Are Stablecoins Poised for Ascendency or Doomed to Fail?

Deutsche Bank's research analysts recently sounded a cautionary note on the stablecoin market, suggesting that many pegged currencies may face challenges in the future.

Their study, spanning nearly 334 currency pegs launched since 1800, revealed that only 14% have stood the test of time.

In a published research note, the analysts expressed scepticism about the long-term viability of most stablecoins, citing the asset class's susceptibility to turbulence and de-pegging events.

The findings stated:

"While some may survive, most will likely fail, particularly due to the lack of transparency in stablecoin operations and vulnerability to speculative sentiment."

This assessment coincides with bullish projections from industry giants like Ripple, anticipating the stablecoin market to hit $3 trillion by 2028.

While stablecoins traditionally offer crypto investors a hedge against volatility by maintaining a one-to-one peg with fiat currencies, Deutsche Bank's analysts highlighted concerns over credibility, reserve backing, and operational controls in several major stablecoins.

The Deutsche Bank researchers stated:

"The 30% de-peg rate among some stablecoins is therefore hardly surprising, and many more defunct stablecoins are hard to account for."

According to their research, nearly half of stablecoins failed within 8 to 10 years, underscoring the importance of macroeconomic factors in determining peg sustainability.

Source: Deutsche Bank's Research

Senior Strategist at Deutsche Bank Research and co-author of the report, Marion Labourne, mentioned:

"Issues around governance and speculative forces could also indicate when there's a possibility of de-pegging. We chose to compare stablecoins to peg currencies because historically their similarities make them a close proxy as both are pegged currencies. Both require ample reserves and credibility from issuers, are exposed to speculative forces, and the majority of both stablecoins and historical currency pegs track the USD."

In a significant case highlighting potential risks, the downfall of Terraform Labs' algorithmic stablecoin TerraUSD and its counterpart Luna led to the disappearance of at least $40 billion worth of cryptocurrency two years ago.

The report noted:

"These incidents highlight the volatility and risks associated with stablecoins, and the need for greater transparency and regulation in the cryptocurrency market."

Apprehension & Doubts Raised Over Tether

The research team expressed significant concerns regarding Tether, primarily due to its dominant position in the stablecoin market, which is marred by speculation and a lack of transparency.

They highlighted Tether's monopoly in the stablecoin sphere, raising questions about its potential implications.

Notably, Tether has faced scrutiny for its opaque practices, including misleading statements about reserve holdings, resulting in substantial fines from regulatory authorities.

Moreover, a report by Bloomberg two months back, linked Tether to criminal activities, further fuelling apprehensions.

The analysts also underscored the risks posed by Tether's significant role in the crypto derivatives market, potentially amplifying losses and magnifying leveraged trades.

The report pointed out:

“A 'Tether peso moment' could cause significant losses, negatively impacting leveraged traders and causing severe repercussions for the entire crypto system.”

In addition, Tether faces mounting scrutiny regarding the transparency of its reserve investments, prompting efforts to enhance disclosure practices, including the publication of real-time data.

Despite these initiatives, JPMorgan remains sceptical, asserting that recent disclosures fail to alleviate concerns.

The financial institution has criticized Tether's dominance within the crypto ecosystem, a stance challenged by Tether's CEO, Paolo Ardoino.

In response to JPMorgan's remarks, Ardoino questioned the credibility of such claims coming from the world's largest bank, highlighting potential hypocrisy in their critique.

Tether Steps Up, Slams Deutsche Bank

Tether has sought to address these apprehensions by regularly publishing quarterly attestations of its reserves, a move prompted by previous settlements with both the CFTC and New York state authorities.

The company has issued multiple financial attestations indicating holdings of over $110 billion in fiat-denominated reserves.

However, critics contend that these attestations do not equate to a comprehensive financial audit.

In addition, the stablecoin giant has vehemently criticized Deutsche Bank's latest report, which suggests that stablecoins, including Tether, might face a "peso moment," potentially destabilising the crypto industry.

Tether retorted in a statement:

"[The report]…lacks clarity and substantial evidence, relying on vague assertions rather than rigorous analysis. While it attempts to forecast the decline of stablecoins, it fails to provide concrete data to support its claims."

While the report cited Terraform Labs' TerraUSD collapse as a case in point, Tether rebuffed the comparison, stating it was "misleading and irrelevant" given the differing nature of Terra's algorithmic stablecoin model compared to Tether's reserve-backed approach.

The company also pointed out:

"Questioning the credibility of any financial institution, especially one with Deutsche Bank's track record, seems ironic. Deutsche Bank's history of fines and penalties raises doubts about its own standing to critique others in the industry."

Laboure shed light on why they chose to compare stablecoins to peg currencies:

"Historically, their similarities make them a close proxy as both are pegged currencies."

Laboure emphasized that both stablecoins and peg currencies require substantial reserves and credibility from issuers, are subject to speculative pressures, and predominantly mirror the USD.

Gensler Wants More Oversight for Stablecoins

In his speech two years prior, SEC Chair Gary Gensler noted that there are conflicts of interest and market integrity questions that would benefit from more oversight with regard to stablecoins.

He has also emphasized the need for crypto legislation to prioritise the regulation of stablecoins, advocating for granting additional oversight of digital assets to the Commodity Futures Trading Commission (CFTC).

On top of that, he has pushed for a key role in regulating the stablecoin market.

Stablecoins, as described by Gensler, are often likened to "poker chips" in the speculative world of cryptocurrency, suggesting their use in high-risk trading akin to a casino environment.

This perspective challenges the notion of stablecoins as a revolutionary form of finance, instead highlighting their resemblance to traditional Wall Street practices.

The total value of the top stablecoin tokens by market capitalisation at the time of writing is $160B while Tether’s, which is owned by Hong Kong-headquarter Ifinex, USDT token has exceeded $110 billion.

Notably, it has been consistently surpassing Bitcoin in daily trading volume.

Below is a chart comparing Bitcoin and the traditional financial market:

USDC, 2nd in Market Capitalisation

In February, Circle's USDC, the second-largest stablecoin by market cap, announced significant strides in strengthening its balance sheet, slashing debt by $413 million.

The platform's offering, which allows customers to earn interest on its USD Coin (USDC) stablecoin, contributed substantially to bolstering profits.

Notably, interest in the exchange's stablecoin services surged this year.

Coinbase reported a 15% increase in revenue from its crypto product this quarter, reaching $197 million, with USDC emerging as the fastest-growing stablecoin in 2024.

The rise in USDC liquidity mirrors a broader surge in retail and institutional demand, coinciding with the launch of spot bitcoin ETFs in the US.

Moreover, USDC is expanding its footprint in non-US markets, witnessing a fivefold increase in its share of spot and derivatives activity.

While comprising only 4% of total centralised exchange volumes (CEX) globally, USDC's growth trajectory is further fuelled by Coinbase's international exchange launch and the relisting of USDC trading pairs on rival platform Binance late last year.

Its current market capitalisation stands at $33B.

Increased Global demand of Stablecoins, Unlikely to Fail

Chainalysis Crypto Spring Report 2024 stated that stablecoins are becoming a true global asset with increasing global demand.

According to the report, while major cryptocurrencies like Bitcoin and Ether often dominate headlines and offer lucrative gains, stablecoins have emerged as a force to be reckoned with, surpassing all other types of cryptocurrencies in usage.

Recent data indicates that stablecoins account for over half of all transaction volume, underscoring their growing prominence and utility among crypto users.

Source: Chainalysis Crypto Spring Report 2024

Beyond serving as speculative instruments, stablecoins play a vital role in facilitating everyday transactions, contributing to the broader adoption of cryptocurrency.

A closer look at stablecoin purchasing patterns by country reveals their global appeal.

Source: Chainalysis Crypto Spring Report 2024

While the US leads in stablecoin purchases, there is a noticeable uptick in demand from diverse nations and regions, amounting to over $40 billion in purchases in March 2024 alone.

This international interest underscores the growing reliance on stablecoins like USDT across various parts of the world, particularly in regions grappling with currency volatility and devaluation.

The rise of stablecoins is pivotal in fostering financial inclusion and expanding access to the global economy for the unbanked and underbanked populations.

By offering a reliable store of value and facilitating economic participation, stablecoins pave the way for greater financial empowerment, particularly in regions marked by economic instability and currency depreciation.