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The writer is a professor of finance at Harvard Business School
As the US Senate prepares legislation to establish a regulatory framework for the cryptocurrency industry, there is one hotly contested question — should stablecoin issuers and their distribution platforms be allowed to pay interest-like rewards to holders?
The outcome of the debate will shape a rapidly expanding industry. Treasury secretary Scott Bessent projects that the dollar stablecoin market will reach $3tn by 2030, up from roughly $300bn today.
Regulations passed last year bar issuers of stablecoins — cryptocurrencies that are pegged in value to an asset such as the dollar — from directly offering interest or yield. However, crypto exchanges can indirectly offer interest and rewards to holders of stablecoins. The new Clarity Act would define the scope of who can offer interest or rewards on stablecoins, and under what conditions.
Some bankers worry that this competition will draw deposits away from the banking system. They fear that would impair the deposit franchise of banks, reducing banks’ credit supply to the real economy.
The Council of Economic Advisers recently weighed in on the debate arguing against the worries of bankers. A CEA paper estimated that a yield prohibition on stablecoins would raise aggregate bank lending by only about $2.1bn, or 0.02 per cent of outstanding loans.
The reasoning rests on a deposit-recycling assumption: if a depositor at Bank A withdraws cash to buy a stablecoin, the stablecoin issuer uses that cash to buy Treasury bills from a dealer, and the dealer redeposits the proceeds into the banking system. In such a scenario, deposits reshuffle rather than leave the banking system.
The CEA’s recycling account does not hold up in the most natural case. When a bank faces a stablecoin-driven outflow at scale, it cannot sit passively against a shrinking liability. It must adjust assets. The likely adjustment is to shed liquid securities, such as Treasury bonds.
Dealers, like the one in the CEA example, might use the cash from the T-bill sale to buy those Treasury bonds, leaving no net redeposit back into the banking system. Writ large, total bank deposits are likely to fall.
Even so, stablecoins’ threat to banks may be smaller than they fear. Yield alone is not enough to pull households away from bank deposits. Earning interest on excess cash outside banks is not a new option: yield-conscious depositors have had access to money market funds since the 1970s, and US MMFs have grown to $7.5tn, roughly the same size as the $7.8tn in US checking account balances. Despite decades of MMF growth, US commercial bank deposits stand at about $18tn.
To win the transactional deposits that MMFs have not captured, stablecoins would need to compete more on convenience rather than yield. Institutional Treasury MMFs charge fees as low as 0.07 percentage points. The stablecoin ecosystem cannot plausibly beat that. The issuers need to charge a margin to fund their operations and growth as a fintech infrastructure company. It is unlikely stablecoin distribution platforms will be able to pay a higher reward to holders than a low-cost MMF.
Most checking accounts do not earn much yield, but they are bundled with transactional convenience and integrated with payrolls and cards. MMF shares do not replicate these conveniences, and nor, at present, do stablecoins. Stablecoins need to be conveniently spendable at the point of sale for retail depositors to switch at scale.
There might be more demand in emerging markets where stablecoins function as a store of value against high inflation and volatile local currency exchange rates. They can also act as a virtual dollar account in jurisdictions where such accounts are restricted or unavailable. However, overseas inflows into stablecoins do not come out of US bank deposits.
Setting aside the crypto-native use cases, the marginal US depositor has no obvious reason to hold a transactional balance in a stablecoin at present. This means the risk that stablecoin growth poses to the US deposit franchise is real in theory but difficult to realise in practice.
That said, unlike MMFs before them, stablecoins are payment instruments by design and offer programmability — the ability to embed code that will automatically carry out actions such as releasing payments when specific conditions are met such as the delivery of goods.
There is a plausible state of the world in which they become an important payment infrastructure layer and in the future pose a greater competitive threat to banks. The Clarity Act will play a role in shaping how far and how fast that future develops.