Securing future relevance in the changing financial system: three strategic stablecoins considerations for banks
Widely regarded as the more respectable face of crypto, stablecoins are poised to become an integral part of the financial system’s future. With their ability to stabilise prices and in conjunction with harmonised regulations, stablecoins hold the promise of improving access to financial services. During EBAday 2020 in November, Josje Fiolet, senior manager at INNOPAY, moderated a panel to discuss stablecoins and their potential impact on banks. In this article we build on the insights from that panel and summarise three strategic considerations to help banks position themselves in the emerging market and prepare for the potential impact of stablecoins.
Growing interest in stablecoins
The topic of stablecoins is attracting ever-more attention. The numbers speak for themselves: the market capitalisation of stablecoins grew from approx. US$5 billion in November 2019 to close to US$24 billion in November 2020, an increase of 360% in just one year. Market players, regulators and media companies are becoming increasingly interested in stablecoins, as highlighted by Facebook’s Diem (formerly Libra) initiative, the research and development activities relating to Central Bank Digital Currencies (CBDCs) by central banks (see our latest publication), and recently proposed regulations for stablecoins, such as MiCa by the European Commission and the oversight framework by the European Central Bank (ECB). Figure 1 show a brief explanation and taxonomy of stablecoins.
The impact of stablecoins on the current position of banks
Stablecoins address the challenges related to price volatility and scalability of the first wave of crypto assets (e.g., Bitcoin, Ripple) to offer an attractive means of payment and store of value. Stablecoins are aimed at providing an alternative real-time payment infrastructure and services with improved efficiency compared to the traditional infrastructure, for example in the field of cost-efficient cross-border payments.
As with any type of innovation in payments, stablecoins enable new payment services and new players to enter the market. As pointed out during the EBAday panel, the emergence of large global stablecoin initiatives by Big Techs could undermine the current level playing field in payment services as their established global customer bases allow them to scale rapidly. But it is not only the well-known Big Techs that are aiming to secure a foothold in this rapidly growing domain. The first stablecoins were initiated in 2014 by private parties who had no prior position in the payment ecosystem. For example, Tether is currently the largest operational stablecoin, with an average daily trading volume of approximately US$34.4 billion in October 20201. With central banks around the world now initiating CBDCs too, it is clear that this domain is considered to have huge potential.
With the market developing rapidly, policymakers are looking very closely at the topic of stablecoins and issuing and reviewing regulations to stimulate innovation on the one hand and mitigate associated risks on the other. European policymakers identified various risks that could have implications for the existing financial system and could impact on banks’ business models. Due to their potentially large reach and adoption, stablecoins could not only pose challenges to fair competition and the strategic autonomy of the payment system, but could also jeopardise financial stability and monetary sovereignty overall, for example as a consequence of currency substitution.
Three strategic considerations to help banks position themselves in the future financial system
Banks still have a dominant position when it comes to offering payment services to businesses and consumers with fiat accounts. In view of the above-mentioned developments, however, banks are urged to reconsider their strategic positioning to turn risks into opportunities and reap the benefits of the changing financial system. These three strategic considerations will help them to do so:
- What role do we aim to play in this changing financial ecosystem?
The EBAday panel members were united in their belief that banks have a role to play. They pointed out that for example the MiCa regulation is aimed at encouraging banks to interact in the field of stablecoins by framing all kinds of activities. Banks could play a role in facilitating the creation, redemption, circulation and use of stablecoins, for instance. Banks have a competitive advantage since they already have a long-standing trust-based relationship with their customers. They have always been positioned as a ‘money custodian’, so becoming an ‘asset custodian’ or ‘data custodian’ in a broader sense would be a natural extension of this role.
- What new propositions can we develop to remain relevant to our customers?
Banks can already start developing new propositions by linking their traditional infrastructure to the alternative infrastructure required for stablecoins. For example, they could develop new propositions based on the programmability of stablecoins and CBDCs (e.g. supply chain redesign of invoices, cross-border real-time transactions), provide KYC/AML services to issuers of fiat-backed stablecoins and CBDCs when issued through traditional banks, and/or support stablecoin retail payments. In fact, interoperability of stablecoins with other payment systems is highlighted by the G7 as an important requirement. With banks having a dominant position in current payment systems, this is a promising field for them to consider
- Can we gain a competitive advantage by collaborating?
Competitive pressure and challenging market dynamics are driving banks together. During the panel discussion, it was pointed out that collaboration among banks is an important asset to consider. There are already various examples of banks working together, such as in the European Payment Initiative (EPI) to launch a new payment system aimed at taking on rival card schemes and the threat posed by Chinese and American Big Tech firms. Overall, there is growing political pressure for banks to collaborate in all kinds of domains related to digital transactions. The EPI was also a response to the ECB’s call for more collaboration and, in the recently published Digital Finance Strategy, the EC urges the private financial services sector to be at the forefront of developing and delivering digital identity solutions. Overall, this pressure is aimed at ensuring that Europe retains and reinforces its strategic autonomy in financial services and the broader digital economy. As highlighted in this article, the strong competitive dynamics in stablecoins and the overall payment system could be yet another reason for banks to collaborate in order to retain their competitive advantage. Could the existing infrastructure include stablecoins as well?
Although the market is at a relatively early stage of development and still evolving, banks need to reconsider their position now if they wish to secure future relevance in the changing financial system. We will continue to keep you up to date on all the relevant developments, but please reach out to us if you are interested in discussing in more detail how you can prepare for the future impact of stablecoins.
 INNOPAY analysis, based on historical data by CoinGecko
 Regulation on Markets in Crypto-assets (MiCa) https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=CELEX%3A52020PC0593
3 European oversight framework for Payment Instruments, Schemes and Arrangements (PISA) https://www.ecb.europa.eu/paym/intro/cons/pdf/pisa/ecb.PISApublicconsultation20201027_2.en.pdf
 G7 paper working group on stable coins https://www.bis.org/cpmi/publ/d187.pdf