[A Brief on Stablecoin] Stablecoin on the Cusp, How to Understand the Hot Topic of Crypto Currency Stablecoin (Part 1)
(Due to birth of GUSD and major price of the cryptocurrency fluctuations, blockchain-based stablecoin has recently become a hot topic of discussion among industries. A member from the Chinese Alchemint community, Yi Mo has hereby published his opinions on the topic of stablecoin. Yi Mo expressed in his article that he has learned from the point of views of Zhu Chen Mikko and Pan Chao, and also pays tribute to the two predecessors. This article is divided into part 1, 2, and 3. Alchemint will be continuously publishing Yi Mo’s article on stablecoin this week on our public platform.)
Recently, with blockchain investment in the big bear market, majority of token prices have dropped by 90% since their births. More than that, much trusted blockchain-based Bitcoin and Ethereum have also experienced a more than 50% drop from their highest point. This is especially so for Ethereum, in which a drop from nearly $1,500 at the beginning of the year to around $220 now can be seen. These are all due to the unobvious landing situation of blockchain application, at the same time, small market value of digital currency causes easy manipulation and operation from big funds. In fact, these are all game theory.
The demand for stablecoin in this bear market can be heard, as the ecology of blockchain technology has created an express system of global economic flow. However, the assets operating in this system are Bitcoin, Ethereum, and other digital currencies which have high price volatility, therefore exist uncertainties and inconveniences during the value exchange process. The uncertainties are on price volatility, whereas inconveniences are on timely conversions between digital currency and fiat money. Blockchain-based stablecoin can greatly reduce the uncertainty and inconvenience of blockchain value transmission.
It is understood through media that the New York State Department of Financial Services (NYDFS) has approved the issuance of two types of stablecoins built on Ethereum: the Gemini Dollar issued by Gemini and the Paxos Standard issued by Paxos. Both companies will be using the form of fiat money reserve account to launch stable digital currency built on Ethereum that is collateralized by the US dollar. Parties in the market have expressed positive attitude with the release of this news. The main message brought by this news to the market is that blockchain technology is supported by a supervision agency, and that the market generally thinks that supervised stablecoin will be able to energize the digital currency quotation in the bear market, and it is because of a regulatory-compliant agency that they are more willing to carry out transactions using supervised digital currency and make digital asset investments. This has indeed given many spaces for creativity for the whole blockchain market.
Gemini Dollar (GUSD) is a centrally issued stablecoin. It has the advantage of easy supervision, decreasing risks during digital currency investments for regulatory-compliant agencies. On the other hand, although USDT is also a centrally issued stablecoin with advantages in its circulation and market recognition, it is after all still a stablecoin issued by Tether, a regulatory-unsupervised agency. The biggest problem with centrally issued stablecoin is that its credibility is subjected to the issuing agency. This is because the value of stablecoin issued by a centralized agency comes from the fiat money that the agency can exchange. This means stablecoin issued by centralized agency is more like debt issued by agency. Like all creditors, its value comes from the market’s confidence towards the agency. As said by economic researcher Pan Chao, this type of stablecoin is fiat money deposit conversion certificate.
However, transparency is not the core for creditor such as stablecoin. High liquidity can also reduce the disadvantage of low transparency. RMB assets recorded by Alipay and WeChat Pay are also stablecoins on the Internet, but people trust the companies behind Alipay and WeChat Pay, therefore they are willing to put the assets in their banks as capital pools of Alipay and WeChat Pay. Those who use WeChat Pay and Alipay usually will not be concerned about the companies’ audit reports and whether WeChat Pay and Alipay’s capital pools are enough to cash everyone’s RMB assets. This is because these kind of payment platforms have already created a massive payment ecology and have thus created massive circulation. Unless extreme situations occur, people will not show distrust towards the question of whether the capital pools of WeChat Pay and Alipay are 100% reserves.
USDT is now facing the same situation as WeChat Pay and Alipay. It occupies a great share of stablecoin demand market because of its early advantage, but voices of suspicions towards USDT can still be heard from the market. However, in my opinion, USDT will not collapse as long as Tether and Bitfinex have enough cash flow for acceptance.
Here, I would also like to introduce a mechanism that issues stablecoin through over-collateralization of digital assets, commonly known as decentralized stablecoin. Popular programs in the market that issue stablecoin through over-collateralization of assets are BitShares, MakerDAO, and Alchemint. The mechanism is not complicated, through smart contract and price feed mechanism, using an over-collateralization rate of 200%. For example, if I have $1,000 NEO digital currency, I can issue as high as 500 SDUSD stablecoins that is collateral to USD price through Alchemint’s smart contract mortgage reserve.
SDUSD can make transactions on NEO chain and also cash to fiat money through live dealers. The biggest difference between issuing stablecoin through over-collateralization of digital assets and centralizing issuance is that issuing stablecoin through over-collateralization of digital assets is decentralized. Everyone can pawn half of the amount of stablecoin through smart contract reserve as long as they have the corresponding amount of digital assets. There is no loss in digital assets. They are just temporarily kept in the smart contract reserve and can be redeemed by returning the corresponding amount of stablecoins.
This mechanism originally comes from BitShares. BitShares is a built-in exchange platform in wallets. Anyone can issue BitUSD through over-collateralization of BTS. BitUSD is originally designed as a hedging tool for risk aversion party to impute risks to risk seeking party, but the unexpected happens and the risk-free assets obtained by the risk aversion party become another form of fiat money after risks are filtered. This leads to decentralized stablecoins produced by over-collateralization rate. (Refer to program whitepaper to know more about over-collateralization mechanism. I will not elaborate more here.)
Compared to centralized stablecoin, the biggest shortcoming of decentralized stablecoin is that it does not have an innate stable acceptance dealer. Various acceptance dealers, transaction centers or digital asset foundations play their roles in decentralized stablecoin. Not only decentralized stablecoin has slower network compared to centralized stablecoin, the building of its ecology also takes a longer time. Even for BitShares, many outside acceptance dealers are willing to work as fiat money acceptors for BitCNY and BitUSD after many years. However, the existence of BitShares acceptance dealers are still very few since most people in the market probably do not know about the existence of over-collateralized stablecoin and its acceptance dealer. However, this kind of decentralized-issued stablecoin will become an important part in the blockchain network.