How Stablecoins can benefit financial system

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19 Oct 2024

Stablecoins benefit the financial system by reducing transaction costs and offering new payment methods, as highlighted by Federal Reserve Governor Waller.

Stablecoins: A New Financial Era?
Amid rising concerns over the United States’ national debt, which recently surpassed $35 trillion, the conversation around stablecoins as a viable solution for global financial challenges has gained traction. On October 18, Federal Reserve Governor Christopher Waller highlighted the potential of stablecoins to enhance the current financial system during an address at the Institute of Advanced Studies. He emphasized that, if appropriately regulated, stablecoins benefit the economy by reducing the reliance on traditional payment intermediaries, thus lowering global transaction costs.

Despite the opportunities, Waller made it clear that the safety of stablecoins isn't guaranteed, stating, "Stablecoin safety is not assured." However, with the right regulatory framework and guardrails in place, stablecoins could significantly mitigate risks, including potential use in illicit activities. As Waller noted, “If appropriate guardrails can be erected to minimize run risk and mitigate other risks, such as their potential use in illicit finance, then stablecoins may have benefits in payments and by serving as a safe asset on a variety of new trading platforms.”

Stablecoins as a Tool for Dollar Dominance
A notable advantage of stablecoins is their ability to support the U.S. dollar’s global supremacy. Former U.S. Speaker of the House, Paul Ryan, pointed out in a Wall Street Journal article from June that stablecoins could help ease the looming debt crisis by generating demand for U.S. Treasuries and the U.S. dollar. This would ensure that the dollar remains competitive, particularly against the Chinese yuan, thus preserving its status as the world’s primary reserve currency.

The growing US government debt. Source: Toby Cunningham

Several lawmakers share Ryan’s sentiment. U.S. Senator Bill Hagerty recently introduced the Clarity for Payment Stablecoins Act, building on Representative Patrick McHenry’s stablecoin bill from earlier in 2023. A key difference in this latest bill is the removal of a clause that classified stablecoins as securities, further encouraging the development and adoption of these digital assets. Additionally, provisions were included to allow state-level regulation of stablecoins, which could streamline their implementation across various jurisdictions.

As Governor Waller suggested, stablecoins offer the potential for a more "symbiotic relationship" between decentralized finance (DeFi) and traditional finance, rather than serving as a threat to established financial systems. This could open doors for decentralized finance to expand its reach, utilizing dollar-denominated stablecoins to extend U.S. financial influence for decades to come.

Regulatory Challenges and Stablecoin Adoption
Despite these optimistic perspectives, the path to widespread adoption of stablecoins is not without challenges. While federal and state regulators continue to refine their approaches to stablecoin legislation, a recent report from Chainalysis reveals that the United States is lagging behind in terms of stablecoin adoption. In 2024, the market share of stablecoin transactions on U.S.-regulated exchanges fell below 40%, while offshore exchanges experienced a surge, with 60% of stablecoin transactions occurring outside of U.S. borders.

This drop in market share could be attributed to regulatory uncertainty surrounding stablecoins in the U.S. and the increasing appeal of offshore exchanges, where regulations may be less stringent. For stablecoins to fully integrate into the mainstream financial ecosystem, federal lawmakers must establish clear guidelines to reduce risk and improve consumer confidence. As Waller mentioned, "appropriate guardrails" are essential to ensure that the risks associated with stablecoins, such as their use in illegal transactions, are minimized.

While the U.S. is still refining its approach to stablecoins, other countries have been quicker to adapt. Thailand, for instance, has recently announced the launch of stablecoin remittance services through its oldest bank, highlighting how other nations are advancing their digital finance initiatives. This raises questions about whether the U.S. will be able to maintain its lead in the global financial landscape without swift regulatory action.

Stablecoins’ Role in Shaping Future Financial Platforms
Another significant benefit of stablecoins is their potential to revolutionize modern payment platforms. As Waller highlighted, stablecoins can reduce the need for traditional intermediaries, thereby cutting transaction costs and streamlining global payments. With the rapid growth of e-commerce and cross-border transactions, these cost-saving measures could significantly benefit businesses and consumers alike.

Moreover, stablecoins could act as a "safe asset" on a variety of new trading platforms, providing liquidity and stability in markets that are becoming increasingly decentralized. The idea of a stable asset in the decentralized finance space is appealing to both investors and regulators, as it reduces the risk of market manipulation and provides a more predictable environment for financial transactions.

The future of stablecoins in the financial system depends largely on how regulators navigate the risks and opportunities they present. Waller’s remarks signal a cautious but optimistic outlook, one that balances innovation with necessary oversight. As the U.S. debt continues to rise and the financial landscape becomes more complex, stablecoins could provide a much-needed alternative for maintaining the dollar’s global dominance and reducing transaction costs across industries.

However, much work remains to be done. Waller’s call for "appropriate guardrails" speaks to the need for comprehensive regulatory frameworks that address the potential risks while maximizing the benefits that stablecoins offer.

Conclusion
The Federal Reserve Governor’s endorsement of stablecoins marks a significant step toward their potential integration into the U.S. financial system. While challenges remain, especially in terms of regulation and adoption, the benefits stablecoins offer — from reduced transaction costs to their role in extending U.S. dollar dominance — make them a crucial consideration for the future of finance.
As the U.S. national debt continues to rise, stablecoins may serve as a pivotal tool in the country's efforts to manage its financial challenges, foster innovation, and maintain global leadership.