing financial institutions are being threatened by stablecoins, which may become the new operating system for money, affecting the existing system what the Internet did to Barnes and Noble bookstores. Therefore, they are determined to adopt a strategy of "embrace, expand functionality, and eliminate". Financial giants like JPMorgan Chase have developed their own proprietary blockchains and launched programmable dollars on top of them. While Microsoft used a similar strategy with Netscape in the 1990s that ultimately didn't work out well, the financial services industry is different. Regulation gives these institutions the opportunity to use their distribution networks and lobbying power to slow down the process of change while building mechanisms to fight back. This is exactly what led to the demise of the Libra project, and other projects may soon suffer the same fate.
The last serious attempt to reform the financial system did not employ blockchain technology. This was Elon Musk’s original version of X.com, before it merged with Peter Thiel’s PayPal. Musk was ahead of his time and wanted to create a universal financial services application. Thiel is more pragmatic, focusing on ensuring backward compatibility with card networks and banks. This solidified PayPal's short-term growth, but ultimately killed its chances of truly changing the system. Twenty years later, the card network has become a comfortable oligopoly, and the banking industry remains untouched by the Internet.
Change or status quo?
Stablecoins offer a second chance to reform the financial system. But whether they can achieve this goal depends on the competitive landscape of the stablecoin industry—and whether regulators tend to support or inhibit innovation. By tightly limiting design choices, regulators may limit viable business models and allow only banks to enter the market. If this happens, the competition-promoting element of the technology will again be lost. While this may please existing institutions, it will be costly for consumers and businesses.
Regardless of the degree of uncertainty surrounding regulatory intervention in the stablecoin race, the critical question is whether we will end up dominated by one or two global leaders, or whether there will be a coexistence of numerous commoditized issuers. Technology can support either outcome, so where we end up will depend on how well each player executes their strategies.
The first entrants are crypto-native teams Tether and Circle. Tether launched the first stablecoin for trading a decade ago and dominates the market with $114 billion $USDT in circulation. $USDT is issued offshore, and while its reserves have also been questioned, its core challenge is its ability to transform into a compliant entity. Although Tether has repeatedly stated that it responds to law enforcement requests in a timely manner, reports from the United Nations and J.P. Morgan have raised questions about its compliance and noted that more efforts are needed. Tether's competitive advantage stems from its scale, integration with market makers, and strong product-market fit in segments where holding U.S. dollars is not an option. The last point is also the biggest hidden danger of Tether.
Circle, with $33 billion in $USDC, is Tether’s strongest competitor. Although Circle operates under the same U.S. state-level money transmission licensing system as PayPal, the federal government has made it clear that the management of stablecoins should be a federal matter because managing a stablecoin reserve requires more than just operating a digital wallet. The risks involved are closer to banking business. Therefore, a big overhang for Circle, which has been pursuing an IPO for years, is whether it can successfully transition to a federal franchise, especially considering that it does not implement KYC rules for $USDC holders. Uncertainty about future regulation could leave Circle in a leading position or face the complications of transitioning into a bank. Bank regulations will also significantly limit Circle's revenue streams, as the Fed rightly wants the issuer to remain sound and uninteresting.
For Tether and Circle, we believe the strategy is simple: adapt to stricter compliance and consumer protection standards without losing the profitability of the stablecoin ecosystem. It’s a delicate balancing act, as tighter regulation will inevitably limit how issuers create and capture value.
In the crypto-native industry, Paxos, founded in 2012 to expand functional blockchain infrastructure, stands out for its unique strategy. Paxos has not chosen to expand its own stablecoin, but is betting on a world with many stablecoins. By positioning itself as a stablecoin infrastructure provider, Paxos helps other institutions issue branded stablecoins with remarkable results. When PayPal decided to get involved in the crypto industry, it chose to partner with Paxos. Although PayPal only has $350 million in PYUSD in circulation, market cap is not an appropriate metric if the focus is on payments rather than crypto trading and decentralized finance (DeFi). For stablecoins looking to compete with credit card companies, total payment volume (TPV) will be a better evaluation metric, and with its existing merchant business, PayPal is expected to quickly surpass $USDC in this regard.
If Paxos can replicate this model by partnering with other large consumer brands that are unwilling to become financially regulated businesses, there will be a flood of stablecoins on the market. Just like consumers opting for branded rewards credit cards from airlines, hotel chains or retailers, stablecoins may fade into obscurity and be converted into loyalty points. Starbucks already holds more than $1 billion of customer funds in its app, and it's not hard to imagine Walmart or Amazon jumping on the bandwagon. Target’s wildly successful RedCard program can be replicated by anyone with a loyal customer base by issuing a stablecoin, thereby shifting revenue away from the credit card company.
Since stablecoins exist on an open network, they will all be interoperable. Furthermore, if regulations converge on their safety, a key dimension of differentiation will disappear. Consumers and businesses will hold digital, programmable dollars and perceive them as analogous to today’s commercial bank deposits. This is a doomsday scenario for Tether and Circle, as they will struggle to differentiate themselves among competitors with distribution advantages.
Banks are already behind the scenes pushing for a world where multiple stablecoins can coexist. It's a familiar reality, where dollars from different banks are viewed as fungible in the eyes of consumers, even though that fungibility is conferred by central bank clearing mechanisms. This approach retains the role of banks to some extent, unlike the rise of large stablecoin companies. By pushing network effects back to the dollar rather than a single stablecoin, banks can fend off the creation of competitors more powerful than card networks. Furthermore, this would not prevent JPMorgan from dominating institutional applications, or prevent Bank of America from doing the same in retail markets, thus maintaining the original hierarchy.
While Visa and MasterCard could retain more of a competitive advantage by issuing their own stablecoins, this would be fraught with antitrust risks and damage their relationships with banks. Therefore, a multi-stablecoin world is also what card networks will embrace: it does not change their role, they can add stablecoins just like new currencies. A slightly riskier strategy would be for card companies to work with banks to design a stablecoin that distributes reserves among them — but this might be too ambitious, similar to Liba. 🧧
This makes big tech companies unpredictable variables. In fact, they have all learned from the lessons of Libra that it is not a wise move to enter the financial services industry with too high a profile. The move faces strong political opposition and it would be better to work with the banks rather than confront them. In addition, their core operations cannot operate within the federal banking legal and regulatory framework. Finally, by controlling distribution channels, they are unstoppably able to leverage their network effects to capture value regardless of the stablecoin used. While neobanks such as Revolut or Nubank may have greater ambitions than the tech giants, they will also face scope challenges as they further intrude into the traditional banking industry.
So are pure-play stablecoin issuers like Tether and Circle the only ones pushing for a winner-takes-all scenario? After all, the current market is highly concentrated and network effects seem to be crucial. The liquidity of stablecoins has so far played an important role in ensuring low-cost conversion between fiat and cryptocurrencies, and this importance will only increase as mainstream adoption increases.
But the reality is that existing status does not automatically translate to non-cryptocurrency use cases, and as banks are allowed to enter, traditional distribution channels will become increasingly important. So while Tether and Circle have dominated the crypto era, making the leap from this niche, unregulated market to serving hundreds of millions of consumers and businesses is essentially a very different battle.
Nonetheless, leading cryptocurrency exchanges like Coinbase and Binance may also enter the market and scale as pure-play issuers, with the user base, technical talent, and regulatory experience to compete. Both companies have built payment and financial application networks (Base and BSC respectively), and as they grow, they will have to become more like traditional banks and have a deeper understanding of the relevant technologies - perhaps more than Circle or Tether. More proficient.
Disruptors Recruiting
The stablecoin war, like the competition in the home video industry, is not determined by more advanced technology or existing status, but by application scenarios. While regulators can make it difficult for innovators to compete, they cannot stop the process forever. Ultimately, the most likely outcome is for multiple stablecoins to take a back seat to provide lower-cost, faster payment services to the world. This is a win for consumers and businesses, although it may not be so for existing stablecoin issuers – who may be acquired by banks.
When this happens, it doesn’t end the fight for control of our digital wallets. The same companies will still compete fiercely for dominance in “payment methods.” Credit card companies will fight to keep the payment process using Visa or MasterCard, which may be fine with banks. Therefore, it will be the leading digital banks and cryptocurrency exchanges that try truly innovative things that may be the real game-changers.
[Disclaimer] There are risks in the market, so investment needs to be cautious. This article does not constitute investment advice, and users should consider whether any opinions, views or conclusions contained in this article are appropriate for their particular circumstances. Invest accordingly and do so at your own risk.
This article is reprinted with permission from: "Foresight News"
Original author: Christian Catalini, Jane Wu
