The BIS criticizes stablecoins as "not in line with monetary principles," with three major risks that could endanger the financial system.

The latest report from the Bank for International Settlements (BIS) indicates that while stablecoins are widely adopted and growing rapidly, they cannot become "money." It further points out that stablecoins not only lose their "uniqueness, flexibility, and integrity," but they also pose a risk of destabilizing the financial system. Therefore, the BIS is actively urging countries around the world to strengthen regulation and not to allow the unchecked development of stablecoins.

Why is cryptocurrency difficult to be considered as "real money"?

The BIS pointed out that the birth of Bitcoin (BTC) and stablecoins (Stablecoin) comes from a common goal, which is to create a "decentralized" monetary system. These "digital currencies" hope to use blockchain technology to replace traditional accounting and transaction methods, allowing everyone to participate without having to trust specific institutions.

However, the BIS emphasizes that while this ideal seems appealing, in practice, cryptocurrencies not only have large price fluctuations and poor efficiency, but they also cannot truly fulfill the functions that a "currency" should have; for the most part, they can only serve as speculative assets.

The issuer claims to be pegged to the US dollar at a 1:1 ratio, but the price often deviates.

BIS pointed out that stablecoins are like "fiat currency substitutes on the blockchain," for example, Tether and Circle's stablecoin issuers also claim that their USDT and USDC are pegged to the US dollar 1:1, allowing users to have stable trading tools on the chain.

The BIS stated that stablecoins are usually issued by a single company, which "backs" the coins it issues with reserve assets to ensure their value. However, the BIS found that even though these stablecoins claim to be "stable," they often fail to achieve a "1:1 exchange" and the exchange prices in the market fluctuate continuously.

Three Major Failures of Stablecoins: Uniqueness, Elasticity, and Integrity are All Unsatisfactory

Single point of failure: inability to interoperate between different stablecoins

The BIS believes that stablecoins are more like a "debt claim" against a specific issuer. Different stablecoins cannot be interoperable and may experience price discrepancies in the market similar to ETFs, where the buying and selling prices do not necessarily equal 1 dollar, contradicting the monetary characteristic of "being able to circulate without asking for a price," thus making it difficult to achieve monetary singularity.

From the two images below, it can be seen that the market capitalization of stablecoins has grown rapidly in recent years, with the market highly concentrated in a few stablecoins like USDT and USDC. Although fiat-backed stablecoins have lower volatility, there are still obvious price fluctuations, especially algorithmic stablecoins, which can be even more volatile than Bitcoin.

Elastic failure: inability to cope with financial stress or sudden events

The BIS stated that central banks can provide liquidity based on market conditions, such as temporary loans and instant settlements. However, stablecoins cannot do this; they must "collect money first before issuing coins," and are completely unable to expand their balance sheets to respond to large transactions or emergencies.

The BIS cites examples such as real-time gross settlement system (RTGS) or corporate backup credit, which can provide financial assistance during times of crisis. However, stablecoins lack this flexibility and cannot support the modern payment and settlement needs.

Integrity Failures: A Chain Reaction of Money Laundering Activities and Fraud Risks

The BIS stated that the biggest risk of stablecoins lies in their "opacity and difficulty in tracking," as many users utilize stablecoins through unhosted wallets without undergoing identity verification (KYC), nor do they need to go through financial institutions, allowing criminals to make discreet transfers and evade investigation.

Although on-chain transactions can be recorded, many people use "mixers" to obfuscate the flow of funds, making it difficult for the government to trace. Even if exchanges or issuers can freeze certain addresses, it is almost impossible to monitor all transactions given the billions of transactions each year.

Stablecoins may pose a "systemic risk" to financial markets and sovereign policies.

In addition to the design issues of stablecoins themselves, the BIS also pointed out that if stablecoins continue to expand, they will bring deeper systemic risks. These include threats to monetary sovereignty, pressures on financial markets, and the interconnected risks of traditional banking systems.

BIS further stated that over 99% of stablecoins are currently denominated in US dollars. In many high-inflation countries, users are more inclined to use stablecoins as a means of transaction and store of value, indirectly weakening the effectiveness of local central banks' monetary policy.

As can be seen from the figure below:

Since 2020, cross-border stablecoin (USDT and USDC) have seen rapid growth in liquidity, with a total amount approaching 400 billion USD by 2024, indicating their expanding role in international payments.

The main factors contributing to the increased cross-border use of stablecoins are "high inflation and increased awareness of stablecoins."

Stablecoin issuers, in order to maintain price stability, invest large amounts of capital into short-term U.S. Treasuries. Once the scale of the stablecoin market grows larger, it may squeeze the space for other investors and even trigger a massive redemption wave under market pressure, leading to sell-off risks.

Finally, if banks themselves begin to issue stablecoins that circulate in the form of blockchain and are not included in the deposit insurance system, it may lead to a rapid outflow of funds under financial pressure, impacting the banks' lending capacity and the real economy, further deepening the vulnerability of the financial system.

As can be seen from the figure below,

In 2024, stablecoin issuers have become one of the main buyers of short-term U.S. Treasury bonds, with purchase scales comparable to money market funds (MMFs), significantly increasing their influence in the market.

Large purchases of stablecoins in short-term US Treasury bonds will suppress yields. When facing tight monetary policy ( such as interest rate hikes ), the price of stablecoins reacts similarly to risk assets, showing a significant decline.

The development of stablecoins must be strictly regulated.

The BIS emphasizes that it is necessary to be "technologically neutral" in regulating stablecoins, and that they cannot be left unregulated simply because stablecoins are a new technology. Here are the specific regulatory recommendations from the BIS:

All wallets and exchanges must implement KYC and anti-money laundering (AML) measures.

Implement the "travel rule" for unhosted wallets.

Stablecoins should hold highly liquid reserve assets, such as short-term government bonds.

Establish a regular audit and transparent disclosure system.

Prohibit stablecoins from paying interest ( to prevent arbitrage ).

( Starting June 1 in Japan, exchanges are required to comply with the "Travel Rule," and non-custodial wallets also need to be investigated ).

This article criticizes stablecoins as "not in line with monetary principles" by the BIS, highlighting three major risks that could jeopardize the stability of the financial system. It first appeared in Chain News ABMedia.