Grant Williams explores the two sides of Tether

Grant Williams offers a deep dive into the questions that have dogged Tether via a podcast discussion with two Tether sceptics. In addition (though I am not sure how long this link will be active) he is also offering access to the June edition of his newsletter which includes a detailed account of the case against Tether.

William’s perspective is explicitly Tether sceptical. However, he also includes a long Twitter thread from Jim Bianco attempting (in Bianco’s words) “to pushback on the FUD about USDT”. I am not sure Williams adds anything new to the sceptical view but it is useful to see the counter-narrative offered by Bianco covered in the newsletter. That said, my read of Bianco’s contribution is that it is more a defence of the general promise of a decentralised DeFi system, than it is a defence of Tether itself.

The Tether part of the newsletter is a long read at 25 pages (there is always the podcast if you prefer) but it does offer a comprehensive account of the sceptical position on Tether and a flavour of the counter argument.

Tony – From the Outside

Stablecoin backing

… is a hot topic full of claims, counter claims and clarifications. Tether’s USDT token has been getting the bulk of the attention to date but questions are now being asked about Circle’s USDC token (a cryptographic stored value token or stablecoin that allows users to trade crypto assets).

My understanding is that USDC is one of the better (in relative terms) stable coins regarding backing and disclosure but this analysis from Amy Castor argues that is still not especially good and may be getting worse. The Financial Times makes a similar argument.

The broad problem they outline

  • Stablecoins generally start out with a promise that each coin is backed 1:1 with fiat currency (typically USD) or fully reserved
  • Ideally those fiat currency reserves are held on deposit in a bank on a custodial basis
  • Over time that simple promise becomes more nuanced with qualifications that dilute the fiat currency component and introduce concepts like “approved investments”
  • The location of the deposit may also become ambiguous
  • Not always clear if the backing itself has evolved or the disclosure evolves in response to questioning

USDT has been the most high profile example of asset backing being understood to be USD cash but evolving into something USD based but not always 100% cash or necessarily liquid. The two sources cited above suggest that USDC backing may also be less than 100% USD.

Amy Castor points to the change in USDC disclosure between February and March 2021 as evidence of an apparent change in (or clarification of?) the composition of the reserve backing.

Source: Amy Castor, “What’s backing Circle’s 25B USDC? We may never know”

As always I may be missing something, and maybe this is just my traditional banking bias, but Amy poses what seem to me to be pretty reasonable questions like “what are those approved investments? Who approves them? What percentage of assets are in that category?” that Circle is yet to answer.

Tony – From The Outside

The BIS publishes some research on what drives investment in cryptocurrencies

Came across this paper published by the BIS titled “Distrust or speculation? The socioeconomic drivers of US cryptocurrency investments” authored by Raphael Auer and David Tercero-Lucas. The paper makes clear that its conclusions are not necessarily endorsed by the BIS but it is interesting none the less.

The authors downplay the idea that cryptocurrencies are all about opting out of fiat currencies and cite evidence that investors are treating crypto as just another asset class.

From a policy perspective, the overall takeaway of our analysis is that as the objectives of investors are the same as those for other asset classes, so should be the regulation. Cryptocurrencies are not sought as an alternative to fiat currencies or regulated finance, but instead are a niche digital speculation object.

From this perspective, increased regulation is actually a good thing for crypto

A clarifying regulatory and supervisory framework for cryptocurrency markets may be beneficial for the industry. In fact, regulatory announcements have had a strong impact on cryptocurrency prices and transaction volumes (Auer and Claessens, 2019, 2020), and those pointing to the establishment of specific regulations tailored to cryptocurrencies and initial coin offerings are strongly correlated with relevant market gains.

They go so far as arguing that regulation may actually improve the long term viability of the asset class by addressing the problems associated with the energy consumption of the “proof of work” model.

Better regulation may also be beneficial – quintessential in fact – for the industry when it comes to the basic security model of many cryptocurrencies. This is so as the long-term viability of cryptocurrencies based on proof-of-work is questionable. Auer (2019a) shows that proof-of-work can only achieve payment security (i.e., finality) if the income of miners is high, and it is questionable whether transaction fees will always be high enough to generate an adequate level of income to guarantee save transactions and rule out majority attacks. In the particular for the case of Bitcoin, the security of payments will decrease each time the “block subsidy” declines (Auer, 2020). Potential solutions often involve some degree of institutionalisation, which in the long-run may require regulation or supervision.

I have to confess that I skimmed over the middle section of the paper that documented the modelling the authors used so I can’t attest to the reliability of the research. I read it mostly from the perspective of gaining a perspective on how the regulatory community is thinking about cryptocurrency.

Tony – From the Outside