In just a few days, Facebook will publicly release the whitepaper for their stablecoin project. For those unfamiliar with the term ‘stablecoin,’ one could think of them as digital assets designed to minimize the volatility that comes with doing business in the cryptocurrency ecosystem. The goal with most stablecoins is to maintain a level of price-stability relative to an existing asset that most people are familiar with.
The Digital Dollar
Because of the widespread use and acceptance of the US dollar, many projects aim to peg their stablecoin to the price of the US dollar. Now these projects can do this in a variety of ways, but the most popular and widely accepted method is that any issued stablecoin pegged to USD is directly backed by traditional USD held in a bank account. The most reliable of projects are regularly audited by third parties to ensure their users that these ‘digital dollars’ are actually backed at a 1:1 ratio with physical USD held in a bank account. Anytime a new digital dollar is created, they must hold the equivalent amount in a traditional bank account so that:
1 Digital Dollar = 1 Physical Dollar of Stablecoins
Over time, the US dollar has taken on various different forms. We’ll start by looking at version 1.0
USD Version 1.0
USD Version 1.0 is actually what the vast majority of people are familiar with. These are known as the ‘greenbacks’, ‘benjamins’ or ‘bucks’ sitting in your wallet. A physical representation of an agreed-upon value used as a medium of exchange. They usually come in denominations between $1 and $100 and are backed by the full faith and credit of the government/ country it was printed in. Every physical dollar printed was backed by the equivalent amount of gold, that was until the gold standard was abolished in 1971. Now they’re pretty much just an ‘I owe you’ issued from the US government. People have been accustomed to using some version of the ‘greenback’ since 1792.
USD Version 2.0
In the 1950’s, suddenly a new version of the USD emerged, or USD 2.0. This new version took the form of pieces of plastic that were backed by USD held by someone somewhere. These pieces of plastic could be swiped and used to pay for goods and services from anywhere that would accept them. We know them now as debit and credit cards, but when they first debuted, many people didn’t understand them. For centuries people had grown accustomed to transacting using physical cash, or USD 1.0. These cards were essentially just an ‘I owe you’ issued by you and your bank to the merchant you were buying from.
We take them for granted now, but at the time it was major leap forward for the exchanging of value because it showed that you could have a fully-functioning economy without having to physically settle cash transactions. It took many years before people got used to this new system, but once they did, they realized that business transactions could now be made quickly and more efficiently without having to worry about the physical settlement of cash (something that is inherently risky). When the Internet came along in the 90’s, it further turbocharged this effort.
Cash is fine…. just like flip-phones are fine
Nowadays, most of our transactions with the USD are done digitally. Physical cash is increasingly becoming a rare breed as most people readily acknowledge the benefits of transacting with a digitized dollar. It allows money to flow more quickly and easily between transacting parties with minimal security risks. People can still transact with physical cash today, just like some people still enjoy using their Nokia flip-phones but most people have opted to upgrade to Version 2.0. The benefits of transacting with digital dollars usually far outweighs the benefits of transacting with physical ones.
Our Current System…
Our current online financial system relies on a series of checks and balances. Every transaction that takes place in the digital age is just a debit in one system and a credit in another. An “I owe you” and a “you owe me.” We call it double-entry accounting but it’s just our way of keeping track of who owns what. Every transaction that takes place must have a positive input in one system and a negative output in another.
We placed our trust in governments and financial institutions because they were the best at keeping track of these transactions. They were the ones most capable of keeping track of the (now global) flow of money, because it was vitally important that in this new Internet age, that an individuals financial assets remained scarce in their digital environment. This was a necessity in any functioning economy, but was difficult to accomplish in the Internet age, where information/ data could be produced instantly and spread instantly on a global scale. We needed to ensure the security and scarcity of our financial assets, so we entrusted banks and financial institutions to manage them on our behalf.
(USD?) Version 3.0
So as you can see, the US dollar has been through a few different iterations over the years. It’s gone from the physical dollar-bill version to the digital-dollar, managed by governments, banks and other financial institutions. The USD is now starting to go through its 3rd major iteration, one that is poised to change financial markets the world over, and it all stems from Bitcoin.
For the past 10 years, Bitcoin has shown the world that it’s possible to create a currency that exists only in a digital environment. It’s ‘scarcity,’ something that’s vital to assigning value to any currency or financial instrument, is something that’s coded into the Bitcoin protocol and backed by the distributed ledger technology known as blockchain. Bitcoin as a currency aside, this idea of having a globally-shared financial ledger where anyone can readily use and view all transactions being conducted on it and having the system be outside the control of any one-party is revolutionary in global financial markets. This concept is already being applied to create a version 3.0 of the USD.
Current Stablecoin Options
USDC, GUSD, TUSD and DAI. These are a few of the many ‘price-stable’ USD-pegged cryptocurrencies that already exist in the market. The primary goal of each of these projects is to keep the value of each digital ‘coin’ created pegged to the value of the USD. USDC, GUSD and TUSD do this by holding the equivalent value in a traditional bank account, while DAI holds it’s USD peg in a slightly different fashion. Each will be described a bit more in depth below.
USD Coin (USDC): Fully fiat-collateralized and built using Ethereum’s ERC20 protocol. Each USDC is backed by $1USD held in a traditional bank account. Regularly undergoes third-party audits. Most popular and reliable stablecoin currently on the market with full-backing from CENTRE consortium and founding members, Coinbase and Circle. Can buy USDC for USD for no fee via Coinbase.
Gemini Dollar (GUSD): Much like USDC, GUSD is fully fiat-collateralized with USD held in bank account regularly undergoing third-party audits. GUSD was created by the fully-regulated Gemini Crypto Exchange (founded by the Winklevoss twins) and traded on various exchanges.
TrueUSD (TUSD): Fully redeemable and backed 1:1 with USD. Built on the TrustToken platform, which aims to be the launching point for tokenizing any real-world asset. Smart contracts ensure 1:1 asset to token parity. Backed by A16Zcrypto, Stanford University StartX Fund and various other institutions.
MakerDao (DAI): DAI is the most unique of the stablecoins. It’s price is pegged to the USD not by holding the equivalent amount of USD in a bank account but overcollateralizing Ethereum (another cryptocurrency) that gets locked up into smart contracts. In order to issue/ create any new DAI tokens, one must lock up a certain amount of ethereum into a smart contract that can only be removed when the DAI loan is repaid. Governance of the DAI token is controlled through Maker (MKR) tokens.
Though there are many different price-stable cryptocurrency options that currently exist, with more coming out everyday, it’s helpful to focus on the most popular and widely accepted ones that offer full-transparency in their platforms. The ones listed above are as such.
So Why Use Stablecoins?
Stablecoins take Bitcoin’s concept of digital scarcity and applies it to assets we’ve all come to know and use, like the US dollar. By tokenizing the dollar and putting it on a blockchain, it allows for totally open system of value exchange whose benefits include:
- Global settlement times of seconds or minutes vs. days or weeks with existing systems
- Ability to ‘be your own bank’ and open your own cryptocurrency wallet to accept cryptocurrencies within minutes. Important for people in places where there’s a lack of trust in financial institutions or governments
- Easy ‘on-and-off’ ramp for accepting other crypto assets whose prices are more volatile, like Bitcoin
- Stablecoins can be programmed to do things that regular money can’t. ex. Self-executing smart contracts with USDC can run businesses entirely self-reliant through computer code, no human intervention required
- Divisibility: Blockchain-based dollars can be divided into hundreds of thousands of a penny. Microtransactions suddenly become possible in Internet landscape. (ex. pay-per-listen songs or pay-per-read articles for pennies or fractions of a penny)
Bitcoin was the first to establish a free-market of Internet currencies. Thousands of different cryptocurrencies have entered the market, each claiming to do one thing or another better than Bitcoin. Some do. Many don’t