Unlike other cryptocurrencies such as bitcoin, stablecoins are not volatile. Rather, they are designed to be stable in value. Pegged to assets such as fiat currencies, gold or commodities, these currencies are used for a variety of transactions. However, like any new financial technology, stablecoins also raise regulatory and security issues. They need to be regulated as soon as possible. All the regulators in the world agree on the fact. But why is it really necessary to regulate these digital currencies?
The reasons behind the regulation of stablecoins
The main characteristic of stablecoins is their stability of value. These are cryptocurrencies designed to follow the evolution of an underlying asset. They are usually backed by fiat currencies such as dollars or other tangible assets. Their design relies on sophisticated algorithms and governance mechanisms.
It is possible to use them to carry out transactions without fearing the volatility associated with other cryptocurrencies. However, these digital currencies must imperatively be regulated. The arguments behind this need for stablecoin regulation are numerous.
The risk of bankruptcy of the issuer
Stable tokens are issued by private entities, such as fintech companies. Their stability therefore depends on the capacity of these issuing entities to maintain the parity between these currencies and the assets to which they are backed. Issuers are responsible for managing the underlying reserves that guarantee the stability of their stablecoins.
So, if issuers go bankrupt, it can lead to devaluation or even disappearance of their stablecoin and leads users to a financial bind. Moreover, such a tragedy could be avoided in extremis with the USDC stablecoin last month. It is therefore important that the issuers of stablecoins are regulated. A standard is needed to monitor whether the latter have the necessary skills and resources to maintain the stability of their assets.
Financial stability risks
Stable digital currencies can be used to conduct high-value transactions. Their nature offers advantages which nevertheless come with risks for financial stability. Indeed, stablecoins can be used to circumvent financial regulations and exchange controls. They can then promote, in particular, money laundering, tax evasion and other illegal activities. If they are used for illicit purposes, this could have negative consequences for the economy.
Stablecoins are also vulnerable to cyberattacks and security issues. Their widespread adoption as a mainstream payment method without regulation could potentially have a negative impact on global monetary policy.
The lack of transparency
Private entities that issue stablecoins often lack transparency in the management of the reserves underlying their assets. This was the case for Tether, the issuer of the most popular stablecoin in the ecosystem, USDT. A few months ago, US regulators accused Tether of lying about its financial reserves. The accusation was proven and the digital currency issuer was fined 41 million by US authorities.
In reality, if issuers of stablecoins do not have sufficient assets to support their issuances, it could lead to price volatility. The loss of user confidence too. The latter generally do not have access to information on how the reserves are managed. In addition, issuers may be subject to the same disclosure standards as traditional financial institutions. This is a risk that can harm users.
The Benefits of Stablecoin Regulation
The regulation of stablecoins is primarily intended to protect users. Since these assets are growing rapidly in the market, users are more exposed to the risks associated with their use. That said, in addition to consumer protection, regulating stablecoins can also provide other benefits. It could foster investor confidence and encourage wide-scale adoption of these digital currencies as a whole.
Also, clear regulations can help prevent unfair business practices and fraud. Issuers will be held to high standards of disclosure and transparency. This can help prevent scams and illicit behavior. Regulating stable digital currencies can encourage innovation and competition. Issuers will have to meet quality standards, which can be beneficial for competitiveness.
Regulatory proposals for stablecoins
All regulators around the world agree that it is imperative to regulate stablecoins. Various regulatory measures have also been proposed. In December 2020, the Financial Stability Board (FSB) published a report on the regulatory implications of stablecoins. According to the content of the document, issuers of stablecoins must be subject to appropriate standards of supervision and regulation. In particular, in terms of risk management, disclosure of information and consumer protection.
In the report, it is also required that stablecoins are subject to close monitoring. This will prevent the impacts they may have on financial stability. Regulators therefore need to be able to monitor the size and growth of these tokens. In September 2020, the United States Securities and Exchange Commission (SEC) proposed a regulatory standard for stablecoins. These are considered securities under this standard. For that time, the SEC had proposed that their issuers be subject to the same principles of disclosure and information as issuers of traditional securities.
In March 2021, the European Central Bank (ECB) developed a regulatory framework for stablecoins. This legal framework suggests that their issuers are subject to appropriate standards of supervision and regulation. The aim is to guarantee the stability of assets and the protection of consumers.
Conclusion
Stablecoins are a promising financial innovation that can provide many benefits. We would therefore benefit from regulating them. However, the challenges to overcome are immense. At present, it is more or less difficult to determine how to regulate them effectively without hampering innovation. It is up to regulators to find the perfect balance between protecting consumers and promoting innovation.
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