Stablecoins and the dollar: Allies or adversaries in the new financial era?

As the U.S. heads into another election cycle, economic discussions are turning to the rising influence of stablecoins and the potential introduction of a digital dollar. This debate centers on whether stablecoins can harmonize with or challenge a future digital currency issued by the Federal Reserve, shaping new financial trends and market dynamics. Amid political discussions, particularly concerns over privacy, the idea of a U.S. central bank digital currency (CBDC) is resurfacing as a potential alternative to physical currency, but not without resistance. Eswar Prasad, a trade policy professor at Cornell University, offers a key perspective: “Stablecoins and central bank digital currencies could be seen as complementary payment mechanisms, even if they might step on each other’s toes in that function.”


Stablecoins, such as Tether, have positioned themselves as globally accepted dollar proxies, enabling cross-border transactions and liquidity. Meanwhile, the Federal Reserve’s examination of a digital dollar—spanning projects like the Digital Dollar Project and Project Cedar—explores options for a blockchain-based currency, though some citizens worry that digital alternatives might expose personal financial data to unprecedented monitoring.

Stablecoins in the Absence of a Digital Dollar

While the U.S. considers its approach to a CBDC, private entities like Tether and Circle are expanding their influence. Tether holds over $97 billion in U.S. Treasury securities, effectively positioning it as a private holder of significant U.S. debt. Despite its controversies—such as a $41 million penalty by the CFTC in 2021—Tether’s role in the financial ecosystem underscores stablecoins’ potential to bridge fiat currency with blockchain technology.

One primary advantage of stablecoins is their simplicity; backed by reserves and pegged to the dollar, they allow users worldwide to transact in a stable currency. A report from venture firm a16z highlighted that stablecoins processed $8.5 trillion across 1.1 billion transactions in early 2024 alone, outpacing Visa’s $3.9 trillion in the same period. This growth positions stablecoins as a powerful tool, particularly in global regions where access to U.S. dollars is limited.

Stablecoins “indirectly make the dollar more prominent as a payment currency,” according to Prasad, who points out that around 99% of stablecoin-backed transactions currently rely on the U.S. dollar. In this way, stablecoins could unintentionally bolster dollar dominance, reducing the likelihood of foreign-backed currencies gaining global prominence through blockchain.

Political Landscape and the Future of Digital Currency

In the U.S., the political response to digital currencies, specifically CBDCs, has ranged from cautionary to outright opposition. Some prominent Republican figures, including former President Donald Trump, have voiced concerns over the impact of a digital dollar on American privacy, with Trump repeatedly promising to “never allow” a CBDC. These views echo sentiments in states like Texas and Florida, where lawmakers are also skeptical, enacting measures to block potential state-level implementation of a federal CBDC.

Yet, for stablecoin issuers, the hesitation around a digital dollar translates into a market opportunity. Private stablecoins, which rely on blockchain technology, are filling the gap for digital dollar transactions globally, even without formal U.S. backing. The absence of a CBDC has allowed stablecoins like Tether to capture over 70% of the market share for dollar-pegged tokens, with Circle’s USD Coin (USDC) securing a substantial share as well. While Tether and Circle primarily deal in USD-backed stablecoins, the trajectory of their usage remains a point of intrigue as a digital dollar proposal hangs in the balance.

The Clarity for Payment Stablecoins Act of 2024, introduced in early October by Senator Bill Hagerty, proposes a path forward for the regulatory future of stablecoins. The bill creates a state-level framework to oversee stablecoin issuers with a market capitalization of under $10 billion. This setup would enable smaller stablecoin issuers to operate within state jurisdictions, while larger companies could apply for state waivers to remain under state regulation instead of federal oversight. The bill’s introduction highlights a bipartisan interest in providing regulatory clarity to the stablecoin sector, though some lawmakers continue to push for a national policy governing digital assets more broadly.

In the face of regulatory ambiguity, stablecoin companies are expanding their collaborations with U.S. authorities. Tether, for instance, recently onboarded the Federal Bureau of Investigation (FBI) to its platform, a move that underscores its close connection to U.S. agencies even as the regulatory framework for stablecoins remains a work in progress.

The International Scope and Systemic Impact of Stablecoins

While the regulatory landscape in the U.S. remains unsettled, the international influence of stablecoins continues to grow. With Tether and Circle processing billions in daily transactions, their integration within the global financial system is sparking questions over market stability and monetary policy efficacy. In March 2023, for example, a U.S. banking crisis triggered by the shutdown of Silicon Valley Bank (SVB) led to the temporary depegging of Circle’s USDC. Although Circle stabilized its reserves, which are now backed by nearly $30 billion in U.S. Treasurys, the incident served as a stark reminder of the systemic risks posed by the merging of digital and traditional finance.

For regulators and economists, the spread of stablecoins represents both an opportunity and a potential threat. If stablecoins are seen as alternatives to traditional currency and increasingly used in everyday transactions, they could pose challenges to the Federal Reserve’s ability to control the supply and value of U.S. dollars. Prasad notes that “Stablecoins that undermine the medium of exchange function of central bank money could add to already substantial uncertainties in the transmission of monetary policy to economic activity and inflation.”

In response to such concerns, some analysts argue that a well-designed CBDC could counterbalance the growth of stablecoins by providing an official digital currency for the public. However, the push for a CBDC in the U.S. has slowed due to political concerns and regulatory roadblocks. In contrast, countries like China are advancing with their digital yuan project, while Brazil is making strides with its own CBDC, known as DREX.

Although these digital currencies may support national goals, Prasad remains skeptical about their ability to dethrone the dollar’s dominance in global finance. “The notion that digitization of the yuan will increase its role in international finance is, however, a chimera,” he remarked, emphasizing that the dollar’s stability is rooted in the depth of U.S. financial markets and its regulatory infrastructure, which together reinforce its status as a safe-haven currency.

Stablecoins and the Dollar’s Enduring Dominance

Despite the introduction of CBDCs in various countries, stablecoins continue to bolster the dollar’s role in the global economy. According to a16z, the near-total reliance of stablecoins on the U.S. dollar suggests that the rise of digital currency does not necessarily translate to a decrease in dollar dominance. Instead, stablecoins may reinforce the dollar’s global standing by allowing digital transactions to be conducted in dollar-backed assets.

While new financial technologies like blockchain are sparking currency innovations, they may ultimately lead to more centralization rather than decentralization in global finance. The U.S. dollar’s foundation in robust financial systems and a highly liquid market lends it a competitive edge, even as new forms of currency emerge. A recent analysis from a16z highlights that, paradoxically, the proliferation of dollar-backed stablecoins may fortify the dollar’s influence across international payment systems rather than weakening it.

With around 50 countries pursuing CBDC projects and the global stablecoin market expanding, the new financial era presents unique opportunities and challenges. Stablecoins have undeniably added a dynamic layer to global finance, yet the full implications of this innovation on traditional banking and global markets are still unfolding. While stablecoins could complement central bank currencies, their systemic impact underscores the need for policymakers and economists to assess their role carefully.

As the U.S. navigates its path forward, the global currency landscape stands on the brink of transformation. Stablecoins and CBDCs offer novel payment mechanisms, yet their coexistence with traditional fiat remains complex, requiring precise regulation and prudent governance to ensure financial stability in an increasingly digital world.

Reference
https://cointelegraph.com/news/stablecoins-dollar-allies-adversaries-new-financial-era?utm_source=rss_feed&utm_medium=rss&utm_campaign=rss_partner_inbound