The European Central Bank published a paper devoted to stablecoins on Aug. 29 and their role as a stabilizing force in the highly volatile cryptocurrency market. Titled “In search for stability in crypto-assets: are stablecoins the solution?”, the paper noted that even stablecoins with a clear governance structure face uncertainty caused by lack of regulation.
According to the paper, stablecoins are described as “digital units of value that are not a form of any specific currency (or basket thereof) but rather, by relying on a set of stabilization tools, try to minimize fluctuations in their price in such currencies.”
The paper identifies four types of stablecoins:
- Tokenized funds: backed by funds held by the token issuer or third party for safekeeping
- Off-chain collateralized stablecoins: backed by traditional assets kept by the custodian
- On-chain collateralized stablecoins: backed by assets such as crypto assets
- Algorithmic stablecoins: backed by the holder’s future expectations
The bank noted the uncertainties in the structure of stablecoin projects. The adoption of stablecoins may largely hinge on improved governance including the process of updating the smart contracts that hold the project together, said the ECB.
In July, Reuters reported that an ECB policymaker, Jens Weidmann, believed stablecoins have prospects of prosperity but users had to be cautious about them until all questions surrounding their deployment have been answered.
“There’s no reason to be alarmed but there’s a reason to be vigilant,” said Weidmann while addressing a news conference at a G7 meeting.
In December last year, Basis, a well-funded algorithmic stablecoin that raised $133 million from high-profile investors shut down after running into trouble with regulators. The project had to refund investors, which included a list of well-known names such as Andreessen Horowitz, Bain Capital Ventures, and Google’s venture arm GV.
Stablecoins Keep Showing Up
The number of stablecoin projects has been rising over the last few years. According to the ECB report, there are at least 54 stablecoin projects and 24 of them are already fully operational.
The market capitalization of stablecoin projects grew by nearly 300 percent from $1.7 billion in January 2018 to $4.8 billion in July this year. Between January and July this year, the average monthly volume of stablecoin transactions was €13.5 billion.
Tokenized funds are the most popular type of stablecoins and accounted for nearly 97 percent of the monthly volume of all stablecoin projects.
The Tether (USDT) Case
Tether, which is one of the most well-known stablecoin on the market, dominates the market segment in terms of trading volume and market cap. In February 2018, Tether accounted for roughly 99 percent of the market cap of the entire stablecoin market cap but this rate has dropped to 81 percent in July this year.
Tether was one of the first stablecoins to be issued and as a result, enjoys a first-mover advantage. The stablecoin has remained dominant despite facing stiff competition from emerging projects such as USDC and others.
Tether has a daily volume of €12.7 billion but this figure should not be completely trusted because a number of exchanges are involved in wash trading. Tether, through its close proximity with cryptocurrency exchange Bitfinex, has been accused of manipulating the price of bitcoin in 2017 when it reached its record high of more than $19,000.
Other promising stablecoin will likely give the controversial Tether a good run for its money. Facebook, the largest social network with over 2 billion users, unveiled a stablecoin tied to a basket of major fiat assets such as USD, EUR, etc. The project has hit a brick wall from international policymakers who see it as a threat to global financial stability.