As stablecoins have skyrocketed in popularity to become an asset class valued at more than $100 billion, a central thesis has underpinned their entire appeal: They are backed by safe-harbor assets—usually fiat currencies, and most prominently the dollar—that root these cryptocurrencies in real-world value and make them less prone to volatile swings.
That inherent stability has made stablecoins an attractive play for investors and companies who are looking to get into the crypto space but spooked by the unpredictability of even the most established tokens like Bitcoin and Ether. Visa and Walmart are among the major Coins2Day 500 companies that have entered the stablecoin fray, while stablecoins have also found a use across an ever-growing raft of “decentralized finance,” or DeFi, applications. And as the crypto sector has grown, so have stablecoins, which are a preferred method through which crypto investors can move money on exchanges and buy and sell other crypto tokens.
But recent disclosures surrounding one of the most popular stablecoins in circulation, the dollar-backed USD Coin (USDC), have cast fresh doubts over whether stablecoins are always what they claim to be—particularly since, like the crypto space at large, most operate in regulatory gray areas absent of the oversight offered to other asset classes.
USD Coin is the product of a collaboration between crypto startup Circle and popular crypto exchange Coinbase. Since launching in September 2018, the token has swelled to a market capitalization of nearly $28 billion—making it the second-largest stablecoin in circulation and the eighth-largest crypto token of any kind. When Visa announced earlier this year that it had settled a cryptocurrency transaction for the first time, USDC was the cryptocurrency being transacted.
A huge part of the stablecoin’s appeal has been its claim that every USDC is backed by $1 in cash held in reserve; indeed, until recently, this was the pitch offered to those visiting Coinbase’s website. But as Bloomberg reported Wednesday, it turns out that this claim was not entirely true. In a disclosure made last month, Circle revealed that USDC is not entirely backed by cash but rather a combination of cash, Treasury bonds, commercial paper, corporate bonds, and certificates of deposit with foreign banks (also known as Yankee CDs).
While cash still represents 61% of USDC’s reserves, according to the disclosure, the remainder is made up of riskier, less liquid assets—with commercial paper, corporate bonds, and Yankee CDs, in particular, at a notably higher risk of default. This not only leaves USDC holders exposed to the possibility of experiencing losses they wouldn’t otherwise, but it also discredits the promise made to investors who were told their asset was the equivalent of $1 in U.S. Currency.
“You can’t market a product with falsities,” Columbia Law School academic fellow and lecturer Lev Menand told Bloomberg. “There’s a material difference and a huge amount of evidence that something backed by dollars held in a bank account is different than something backed by things like U.S. Treasuries or corporate paper.”
In response to the Bloomberg story, a Circle executive told the publication that the company’s disclosures and marketing materials were accurate, while a Coinbase spokesperson pointed to a blog post that insists that USDC’s reserves comply with regulatory requirements (though the publication noted that some of the language in the blog post, describing USDC’s asset reserves, had changed after it had reached out for comment). “Users can always redeem 1 USD Coin for US $1.00,” the Coinbase spokesperson added.
But the recent clarification about what, exactly, USD Coin holders are investing in comes at a time of heightened scrutiny for stablecoins. After convening a meeting of top economic policymakers last month to discuss the “rapid growth” and “potential uses” of stablecoins in the U.S. Economic system, Treasury Secretary Janet Yellen stressed the need to “act quickly” to provide a federal regulatory framework addressing stablecoins. Meanwhile, Securities and Exchange Commission Chairman Gary Gensler has increasingly voiced a tougher stance on crypto—urging the need for greater investor protections and noting that no single digital asset “broadly fulfills all the functions of money.”
Just as worryingly for the stablecoin sector at large, USD Coin’s controversy comes in the wake of similar issues faced by Tether, which is the only stablecoin that eclipses USDC in market cap and now accounts for more than half of the total stablecoin market. Like USDC, Tether formerly pledged that it was backed by cash reserves, only to be hit with revelations that large swaths of its backing are composed of noncash securities—with cash making up less than 4% of its total reserves through March. And last month, it emerged that executives behind the token are reportedly facing a Justice Department bank fraud investigation.
In a blog post published in the wake of USDC’s reserve disclosures last month, Circle’s founder and CEO Jeremy Allaire insisted that the minds behind the stablecoin are committed to “enhanced transparency of the composition of dollar-denominated assets,” particularly in advance of Circle’s forthcoming IPO. Allaire took Circle’s ambitions a step further this week, with the announcement that the company is aiming to become a federally chartered, full-reserve national commercial bank—complete with all the supervision and regulatory requirements that entails. In some respects, Circle already operates like a bank of sorts, given that it earned more than $3 million in interest income from USDC’s reserves in the first quarter of this year, per SEC filings.
But while it looks to push forward with its ambitious plans, Circle—and the stablecoin sector at large—may find itself having to pump the brakes and answer to regulators who are increasingly questioning just what they’re selling to investors.
