The steady rise of stablecoins

The way that central banks responded to the global financial crisis almost 20 years ago is often derided as “printing money” and “debasement”. This shorthand is odd. Whereas a Roman emperor might debase a coin by reducing its precious metals content or a Weimar chancellor might print banknotes, now money creation is digital. That’s because in a modern economy, money takes the form of bank deposits stored electronically.

Unlike banknotes, which are printed on polymers with holograms and foil patches to prevent forgery, electronic money is replicable. Anything digital can be copied ad infinitum. An album on Spotify or a video on YouTube can be streamed all over the world at close to zero marginal cost. For most digital assets this doesn’t matter – millions of people can own the same album. But for digital money to hold its value, different people can’t simultaneously use the same asset.

To prevent double-spending, bankers adopted centralised electronic ledgers, recording transactions between counterparties, verifying and confirming the change in balances between the two account holders. Centralised ledgers form the backbone of the financial system, handling trillions of transactions. Then around 20 years ago, crypto enthusiasts invented an alternative to centralised ledgers – distributed ledger technology (DLT), where a DLT is maintained across a network of computers rather than being held by a central authority such as the central bank.

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It’s not entirely clear what problem the innovators thought this was solving. Yes, bitcoin’s value has increased exponentially, to such an extent that the 10,000 bitcoins used to buy two pizzas in the first real-world transaction in 2010 would now be worth a billion US dollars. Yet despite this, bitcoin has failed to achieve the original ambition set out by the pseudonymous Satoshi Nakamoto in his or her original white paper titled Bitcoin: A Peer-to-Peer Electronic Cash System.

To take one telling example, a bitcoin conference in Miami had to stop accepting bitcoin payments for tickets due to network congestion, high transaction fees and the manual processing required. Organisers admitted the cryptocurrency was simply too impractical for everyday transactions like selling tickets. Similarly, Tesla began accepting bitcoin as payment for cars in 2021, yet Elon Musk reversed this decision within a couple of months, ostensibly for environmental reasons, as the process was so energy intensive.

Stablecoins: A “trading bridge” to crypto markets

Now a new kind of distributed ledger innovation is starting to occupy the spotlight: stablecoins. There are now more than $250 billion of stablecoins, up 59% year on year. These tokens are not designed for speculation: they are built for stability and transactions and are far more energy efficient than bitcoin.

A stablecoin is a cryptocurrency that aims to maintain a stable value relative to another asset, such as the US dollar. They were originally developed as a “trading bridge” to crypto markets. Investors use them to park profits from selling bitcoin and other cryptocurrencies, without having to convert back into money held within the traditional banking system.

Banks and neo-banks such as Revolut and N26 allow customers to buy crypto, but they will often block accounts that transfer in large sums of crypto from unidentified sources due to anti-money laundering (AML) requirements. As stablecoins operate on public blockchains, their compliance model is fundamentally different. They generally do not do know your customer (KYC) processes for their individual users. Instead they rely on crypto exchanges such as Binance, Coinbase or Kraken to do the KYC.

Much of the momentum for stablecoins has come from acceptance by financial regulators, particularly the Trump administration’s Genius Act. Financial institutions can now treat stablecoins like cash on their balance sheet, pegged to the value of the US dollar. Growing acceptance mean they are being plumbed into the pipes of the financial system.

For instance BlackRock, the world’s largest asset manager with over $10 trillion assets under management (AUM), announced a partnership with cryptocurrency exchange Circle that aims to enable USDC (Circle’s dollar-pegged stablecoin) to function as a form of programmable digital cash on the internet. BlackRock’s role is to provide an underlying cash-reserve investment, similar to a money market fund that invests in short-term government debt.

Tether’s money machine

Tether, the largest stablecoin with close to $180 billion in circulation, is 75%-backed by holdings in US government debt. In effect, Tether is able to borrow huge amounts from customers, pay no interest, invest the money in safe assets yielding 4% and keep 100% of the returns, amounting to annual interest of $7 billion.

This is an amazingly lucrative business model , yet somehow it is not enough, since Tether is already deploying 25% of its deposits elsewhere. This includes bitcoin and over 100 tonnes of gold – the growing popularity of gold reflects that “the world is going toward darkness”, according to CEO Paolo Ardoino.

A week ago, Tether made an all-cash proposal to buy Juventus Football Club. The press release does not make it clear whether it is using its own accumulated profits or customer deposits to fund the purchase – hopefully the former. Earlier in December, Tether Investments (the arm of the business that deploys its profits) announced it was taking part in a funding round for an Italian robotics company.

Still, regardless of where some of Tether’s deposits are going, it has become a meaningful player in US Treasuries, with its purchases offsetting the amount of US government debt that China has sold over the past three years. US Treasury secretary Scott Bessent has explicitly signalled that he expects stablecoins to become an even larger source of deficit funding for the US government. The US administration believes that dollar-backed stablecoins could appeal most to savers in countries such as Argentina, Egypt or Turkey, where trust in domestic financial institutions is low and people prefer to hold US currency.

Countries with a relatively high adoption of stablecoins already include Ukraine, Turkey and Nigeria – in effect, the population of these countries are funding US deficit spending. Conversely, non-US governments that hope to issue stablecoins in local currency may have missed a crucial point – the underlying demand is for stable US dollar exposure rather than the stablecoin itself.

How will stablecoins work in practice?

While stablecoins seem to be a “safe” asset, they have the potential to threaten financial instability. If billions leave the banking system to fund governments directly, this could raise the cost of funding for banks. No doubt banks would pass on higher funding costs to their borrowers – corporates and households.

Banks may respond to the threat to their deposit businesses by issuing their own stablecoins. They have also lobbied US politicians to prevent non-bank issuers from paying interest to customers or offering other incentives. Ardoino has told The Peg, a stablecoin newsletter, that this would be short-lived. “I’m not sweating at all. Many of these new stablecoins will fail,” he said. “If JPMorgan creates a stablecoin, they will offer the stablecoin to their account holders, who are exactly the people that don’t need a stablecoin.”

There remain several puzzles about how stablecoins will work in practice. Are stablecoins for non-bank customers simply a work-around of AML and KYC regulations? How will issuers like Tether and Circle maintain confidence in the peg to the dollar during a crisis? What constraints limit the supply of stablecoins?

It’s also unclear what problems stablecoins solve for ordinary savers who aren’t interested in using them as a bridge to speculate in cryptocurrencies. Obvious uses include cross-border payments that bypass the traditional bank-based payments system with its high fees. Yet this has already been solved by transfer firms such as Wise.

Stablecoins that pass on interest from their bonds (unlike Tether, at present) could mean that savers earn higher interest rates. However, investment platforms such as AJ Bell, Fidelity and Interactive Investor already report that their most popular products are short-term money market funds that invest directly in government debt.

So with the obvious applications in the developed world already met elsewhere, the demand for stablecoins appears to be coming from unstable parts of the world, as an alternative to keeping physical dollars under the mattress.

Is Tether worth half a trillion dollars?

Tether is seeking to raise $15 billion-$20 billion in funding by selling a 3% stake at an eyebrow-raising $500 billion valuation. The group has signalled net profits for 2025 of roughly $15 billion, so that would imply a price/earnings (p/e) ratio of over 30 times. Tether’s closest rival, Circle, which listed in New York in June, is valued at less than $20 billion, having fallen 70% from its June peak. Nonetheless, it trades on a p/e of almost 70 times forecast earnings for 2026.

UK banks trade on less than 10 times. Arguably, stablecoin issuers offer lower risk than banks, as they don’t take credit risk (ie, they don’t lend to customers) or do maturity transformation (use short-term deposits to make long-term loans). Yet Tether – which is domiciled in El Salvador and operates from the Swiss town of Lugano – does not match its stablecoin one-to-one with US Treasuries. This does not inspire confidence.

We’ve already seen one stablecoin – Terra – collapse, albeit with a different business model to Circle and Tether. Terra was not backed by Treasuries, but instead based on a poorly understood trading algorithm that created a death spiral. Do Kwon, the co-founder of Terra, was last week sentenced to 15 years in prison, with the judge saying he had committed “fraud on an epic, generational scale”.

Given that no bankers in the UK or US faced jail after the financial crisis, perhaps regulators holding management to account is one innovation that could be replicated from stablecoins groups to traditional finance.

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