Placeholder: Thinking about the rise potential of stablecoins from the perspective of currency levels

Original author: Mario Laul

Original translation: Luffy, Foresight News

The core function of the Blockchain network is to securely process and maintain information records with Timestamps. In principle, Blockchain can record any type of data, but the most typical is information related to financial balances and transactions. The simplest and most common financial transaction is payment, and although the current Blockchain serves multiple use cases, the transfer of value units (such as payment for goods or services) is still the basic use case for all major networks. However, although successful Blockchains have become dominant Payment Networks in some niche markets, their success in daily large-scale payments often comes from stablecoins pegged to fiat currencies.

Currency and Payment Network can be public or private. 'Public' refers to governments, central banks, and other public sector institutions, while 'private' refers to entities that are privately owned and operated, such as most commercial banks, credit card companies, and other Financial Service providers. In practice, the boundary between the two is not as clear as in the quadrant below, because public currencies issued by governments are circulated in private networks, and many private financial sectors are subject to strict regulation by public institutions. However, the public-private distinction is a good starting point for thinking about the relationship between emerging currencies and payment systems and existing systems.

Below are two explanations and examples of this table: (1) Covering all currency accounting units, (2) Usually pegged to the national currency within the government-defined accounting unit.

In the first case, it can only be considered truly 'private' when the currency is issued, used, and traded by private entities that have a different valuation unit than the one defined by the government, and when it operates independently from government-controlled settlement networks. Cryptocurrencies like BTC and Ethereum, which freely float in value, fall into this category of private currencies, although their usage as accounting units and payment mediums is quite limited, such as for blockchain transaction fees, non-fungible tokens, and other blockchain-related goods and services. Due to the strong network effects of national currencies, private currencies outside of cryptocurrencies also have limited usage in everyday payments.

In the second case, the currency associated with the national currency can also take a more 'public' or 'private' form. This can be illustrated by the classic monetary hierarchy, where acceptance and liquidity drop from top to bottom: the best (public) currency is at the top of the hierarchy, while the worst (private) currency is at the bottom. Although there may be regional and historical differences, the diagram below roughly reflects the situation in most modern economies, where the right to issue currency is limited to the central bank. The currency units associated with this currency are used by commercial banks, non-bank financial intermediary institutions, and the private sector for pricing credit and securities, which are to varying degrees considered as cash equivalents.

Although the most widely used private coins (including freely floating cryptocurrencies) may develop their own independent coin grading systems, national coins and their grading systems dominate payment use cases around the world. This is relevant to blockchain because their success as large-scale payment networks seems to be increasingly less associated with private cryptocurrencies and more with a specific group of cryptocurrencies that have the same coin grading system as government coins. These cryptocurrencies are known as Stable Coins and are designed to track the market value of other assets. As of the time of writing, the most widely anchored asset for Stable Coins is the US dollar, the most liquid fiat currency in the world. Therefore, most Stable Coins actually belong to the coin grading system under the US Federal Reserve System.

The Payment Network serves different retail and institutional customer groups and uses different Settlement media (such as private promissory notes, commercial bank deposits, central bank reserves), operating at various levels of the dollar hierarchy. For example, interbank large-value transactions are processed through Fedwire and the Clearing House Interbank Payments System (CHIPS), while microtransactions such as paying utility bills or transferring commercial bank deposits between family and fren are processed by the Automated Clearing House (ACH). The most popular sales-side payment methods are debit/credit cards, usually issued by banks, and can be linked to mobile payment applications. Currently, the largest networks processing such payments are operated by publicly listed companies such as American Express, MasterCard, and Visa. Finally, payment gateways such as PayPal, Square, and Stripe provide convenient network access for merchants, helping to abstract the complexity of connecting various parts of the system.

At each level of the currency hierarchy, control over the Payment Network includes the power to decide what can be accepted as a valid payment method. That's why accounting protocol is so important. In most cases, as the hierarchy descends, issuance of currency becomes easier, but getting others to accept it becomes more difficult. On the one hand, physical cash and commercial bank deposits are almost universally accepted as payment methods, but the ability to issue these currencies is strictly regulated; on the other hand, basically anyone can freely issue private debt, but such notes can only play a monetary role on a small scale, such as using gift cards or loyalty points issued by specific companies. In short, not all forms of currency payment are equal.

How does the USD Stable Coin Settlement integrate into the Blockchain network on the Block? From the perspective of the currency unit, the USD Stable Coin can be said to be located in quadrant C in the above diagram. Although Stable Coins are issued by the private sector, they are not true private coins like BTC and Ethereum because they are pegged to the US dollar. This is especially true for Stable Coins backed by regulated US Financial Institutions with deposits in US dollars or cash equivalents (or even physical goods), which makes these Stable Coins slightly higher in the hierarchy compared to Stable Coins backed by offshore assets, although both ultimately belong to the same category and are lower than insured bank deposits. Stable Coins supported entirely by freely floating cryptocurrencies are a special case because they have a low level of association with the existing financial system. However, when explicitly designed to anchor the value of the US dollar, these Stable Coins can still be classified as being in quadrant C.

From the perspective of the government-defined unit of account (USD), anything other than the physical and reserve coins held by the central bank is a liability of private sector entities, and therefore can be classified as 'private' coins. From this perspective, given that all such liabilities (including Stable Coins) also circulate within the Payment Network operated by the private sector, it can be said that they are located in quadrant D. Although there are important quality differences between Stable Coins, depending on the issuer and the location of their primary banking partners, the increasingly popular notion that 'on-chain is the new offshore' highlights the similarities between Stable Coins and offshore dollars (i.e. 'eurodollars'), which are not directly regulated by US regulatory authorities. Even if the assets supporting Stable Coins are custodied by US-regulated Financial Institutions, from the perspective of the holders, they still represent USD liabilities, lacking the government-backed commercial bank deposit insurance. While the counterparty and financial risks associated with specific Stable Coins may differ, this ultimately places them in the same category as all other privately-issued USD-denominated forms of debt, which lack guarantees but are still considered coins.

However, Stable Coins have a unique feature: their issuance is on a programmable blockchain of Decentralization. This means that anyone with an internet-connected device can register a self-hosted digital Wallet without the need for authorization, receive peer-to-peer transfers globally at a very low cost, and access blockchain-based Financial Services. In other words, the innovative part of Stable Coins is not the coin itself, but the technology and distribution. Due to its native digital, global, and programmable nature, Stable Coins have the potential to become a more powerful and convenient form of Digital Cash than any current coin. What are the main obstacles to realizing this potential? You can refer to the three possible adoption scenarios of Stable Coins in daily payments.

Niche / Marginalization

Stable Coin has the highest adoption rate in some niche markets (native Cryptocurrency markets and traditional markets) and special circumstances (such as areas with underdeveloped or dysfunctional infrastructure for Currency Crisis or Financial Service), but it still remains on the edge in daily payments on a global scale. In most developed economies, existing payment methods such as debit/credit cards, non-Cryptocurrency mobile Wallets, or even physical cash are very convenient and reliable, with little demand for alternative payment methods. Without strong consumer demand driving it, the use of Stable Coin payments may struggle to enter broader economic domains. Especially when Stable Coin encounters unfavorable regulatory treatment in major jurisdictions, its role as an alternative or complement to traditional bank deposits will face obstacles.

Mainstreaming / Integration

With the close integration of stablecoins and existing payment infrastructure, Blockchain-based Financial Service and traditional Financial Service will gradually converge. The regulatory clarity for Crypto Assets has attracted long-established Financial Institutions (especially banks) to support stablecoins through issuance or other means, thereby increasing trust in the underlying Blockchain. As the boundary between stablecoins and traditional bank accounts becomes blurred, a unified regulatory framework will eventually emerge, consolidating the position of Blockchain as an essential component of the global financial infrastructure through embedded, increasingly automated Compliance mechanisms. Major stablecoin issuers will become important Financial Institutions, but the risk profile will vary depending on their architecture and regulatory status. Therefore, in the event of a major financial crisis, some institutions may struggle, presenting challenges similar to those seen by governments and Central Banks after the global financial crisis of 2007-2008, further solidifying their roles as lenders of last resort and market makers. Meanwhile, the transparency and programmability of Blockchain will enhance the stability and resilience of the financial sector, paving the way for future national currency reforms and ultimately leading to the management of Central Bank Digital Money (CBDC) by governments or through public-private partnerships.

Alternative/Subversion

Stablecoins and Financial Services based on Blockchain will develop in parallel with the existing financial system. Over time, Blockchain is no longer closely integrated with traditional financial institutions and payment infrastructure, but is increasingly seen as a systemic alternative, directly competing with and eventually replacing traditional systems. While existing institutions will adapt by launching their own blockchains, many institutions will compete with more native cryptocurrencies. Given the unique features and risk profile of Blockchain-based Financial Services, many jurisdictions will be more willing to establish new regulatory frameworks rather than trying to fit them into existing regulations. While stablecoins pegged to national currencies will become the main form of on-chain payment, eventually there will be cryptocurrencies that are not pegged to existing currencies but maintain a stable exchange rate with a basket of goods. In the long term, the most disruptive outcome is the widespread adoption of these cryptocurrencies in daily business and even international trade, which will require a new global currency governance institution.

From a historical perspective, most Cryptocurrencies have shown significant price volatility, making them unsuitable as a unit of account and a general means of payment. Stable Coin addresses this issue, and it can be said that Stable Coin is one of the most successful use cases of Blockchains to date. While Tokens for specific networks and applications have significant utility for operators, developers, and administrators, their adoption barriers for everyday payments are significantly higher than Stable Coin, which is pegged to off-chain coins that consumers are already familiar with. Therefore, the rise of Blockchains as a Payment Network is closely related to the success of Stable Coin, regardless of which of the above scenarios occurs.

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