The Development and Future of Stablecoins: Insights from the History of the American Banking Industry

Stablecoins, as a means of value storage and exchange, are usually pegged to the US dollar and have gained widespread use in just a few years. Despite the massive trading volume, there remains some ambiguity in people's understanding of stablecoins.

The evolution of stablecoins has gone through a process from under-collateralization to over-collateralization, and from centralization to decentralization. This provides us with important references for understanding the technical structure of stablecoins and eliminating misconceptions.

As a payment innovation, stablecoins simplify the way value is transferred and build a market parallel to traditional financial infrastructure. Its annual transaction volume has surpassed that of major payment networks.

To understand the limitations and scalability of stablecoins, the history of banking development provides a useful perspective. Stablecoins may replicate the developmental path of the banking industry, starting from simple deposits and notes, gradually achieving complex credit expansion.

In recent years, stablecoins have exhibited three main forms: fiat-backed stablecoins, asset-backed stablecoins, and strategy-backed synthetic dollars. By comparing the history of the U.S. banking industry, we can better understand the advantages and disadvantages of these forms and their future development directions.

The Development History of Stablecoins

Since the launch of USDC in 2018, the development of stablecoins has proven which models are viable and which are not. Early users mainly used fiat-backed stablecoins for transfers and savings. Although stablecoins generated by decentralized over-collateralized lending protocols also have some utility, the actual demand is limited. Users are clearly more inclined towards USD-pegged stablecoins.

Some types of stablecoins have failed, such as decentralized, low-collateral stablecoins like Luna-Terra. Other types, such as yield-bearing stablecoins, are still under observation and may face user experience and regulatory hurdles.

With the successful application of stablecoins, other dollar-denominated tokens have emerged, such as strategy-backed synthetic dollars. These products have not yet been fully defined and are primarily adopted by DeFi users who take on higher risks for higher returns.

Fiat-backed stablecoins like USDT and USDC have gained rapid adoption due to their simplicity and security. Asset-backed stablecoins have been relatively slower to adopt but hold an important position in the traditional banking system.

Insights from the Development History of the American Banking Industry

Before the enactment of the Federal Reserve Act in 1913, different forms of currency carried different risks and values. The actual value of banknotes, deposits, and checks could vary significantly, depending on the issuer, the difficulty of redemption, and the issuer's creditworthiness.

It wasn't until after 1913 that one dollar was basically equal to one dollar. Nowadays, banks use deposits through methods such as purchasing government bonds and issuing loans, but they still need to balance profitability and risk.

Credit is key to banking operations and a way to enhance the efficiency of money supply and capital. Stablecoins provide users with an experience similar to bank deposits and notes, but in a self-custodial form. Stablecoins may mimic fiat currencies, starting with simple deposits and evolving as decentralized lending protocols mature.

A Perspective on Three Types of Stablecoins from the Bank Deposit Angle

fiat currency-backed stablecoin

Similar to 19th century American banknotes, fiat-backed stablecoins can be directly exchanged for fiat currency. Users' confidence in them continues to grow, currently accounting for over 94% of the total supply of stablecoins. To mitigate risks, issuers undergo audits and obtain relevant qualifications.

Verifiable reserve proof and decentralized issuance are feasible development directions, but they have not yet been widely adopted.

asset-backed stablecoin

Asset-backed stablecoins mimic the way banks create money through credit. Decentralized over-collateralized lending protocols issue new stablecoins supported by on-chain liquid assets.

Similar to traditional banks, these protocols employ strict collateralization rates and governance mechanisms to protect the value of stablecoins. Users can evaluate the protocols based on criteria such as governance transparency, collateral quality, and smart contract security.

As more economic activities shift to the blockchain, asset-backed stablecoins may occupy a larger share. However, their maturity will still take time, similar to the development process of traditional bank credit.

strategy-supported synthetic dollar

Some projects have launched dollar-pegged tokens supported by collateral and investment strategies. These should not be regarded as stablecoins, but rather as dollar shares similar to open-ended hedge funds, with issues such as audit difficulties and risk exposure.

Users should fully understand the risks and mechanisms before use. Regulatory agencies have taken action against "stablecoin" similar to investment fund stocks. Although popular among users with a higher risk appetite, trading volume is limited.

Conclusion

Stablecoins have been widely used and can be divided into two main categories: fiat-backed and asset-backed. Other dollar-denominated tokens, such as strategy-backed synthetic dollars, are also in development but do not meet the definition of stablecoins.

The history of the banking industry provides a useful perspective for understanding stablecoins. Stablecoins need to be integrated around clear and understandable forms of currency, similar to the development process of Federal Reserve notes. Subsequently, asset-backed stablecoins may increase, just as banks expand the money supply through credit.

Stablecoins have become the most economical way to remit funds and are expected to reshape the payment industry. This creates opportunities for existing businesses and startups to grow on a new payment platform with low friction and low cost.