People can’t imagine the impact ‘DeFi’ (decentralized finance) solutions, such as stablecoins, will have on the world. The potential is similar to Bitcoin, but the effects of stablecoins will envelope the whole financial system. DeFi empowers developers and entrepreneurs to replicate the current financial system in a trustless and decentralized manner. This is huge.
But, there’s one problem. Regulators don’t understand what is going on when it comes to DeFi apps, such as stablecoins. They think stablecoins like Libra, Tether, and USDC pose some kind of systemic risk to global finance. This couldn’t be further from the truth. Stablecoins pose no risk for governments. Instead, the real risk is for those who use a stablecoin like Libra, because they must rely on a counterparty––in this case, Facebook and its partners in the Libra Foundation. There are privacy concerns, too. And so, people should be afraid of Libra, not governments.
Q4 2019 hedge fund letters, conferences and more
That regulators don’t know how stablecoins work is a huge problem for innovators. There is no effective difference between Libra and cash. Facebook is a lot more like Venmo and PayPal than Bitcoin. In fact, Libra is not the sort of thing Bitcoiners would like, since it is centralized and doesn’t offer privacy.
Stablecoins: Libra explained
Using a DeFi stablecoin backed by national currency as collateral is like using bank transfers of national currencies. The only material difference is the medium. Libra is essentially just the US dollar in token form, except you can transfer it efficiently over the internet. Unlike cash, Libra can control everything with Libra, which makes regulators happy. They can track every single transaction, every wallet, and every owner. That is, they can monitor the Libra, and know who holds it.
Since it is backed by a basket of fiat currencies, Libra could even strengthen the current financial system by promoting the use of fiat currencies and making it more competitive with new types of money cropping up on the blockchain. It will be more transparent, more traceable.
DeFi and the dollar
So then, what's the big systemic risk? I don’t see it. The use of stablecoins will be less impactful on the economic system than the credit card, for, when you use a credit card, credit is issued. This is akin to issuing currency. No credit is created when Libra is used. The dollars being held by a centralized entity, such as Facebook with a bank, back the token.
The main risk would be that the Association behind Libra issues more tokens than the assets it holds in reserve. If they do what central banks do –– that is, issue more value than the real collateral that they have –– then, if the Association became insolvent, for instance, that could lead to people losing their money.
But, that probably won’t happen. Libra is not based on a fractional-reserve system. Another potential risk is that the Libra Association or bank where Libra’s assets are held implodes. But that’s the same risk as a J.P. Morgan or another big bank going under.
The more tangible risk doesn’t pose a big threat to the global financial system at all. That is, the risk of one institution –– an unregulated social media company –– having all of this information. This could be a privacy concern. While the financial aspects of Libra can be regulated, private companies do not have a good track record protecting private information.
DeFi and stablecoins
The lesson in all of this? Regulators are blocking Libra, not because it actually poses a systemic risk, but because they simply don’t yet understand it nor stablecoins, for that matter. If they do not understand decentralized finance products, such as stablecoins, regulators will, at the very least, slow innovation.
What’s taking place today with Libra is the same thing that has transpired with Bitcoin. Like in the case of Bitcoin, some regulators will argue against it no matter what, while others will have a
more open mind. But, one thing is for sure: If gold, which has been viewed as money and a store of value for thousands of years, doesn’t pose a systemic risk, then neither does bitcoin –– and, even less so, stablecoins
Projects like Libra, if regulated properly, provide systemic stability. With stablecoins, people will trade more efficiently, avoiding the international bank transfers that take two-three days and cost a lot in fees.
From that point of view, DeFi such as stablecoins could eat the banks’ feast of fees. Western Union, too, could lose out on a lot of remittances. This decrease in fees gives banks a reason to be worried––just like whale hunters were worried about oil. But, banks and governments should embrace this technology. They should invest in this technology. If you don’t adapt, then you become a dinosaur. Stablecoins will be good for the economy.
