In the wake of FTX’s downfall, rising concerns surrounding Digital Currency Group threaten to kick off the next wave of bad debt and bad acting in the crypto space. If nothing else, crypto’s newest edition of “do they have the assets they say they do” should remind traders, investors, and users of all creeds that any element of trust in web3 is a bug – not a feature.
Yet, having cleansed itself of a handful of frontmen, opaque central parties, and accounting fraud, the crypto space still finds itself balancing on more than 100 billion dollars of trust-backed stablecoins. To prevent another not-so-unexpected black swan event from further diminishing trust in web3, we must re-architect stablecoins in alignment with the principles of decentralization, transparency, and community governance before it’s too late. I daresay a loss of faith in even one custodial stablecoin might not only set off crypto’s worst bank run to date, but a decade-long setback in the public arena.
Boring but Vital: Payments in web3
Let’s face it: as enticing as many of web3’s emergent tools and platforms promise to be, payments will always be currency’s number one use case. And, though a significant demographic of early web3 users may indeed have sufficient risk appetites to stomach crypto’s untapped volatility, gambling will never be a desirable pastime for the majority of economic agents in any community.
We all know the narrative by now: Bitcoin and Ethereum have introduced profound, decentralized systems for property ownership that put power back in the hands of the people. But handling the unprecedented volatility of their native assets – for which there appears to be no end in sight – remains a major barrier to adoption. It is for this reason that Tether’s USDT stablecoin emerged and ran up to a $2 billion valuation in 2017, and why the stablecoin sector has amassed a hundred-billion-dollar valuation in the five years since. It is also why stablecoins are poised to grow more than any other web3 sector in the ten years ahead.
Why Stablecoins are (Still) the Next Big Thing
Stablecoins are to crypto as dollars are to commodities. No one doubts oil’s role as a store of value nor its industrial use cases, and many gamble huge sums on its daily price fluctuations. Nonetheless, oil has no chance of becoming a global medium of exchange.
Like oil, volatile native tokens generate significant daily trading volume for their roles powering a host of growing web3 platforms through DAO participation and other use cases. Like dollars, stablecoins compliment these native tokens by facilitating seamless value transfers within and their web3 ecosystems. On the road to adoption, stablecoins play an indispensable role supporting nascent web3 platforms and protocols with an efficient, familiar media for global payments that doesn’t require a return to the clunky and expensive legacy financial system.
In this sense, stablecoins are the lifeblood of web3, and will, in the next decade, become inextricably linked and existentially tied to its survival. That is to say, for better or worse, the survival and success of the stablecoin sector will become as important – or more – than that of the web3 industry at large.
That is exactly why we have to make sure we get stablecoins right before we tread any further down the path to widespread adoption.
DeFi: the Only Recipe That Works
Custodial stablecoins solve crypto’s volatility problem, but only at the cost of re-introducing undesirable components that crypto was designed to eliminate: centralized institutions, opaque reserve management, and painfully underwhelming reporting.
Without a doubt, custodial stablecoins such Circle’s USDC and Tether’s USDT served their purpose in erecting a much-needed stablecoin sector from ground zero at a time when DeFi was in its infancy. But if the legacy financial system was capable of restraining human greed, the 2008 financial crisis would not have taken place. To that end, Bitcoin, crypto, and the DeFi arena would not have been born out of its ashes. Hence the need for transparency and trustless systems.
As 2022 draws to close, the recipe for interoperable, transparent, and code-governed stablecoin protocols is well established. DeFi’s suite of smart contract modules, oracles, and DAOs have already proven capable of producing functional, stable-valued complements to volatile sound money instruments BTC and ETH. DeFi eliminates the stubborn tradeoffs that would otherwise stand between the benefits of decentralization and the imperative of low-volatility credit instruments for payments. Even more powerful, DeFi’s on-chain tooling not only allows users to monitor stablecoin reserves in real time, but enables its own DAO members to define and modify its risk management practices.
Thus, risk-averse communities can decide for themselves whether to permit fractional reserves, demand one-to-one reserves, or require over-collateralization to the tune of 150% or more, as many thriving DeFi platforms do today. It should come as no surprise that over-collateralized DeFi platforms have outlasted their now-defunct CeFi and CEX counterparts.
Restoring decentralization and transparency to the stablecoin sector should be DeFi’s foremost objective. There is no greater use case for DeFi – nor any which is more urgently demanded.
If we leverage DeFi legos to realign stablecoins with crypto’s founding principles, we can at once prevent the recurrence of catastrophic meltdowns a la FTX, and prepare web3 for adoption by offering an on-chain, low-volatility mechanism for payments.
The alternative, unfortunately, might just be a digitally native rendition of the 2008 financial crisis coming to a blockchain near you.
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