In the battle over stablecoin regulation, defenders of the pending legislation make much of the need for the U.S. to become the dominant global leader. That’s fine, but what if the new stablecoin framework gives the U.S. crypto preeminence at the cost of U.S. bank resilience and macroeconomic growth? That would be a high price to pay, but it’s nonetheless the Faustian bargain lurking in the latest legislation.
As our analyses have made clear, the House and Senate bills address only payment stablecoins – i.e., digital assets used by consumers and companies to settle financial accounts or to purchase goods and services. The idea is to make regulated stablecoins as reliable a medium of exchange as dollars, with the bills’ reserve-asset requirements meant to ensure that one stablecoin dollar always equals one U.S. dollar. This is fine as far as it goes, but that’s not far enough to ensure payment-system finality, ubiquity, and equality. A more robust stablecoin also does little but make it still more likely that regulated banks will be disintermediated as deposits move from the current, fractional system into a new, “narrow bank” model that does little for anyone but stablecoin issuers, their affiliates, and parent companies such as giant tech platforms.
A dollar’s worth of stablecoins is little more than an abstraction until one knows how it moves across the payment system. If the payment rails are weak or the engineer is negligent, then armored boxcars just make an even bigger, harder bang when they derail.
Payment stablecoin issuers know this even though Congress has resolutely sought to stay out of the bitter battle between bank and nonbank issuers over access to the Fed’s payment system via master accounts. If nonbank stablecoins get a ticket to ride the Fed’s payment rails, then they will in theory be as friction-free a payment medium as traditional bank transactions, allowing stablecoins quickly to ramp up and, advocates believe, make U.S. payments via the blockchain faster, smarter, and far better integrated with the global payment system.
There’s some truth to these assertions, but the problem with giving nonbank issuers a ride is that, for them, the ticket is free. Reserve-asset requirements are no substitute for the operational resilience essential to ensure that a payment started is a payment that is indisputably made to the desired recipient as quickly as the recipient expects to receive it. Reserve assets such as short-term Treasuries are likely to hold their value and prove readily liquid under benign market conditions, but this is far from the case under stress scenarios, especially when these manifest as the “dash-for-cash” runs seen most recently just last April. Stablecoins may sit atop a pile of short-term Treasury obligations, but if no one wants them, the issuer cannot ensure that payments made are payment received promptly and in full.
This is a problem for all payment-system providers, but banks are governed by costly liquidity requirements to ensure payment-system stability under most scenarios, with the unique access banks have to holding reserves at the central bank also ensuring that they have the most liquid cash equivalent available at a moment’s notice. And, just in case, banks have access to the discount window for extra liquidity and to other central-bank facilities if the still-creaky discount window doesn’t open as it should. These tickets to ride are essential for payment-system stability, but they are anything but free, as is clear from how vociferously nonbank stablecoin issuers oppose any rules akin to those demanded of banks.
Giving nonbank stablecoin issuers access to master accounts without like-kind liquidity requirements and backstops ensures that under stress – and stress there surely will be – nonbank stablecoins will either bankrupt trusting payees or need some form of federal rescue. The bills attempt to bar this, but their language is even more porous than the prohibition in current law against protecting uninsured deposits. Like uninsured depositors, nonbank stablecoin customers will surely assume a federal safety net even as issuers revel in the absence of any of the costly rules designed to recompense taxpayers for their backstops.
Payment-system access will be a fact of life on day one after enactment if the final stablecoin measure grants master-account privileges. When the floodgate to the Fed is opened, dollars will then surely move from bank deposits to stablecoin issuers, with the exodus a stampede if issuers are able to compensate coin holders, as the bills also permit one way or the other. Nonbank stablecoin issuers would thus become new-age narrow banks, entities that take deposits but invest them for the bank’s own benefit rather than intermediating deposits into loans that benefit banks, borrowers, and the economy as a whole. The biggest banks might be able to adjust to a new business model; community banks most likely can’t, endangering local communities with few, if any, other lenders able to fill the void.
Narrow banks will lead to broad, structural realignment sure to reduce the role banks play in financial intermediation because the deposits banks turn into loans will instead be housed at stablecoin issuers used not just to execute payments, but also to fund giant fixed-income investment portfolios and to promote a range of ancillary activities offered by affiliates and parent companies wholly outside the scope of whatever regulation does apply to nonbank stablecoin issuers.
Disintermediation may appear to be a long-term worry given that stablecoin-issuer market capitalization now is only $234 billion compared to the $2.02 trillion market cap of the top ten U.S. banks. But stablecoins are coming on strong.
Just Friday, Fortune signaled that Meta is planning to use a new-age Libra to realize the company’s thwarted ambitions when it first tried to launch a stablecoin in 2019. Other tech platforms will surely and immediately also see how valuable a stablecoin can be not only to sidestep interchange fees and speed payments, but also to inextricably link other services with their payment products.
Asymmetric destruction of some banking/commerce barriers while those for regulated providers remain redoubtable ensures rapid collapse of core financial intermediation services because these are far less profitable than, say, taking commissions off an influencer’s sales or selling lots and lots of sneakers. It is long past time to review the barriers between banking and commerce that increasingly only bar banks from many product offerings that would genuinely increase market competition without added risk. Banks have few network-effect advantages precisely because of the barriers to even “incidental” and “complementary” offerings beyond the few, cautious additions authorized a decade ago when the banking agencies last took a hard look at this question. A symmetric, sensible stablecoin regime would hold all issuers with Fed access to the same standards ensuring payment-system stability and would carefully integrate payment with at least some other lines of business at all providers under the same conflict, anti-tying, transparency, and soundness standards. If that’s too big a reach for this Congress, then nonbank stablecoin issuers should be limited to the same parent-company and affiliate restrictions as banks until Congress can pull itself together and ensure that what’s good for stablecoins is also good for consumers, economic growth, and financial stability.