Does Russia Need New Forms of Digital Currency?
“Instead of banning the use of stablecoins as a means of payment and savings, the Bank of Russia should validate and propose acceptable models for the issue and circulation of stablecoins,” says Sergey Andryushin, Doctor of Economics, Professor and Chief Researcher at the Institute of Economics of the Russian Academy of Sciences, in his article for Capital Ideas.
Stablecoins are stable virtual coins that are secured or tied to the price of another asset or pool of assets in order to maintain their market value. Unlike cryptocurrencies, which generally do not have an identifiable issuer, stablecoins need to be based on a particular issuer (its underlying assets, funds, or other rights).
Stablecoins can perform three functions of money – a means of payment, a means of savings, and the accounting (saving) of value. This allows employees to receive salaries in virtual currency without fear of a sharp decline in its exchange rate. Therefore, these stablecoins can become an alternative to fiat currencies, particularly for citizens of economically unstable countries where there is high inflation and various currency restrictions.
Stablecoins can be divided into two large interrelated groups. The first group are collateralized: tied to traditional or other assets (fiat currencies and cryptocurrencies, goods or baskets of currencies/goods that are characterized by low price volatility). The second are unsecured or algorithmic stablecoins, the value of which is ensured through algorithmic technologies regulating their issue. Stablecoins are also divided according to the geography of distribution – into local (localstablecoins, LSC) and global or significant (globalstablecoins, GSC).
Within these two basic classification groups, there are separate varieties of stablecoins, but they are derived from those discussed above and reflect the individual functional characteristics of stablecoins. So according to the orientation of their use, stablecoins can be retail or wholesale. Depending on the yield, they can be interest-free or interest-bearing. Or according to the exchange rate (the redemption rate from the issuer) – they may have a fixed or floating exchange rate.
a. secured by fiat currency:
• simple to understand
• one hundred percent stable (if fully secured)
• low susceptibility to vulnerabilities and risks of hacker attacks on the network (since the collateral is not contained in a blockchain)
b. secured by cryptocurrencies:
• no need to rely on a third party to secure collateral
• higher level of decentralization
• high level of transparency, with no need for an external auditor (monitoring is available to every user)
с. unsecured by anything:
• no need for collateral
• theoretically, a higher degree of decentralization and independence, since there is no connection to any fiat currencies or crypto assets
а. secured by fiat currency:
• need to trust a third party: a custodian who stores the fiat currency
• requires the participation of another third party: an auditor who would check the correspondence of the amount of collateral with the offer of tokens issued on the market
• costly and slow withdrawal into fiat currency
• high degree of regulation
b. secured by cryptocurrencies:
• not as high a degree of stability of the rate compared to stablecoins secured by fiat currency
• likelihood of automatic repayment in the collateral cryptocurrency in the event of a sharp drop in the rate of the stablecoin
• dependence on the viability of another cryptocurrency (or a basket of cryptocurrencies)
с. unsecured by anything:
• more complex monetary mechanism of emission and redemption
• need for a steady demand for this kind of stablecoins in the conditions of a monetary shock
• high degree of vulnerability to shocks in the cryptocurrency market (for example, in the event of a market collapse, it may be difficult to redeem such coins)
• difficulty of analysis and assessment of the viability of such stablecoins
Current State of the Market
As of October 7, 2022, the market capitalization of stablecoins issued by emitters amounted to $149.3 billion. Of this sum, the main dominant stablecoins in the market are centralized coins supported by fiat, notably Tether ($68.3 billion), USD Coin ($46.2 billion) and Binance USD ($21.5 billion). At the same time, there are also decentralized alternatives to these coins, such as DAI ($6.3 billion) from Maker and MIM ($205 million) from Abracadabra.
Until May 2022, algorithmic stablecoins aimed at fast and inexpensive transactions were also actively developing. Among algorithmic stablecoins, the obvious leader was UST (TerraClassicUSD project). Its capitalization on May 5, 2022 had reached $ 18.7 billion. However, on May 11, the UST token fell to $0.50 and pulled other coins along with it. Over five months, the capitalization of UST decreased 66 times, amounting to $285 million as of October 7.
Such a rapid collapse of the TerraUSD algorithmic stablecoin and its token Terra (LUNA) called into question the idea of the stability of this type of stablecoin. This prompted the US House of Representatives to initiate a bill in September 2022 to introduce a two-year ban on the release of new algorithmic stablecoins like TerraUSD (UST).
Conclusions for Russia
In the context of the large-scale and rapid development of new forms of digital money around the world, the prohibitory position of the Bank of Russia in relation to stablecoins looks like a kind of anachronism. Instead of banning the use of stablecoins as a means of payment and savings, the Bank of Russia should validate and propose acceptable models for the issue and circulation of stablecoins. Such models must provide clear mechanisms for reserve support for the issue of stablecoins and requirements for their issuers, allowing the minimization of risks to both holders and issuers of stablecoins.
For the widespread turnover of stablecoins in Russia, it will be necessary to actively improve the regulatory framework in the field of regulating the “digital aspect” of the country’s financial system. First, it will be necessary to make a number of changes and additions to the federal laws “On the National Payment System,” and “On Digital Financial Assets,” as well as to a number of other regulatory legal acts.
Second, it is needed to launch a digital platform of the Russian stablecoin, based on a blockchain and tied to the Russian ruble in the ratio of 1 to 1. This will strengthen the position of the Russian ruble in the world, since in order to purchase stablecoins, the investor will first need to purchase Russian rubles on an exchange.
Third, it is necessary to clarify or redefine the legal status of stablecoins, and similar monetary instruments denominated in Russian rubles, as a means of payment in Russia – as well as to establish requirements for the procedures for the activities of their issuers, and reserve mechanisms for the system of regional and/or global stablecoins.