The biggest threat to crypto comes from stablecoins

Governments are increasingly getting worried about "stablecoins", cryptocurrencies which have a more "stable value". John Stepek explains what stablecoins are and why they are causing alarm.

Bitcoin and other cryptocurrencies have endured a rollercoaster ride in recent weeks, partly because authorities across the world appear to be paying them more attention.

Yet, judging by the US Federal Reserve’s recent comments, it’s not so much bitcoin but another type of crypto that worries central banks more than any other: “stablecoins”.

We explain stablecoins in more detail below, but in short, the ideas is to create a cryptocurrency with a “stable” value, which means it can actually be used in practical day-to-day transactions as money – very much like government-issued or “fiat” currencies, such as the pound or dollar. While scepticism about crypto’s aspirations abounds, it’s very clear that central banks are taking these potential competitors seriously.

In a recent speech, Lael Brainard, one of the Federal Reserve’s more influential governors, noted that “if widely adopted, stablecoins could serve as the basis of an alternative payments system oriented around new private forms of money”.

Brainard warns of a lack of regulatory oversight and “the risk of run-like behaviour” – whereby the value of a private currency collapses because people lose confidence in it (something which has, of course, happened to plenty of fiat currencies over time).

Brainard has a point. The best-known and largest stablecoin is Tether. Tether is “pegged” to the US dollar – in theory you should always be able to swap one Tether for one US dollar. However, to make such a promise you need to be able to back it up, and as Jemima Kelly points out on FT Alphaville, Tether’s story has changed on this over time.

“Tether used to claim all its tokens were backed one-to-one by US dollars held in cash reserves.” However, last month Tether revealed that in fact, just under 76% of its reserves are in “cash or cash equivalents” and overall, just under 3% in total is in actual dollars. This is unaudited, so you also only have Tether’s word to go on.

Yet while the idea of an economy in which private currency issuers compete with one another (rather than the state monopolising the currency), is alien to us today, there have been periods of successful “free banking” in the past.

Regulators will talk disparagingly of “wildcat” banks in the US in the 1800s, but academics generally agree that Scotland’s free banking system worked well between 1716 and 1845.

It’s right to be sceptical of many of the utopian promises and rickety structures coming out of cryptoland. But you should be equally clear-eyed about the position of governments: they have no intention of giving up their monopoly currency issuer status.

Dabble in crypto by all means – but don’t invest money you can’t afford to lose and watch the regulators closely. Ironically, the more popular crypto becomes, the greater the risks.

SEE ALSO

Do Kwon: the King of Crypto Lunatics

Recommended

Persimmon yields 12.3%, but can you trust the company to deliver?
Share tips

Persimmon yields 12.3%, but can you trust the company to deliver?

With a dividend yield of 12.3%, Persimmon looks like a highly attractive prospect for income investors. But that sort of yield can also indicate compa…
1 Jul 2022
The MoneyWeek Podcast: nuggets of positivity in an extended bear market
Investment strategy

The MoneyWeek Podcast: nuggets of positivity in an extended bear market

Merryn and John talk about he need for higher wages and lower house prices, and why the fact that this is the least dramatic bear market they’ve ever …
1 Jul 2022
Here are the best savings accounts on the market now
Savings

Here are the best savings accounts on the market now

With inflation at more than 9%, your savings are not going to keep pace with the rising cost of living. But you can at least slow the rate at which yo…
1 Jul 2022
Don’t try to time the bottom – start buying good companies now
Investment strategy

Don’t try to time the bottom – start buying good companies now

Markets are having a rough time, so you may be tempted to wait to try to call the bottom and pick up some bargains. But that would be a mistake, says …
1 Jul 2022

Most Popular

UK house prices are definitely cooling off – but are they heading for a fall?
House prices

UK house prices are definitely cooling off – but are they heading for a fall?

UK house prices hit a fresh high in June, but as interest rates start to rise, the market is cooling John Stepek assesses just how much of an effect h…
30 Jun 2022
The ten highest dividend yields in the FTSE 100
Income investing

The ten highest dividend yields in the FTSE 100

Rupert Hargreaves looks at the FTSE 100’s top yielding stocks for income investors to consider.
22 Jun 2022
Gold has been incredibly boring to own – but that’s no bad thing right now
Gold

Gold has been incredibly boring to own – but that’s no bad thing right now

Stocks, bonds and cryptocurrencies have all seen big falls this year. But gold remains at its one-year average. It may be dull, but it’s doing what it…
29 Jun 2022