The United States federal government is pretty insecure these days. Inflation is high, discontent higher, and no one is quite sure how to sort out our monetary mess. Government agents will not examine their bad choices and change course. They will instead lash out at "wreckers" that they can blame for their own misdeeds.
Here is just one example: the price of meat you see creeping up each week at the grocery store is not the result of printing insane amounts of money amidst an anti-meat "environmental" shame campaign, some will insist. According to the White House, it's the "greed of meat conglomerates."
There is at least an internal logic to the anti-meat mania. Egghead planners have decided that meat is bad and we should have less of it. They can deflect the blowback onto the producers of the thing they want to eliminate anyway. It's your classic win-win situation for government control.
But flailing often misfires. This was the case with a recent Congressional hearing on a cryptocurrency technology called a stablecoin.
Democrats on the Senate Banking Committee attacked stablecoins on grounds ranging from the unfair to the nonsensical. The weirdest thing about it is that the U.S. government in particular should be welcoming the development of stablecoins right about now.
The idea behind a stablecoin is simple. It is a cryptocurrency that is backed 1-to-1 by some "stable" (get it?) asset, usually the U.S. dollar. This allows people to enjoy the benefits of blockchain transfer—quick, cheap, and international—without worrying about the vicissitudes of day-to-day crypto pricing. If it sounds a bit like full reserve banking, that's what it basically is.
The most popular stablecoins include Tether (from Bitfinex), USDC (Circle), BUSD (Binance), and Dai (a smart contract from MakerDAO on Ethereum). The first three are centralized and backed by dollars or dollar equivalents, while Dai is decentralized and backed by digital assets like USDC and a cryptocurrency called ETH. These four combined manage some $140 billion in value.
Some cryptocurrency advocates actually look down on stablecoins precisely because they are often tethered to government money. Even so, stablecoins have become a key component of basic cryptocurrency transfer as well as decentralized finance, or DeFi, because they provide a way for cryptocurrency users to easily swap between currencies without volatility on a decentralized exchange or DEX.
With stablecoins, in other words, you have a bridge between the fiat and crypto economies that benefits both "sides." Cryptocurrency users have a stable way to swap tokens in DeFi operations or just transfer money. Dominant governments find a major anchor in the crypto economy for their state currencies and therefore their global influence. Seems like the makings of a stable (boo) equilibrium.
This was not apparent in the Senate chambers last week. Here is how the Senate Banking Committee Twitter account publicized the hearing: "Stablecoins trap people's money with fine print and create dangers for our economy. To safeguard Americans' savings and our entire economy, we have to address the risks of stablecoin [sic]." The graphic displayed also shaved off two pro-stablecoin witnesses at the hearing. Senate Banking Committee Democrats did not come to play.
Judging by the questions, chief among these systemic dangers to our entire economy is…the risk that Circle (which issues USDC) will mint physical coins that say the word dollar on them? (It's a sore subject.) Another weird line of questioning concerned how accessible stablecoins would be for people to "buy a cup of coffee at a local bodega," despite that not being the intended primary use case. Senator Elizabeth Warren darkly intoned that in this new economy, "someone can't even tell if they're dealing with a terrorist"—another sore subject.
These miscalibrated and often comical asides are a typical fixture of a cryptocurrency hearing in Washington. But when it comes to stablecoins, the core policy question is straightforward.
Should stablecoin issuance be limited to federally regulated banks, like a Biden administration report recently recommended? Or is a more minimal and tailored regulatory framework, like the one we have for fintech firms like PayPal, more appropriate for stablecoin issuance, like Federal Reserve Board Governor Christopher Waller—who is primarily concerned with the dollar—recently supported?
The comparison to PayPal is illustrative. Stablecoins might seem especially risky because they are new and involve a blockchain, but functionally, they are not much different from how a company like PayPal operates. PayPal facilitates stable money transfer and keeps a reserve on hand to do so.
Do you lose any sleep at night over PayPal's reserve management? Probably not, even though we cannot know right now for certain how many "PayPal dollars" exist. But we can know how many Tethers are outstanding at any time by observing its public ledger.
Stablecoins are not too different from things like PayPal that have existed for around two decades, but the Senate Banking Committee wants us believe that the entire economy can be brought down because of a similar arrangement at Tether. It's fearmongering intended to limit options and opportunities for you and me.
If the rules treated stablecoins similarly to how we treat companies like PayPal, it would ensure the oversight and auditing that even stablecoin issuers agree is helpful. For instance, no one disagrees that stablecoin issuers should responsibly manage their reserves.
The real sticking point is not stablecoins themselves, which are already regulated but could use more clarity, but the DeFi economy that stablecoins enable. Anti-stablecoin Senators repeatedly referenced the "DeFi casino" that—horror of horrors—allows people to take out zero percent interest loans on their cryptocurrency or lend out liquidity for a decent yield. Not even DeFi is truly "unregulated," but it does afford mostly young and largely outsider investors a freer opportunity to make and save their money. This is untenable for the insiders who make their living controlling what other people can do with their money. (How strange that Sen. Warren—that champion against the big banks—is attacking one of the largest areas of free competition that challenges it.)
DeFi isn't perfect—nothing is. Ethereum is plagued by high transaction fees, which eat away at capital. There are plenty of scams. There's a good amount of laziness, too. If a smart contract is poorly coded, users can be negatively affected just as if there was some malice to blame. These are real problems, but they're not ones best solved by effectively killing this industry as many in Washington would like to do.
People are turning to DeFi and the stablecoins that support it precisely because the U.S. establishment has failed to "protect American's savings" and prevent "dangers to our entire economy." So of course, politicians will attack these escape hatches and blame them for the problems that their own actions caused.
The great thing about bitcoin is politicians can't easily stop it. They can make it harder to access, and they can try to threaten or control third parties who build bitcoin services.
One big vulnerability in the DeFi landscape is the open question of just how decentralized many of cryptocurrency services and even protocols are. Most of DeFi is built on a smart contracting protocol like Ethereum or an "Ethereum-killer" like Solana or Avalanche that runs in a similar way.
In terms of regulation, some rules are triggered depending on whether or not something is sufficiently decentralized, although even here there is more flexibility than many people realize. But let's not be naïve. Satoshi Nakamoto did not reveal his identity because he did not want to be open for government manipulation (or worse). The creator of Ethereum, on the other hand, is very identifiable, and has organized a chain rollback before.
Even if the government were able to clamp down on custom built smart contract platform-based DeFi, that would not kill DeFi. A new wave of DeFi functionality is currently being ported on the Bitcoin blockchain with projects like Sovryn, which is run on a sidechain, and Atomic Finance, which would be totally on chain. These wouldn't necessarily require stablecoins, either.
It seems that many in the government are having a hard time accepting the existence of something they cannot truly control, if they even understand it at all. With stablecoins, the government has an opportunity to create a light touch regulatory regime like the one we have for existing fintech firms that would end up shoring up the dollar in the crypto economy at the same time.
But the specter of DeFi will probably spook them too much to engage on this level of realpolitik. It will be too tempting to clamp down on stablecoins to try to kill DeFi, which will result in the worst of both worlds for the government and cut off many people from financial opportunity along the way.
Ethereum- and competitor-based DeFi may be easier to control because of their identifiable leadership, and current stablecoins can be corralled because of their link to the legacy financial system. But these techniques can and are being ported onto bitcoin, which is much harder to control on its own. These applications will march on, albeit much less accessibly, but the government can drag down the people who need it most as it flails for control.