What is it that puzzles lawmakers when they try to regulate this stablecoin thing?

by Edmund Yong

One Day in the Not-So-Distant Future

It’s lunch time at downtown Kuala Lumpur. Siti is craving for “nasi dagang”. She forgets to bring her clutch purse on purpose; it doesn’t match her outfit today and is annoyed by the sound of rattling coins. She grabs her smartphone and darts to the roadside warung with her friends.

She picks the tab and pays for it via WhatsApp without having to wait at the counter. She gets a Thank You text message with a receipt file. Her friends split the bill and reimburse her on the spot, also with WhatsApp. It’s easier since they are in the same chatgroup to plan for a birthday party later that afternoon.

Back in the office, the party goods they ordered have arrived. Just days before, one of her friends found a handcrafted gift from a little-known Facebook page in Thailand, while the other picked out designer cupcakes on Instagram that have been trending in Singapore – all paid without the need for credit/debit card details or local bank accounts.

The party went well. Their colleagues in the Philippines branch decided to chip in for the birthday gift, using Messenger which is more popular there. They also micro-tipped the local deliveryman for his excellent service by clicking ‘Like’, who can then opt to cash out his accumulated ‘Likes’ or redeem them for adspace.

Meet the New Coin on the Block

The blockchain has become a foundry for all sorts of cryptocurrencies and digital tokens – most of them forgettable.

But stablecoins have been gaining a lot of traction, and suspicion. Like its namesake, it is stable in value and can be made to behave like money. The most popular stablecoins are pegged to hard currencies like the US dollar on 1:1 basis, so they have near parity with it. Some are backed by assets like precious metals, real estate, or investment funds, so that the price is referenced to the value of underlying assets. There is also an outlier category that relies on algorithms to maintain a stable price, by adjusting the supply of total coins in circulation based on market demand.

Right until now, cryptocurrencies like Bitcoin and Ether have generally been a poor proxy for payment because their values could fluctuate wildly by the minute. Merchants will not accept it because they cannot balance their books each day after conversion. Customers do not want to use an appreciating asset to pay for everyday goods. There are progressive local economies that have piloted crypto payment on a wide scale and failed, precisely for these reasons.

Stablecoins can solve these problems with huge pluses:

  • They are ideal for cross-border payments. Since they are not sovereign currencies but merely represent them, they can interoperate across multiple jurisdictions. The settlement process is more efficient without being subject to restrictions in domestic payment systems and costly forex spreads.
  • They are financially inclusive. All it takes is a smartphone. Banking relationships are not required. (In fact, it sits outside the banking system, which is the worry!) And because stablecoins can be programmed to be a liquid medium of exchange, like money, they are also retail friendly. They will have few problems acquiring merchants.
  • Finally, as a stable store of value, they are attractive for capital flight. Due to rising geopolitical tensions and the negative carry of cash, investors are keen to stash away ‘dry powder’ in instruments that transcend capital controls. But if the volumes are large enough, it could pose systemic risk to financial stability.

It’s Not Money Even if It Behaves Like It

Just like how a new disease is genome-sequenced and classified before it can be properly treated and contained, we need to understand and define stablecoins before we can regulate it effectively.

But it is a complex exercise. This is a whole new creature with novel attributes. You can pick any one below and it still fits, for example:

  • It is liminal – it can serve as either currency (money) or asset (security). It can be used alternately for payment of goods and services or investment for capital gain, depending on the smart contract.
  • It is chimeric – it is innately both a currency and asset at the same time. While stablecoins are like electronic money, they also function like digital shares with redemption rights on the underlying assets or reserves.
  • It is sui generis – it is a unique asset class on its own. It is a synthetic product with infinitely programmable features, that can be issued based on fiat orders (centralised control) or created as a common good (decentralised across the community, even at a global scale).
  • Notwithstanding all the above, it is strictly not legal tender like money.

Such is the poser facing regulators, as Facebook plans for its blockchain-based global payment system Libra and native wallet Novi. Or when Alipay and WeChat Pay goes global.

In response to this at the local level, regulators have generally advocated for the “same business, same risks, same rules” principle, that is to apply existing laws on similar functions or activities (FSB). At the global level, Responsibility E of the Principles for Financial Market Infrastructure (PFMI) provides that “central banks, market regulators, and other relevant authorities should cooperate with each other, both domestically and internationally, as appropriate, in promoting the safety and efficiency of FMIs” (CPMI-BIS and IOSCO).

Back in the day when digital tokens were part of the Initial Coin Offering (ICO) fad, the conversation centered on whether they were classified as ‘utility’ or ‘security’. It was largely the domain of the Securities Commission of Malaysia, which defined what “digital currency” and “digital tokens” are (Mar 2019: Consultation Paper) – while Bank Negara provided guidance on anti-money laundering policies for “digital currencies” (Feb 2018: Sector 6).

But with stablecoins, the regulatory boundaries are increasingly blurred. The lack of clarity may create issues for taxation and the jurisprudence of property. There has also been some speculation in the media on whether the recently passed Currency Act 2020 will regulate this directly (for instance in The Star: Jul 16, 2019 and The Edge: Nov 22, 2019).

We will look for answers in the next part of this series.

[Read Part 2: Currency Act]