A stablecoin is a cryptocurrency that aims to peg its value 1:1 to a currency like the US dollar. After the former major stablecoin Terra Stablecoin (UST) broke its peg to the dollar and collapsed, interest in reliable stablecoins is growing. But what is a stablecoin the market can really rely on?
Currently there are no safety mechanisms by the state or any enforcement agencies in the crypto market. Therefore, it is incumbent on investors to carefully study each stablecoin and then decide which one they can trust. The largest stablecoins by market capitalization are Tether USDT and Circle USDC.
How are USDT and USDC different?
USDT is a stablecoin first issued in 2014 by Tether, an affiliate of the Hong Kong exchange Bitfinex, and has the largest market cap among stablecoins. It reached this status because it is the coin that pioneered the stablecoin market. In addition to USDT, Tether currently operates various fiat-linked stablecoins such as EURT, which aims to tie its value to the Euro, and CNHT, which is linked to the Chinese yuan. USDC is a latecomer to the market, but with investment by Goldman Sachs and interest from leading institutional investors, the project has been quickly catching up to Tether.
Both stablecoins are similar in that they are operated centrally by an institution and are collateralized with fiat currency. Both USDT and USDC nominally maintain their value by holding equivalent fiat currency to the stablecoin issued. If an investor wants to exchange their coin for cash, the entity that manages the stablecoin withdraws the fiat currency from the reserve and pays the cash equivalent. The corresponding stablecoin is burned or permanently removed from circulation.
However, the two stablecoins behave slightly differently in terms of how they manage fiat currency collateral.
Since USDT is the no. 1 stablecoin by market capitalization and is pegged to the dollar, it is subject to monitoring by US regulators. Last October, Tether and its affiliate Bitfinex were investigated by the US Commodity and Futures Trading Commission (CFTC) for providing false information about deposits and agreed to pay a fine of $41 million. In 2019, both companies had already been indicted by the New York State Attorney General (NYAG) for failing to disclose the loss of user assets worth $850 million, agreeing to a fine of $18.5 million.
By contrast, while USDC also faced similar criticism over deposit details around the same period, Circle has since been following a strategy of maintaining a digital full-reserve bank based on cooperation with partners such as Goldman Sachs and Coinbase. The project took a series of regulatory-friendly steps that have been well-received by investors, such as converting its entire deposits into cash and cash-equivalent assets.
USDT and USDC neck and neck in competition over stablecoin market
The stablecoin market has become highly competitive. As mentioned, the main players are USDT, the established no. 1 stablecoin, which is being chased by USDC.
According to data by Messari, as of June 21 Ethereum-based USDC clearly overtook USDT in terms of real volume traded. On that day, the Ethereum network saw $1.1 billion move in USDC volume, compared to only $579 million for USDT. Messari calculates real trading volume based on data from exchanges with ‘significant legitimate trading volume’, including Binance, Bitfinex, BitFlyer, Bitstamp, Bittrex, Coinbase Pro, Gemini and Kraken.
Even on the major issuing blockchain Ethereum itself, USDC supply has overtaken USDT. Data from EtherScan, which shows data of last 30 days of Ethereum blockchain, revealed USDC released on the Ethereum blockchain was valued at $46.9 billion, which is greater than USDT’s total volume in circulation of $32.3 billion.
USDT’s market cap has declined nearly 20% since peaking on May 11 and is currently hovering around $66.7 billion. Meanwhile, USDC’s market cap stands at $55.8 billion. However, CoinMarketCap’s daily trading volume points a very different picture. Here, USDT stands at $44 billion – much greater than USDC’s $5 billion.
Stablecoin risks and future outlook
So, what is the outlook for USDT and USDC? Will one of these two cryptocurrencies dominate the stablecoin market, or will another contender emerge? And are stablecoins even sustainable?
The stablecoin market can only grow once it overcomes the challenge of lack of trust. Fiat currency-linked stablecoins are facing constant doubt about whether the operating institution really maintains a fiat currency reserve. Tether (USDT) has been facing continued criticism because its reserve details are not 100% cash-based and because the assets held in reserve include risky assets. The no. 2 by market cap, Circle (USDC), also sparked controversy with its recent reserve statement report, which changed the account’s status from “correctly stated” to “fairly stated”.
Regulation could pose a risk of shrinking the market, but it could also be an opportunity to attract more investors by providing investor protection. Another notable feature of fiat-linked stablecoins is that they are affected by all the regulations to which fiat currencies are subject. This has raised concerns among governments that stablecoins could affect the supply and demand of their national fiat currencies such as the dollar. On March 10th, US President Joe Biden signed the first executive order on crypto, directing federal agencies to draft cryptocurrency regulations. As a result, the US Department of the Treasury plans to draft regulations on stablecoins and other cryptocurrencies.
Besides pressure from the United States, another risk comes from countries with high inflation rates, which could block stablecoins pegged to foreign currencies to protect demand for their local currency.
On the other hand, many also share the outlook that despite all these risks, the stablecoin market can grow into a financial system that complements fiat currencies. “It is possible that national currencies issued by their central banks, particularly currencies seen as less convenient to use or volatile in value, could be displaced by stablecoins — private cryptocurrencies issued by multinational corporations or global banks and usually backed by US dollars to maintain stability — or by CBDCs issued by major economies”, IMF’s economists wrote in a publication released in June.