Bank for international settlements: Stablecoins are not currencies and have not passed the "three key tests".

Written by: Daniel Kuhn

Compiled by: far, Centreless

The Bank for International Settlements stated that stablecoins are not currency.

The institution, sometimes referred to as the “central bank of central banks,” pointed out in a report released on Tuesday that digital assets pegged to fiat currencies have failed to pass the “three key tests” necessary to make them a pillar of the monetary system: uniqueness, resilience, and integrity.

The BIS stated in its annual report reviewing the next generation of finance: “It remains to be seen what role innovations such as stablecoins will play in the future monetary system. However, they perform poorly in terms of the three ideal characteristics that sound monetary arrangements should possess, and therefore cannot become the pillars of the future monetary system.”

According to the report’s authors, stablecoins do have some advantages—such as programmability, pseudo-anonymity, and a “user-friendly access method for new users.” In addition, their “technical characteristics mean they may offer lower costs and faster transaction speeds,” especially in cross-border payments.

However, compared to the currency issued by central banks and the tools issued by commercial banks and other private sector entities, stablecoins may pose risks to the global financial system by undermining government monetary sovereignty (sometimes through “stealth dollarization”) and fostering criminal activities, the authors said.

Although stablecoins have a clear role in the inflow and outflow channels of the cryptocurrency ecosystem and are increasingly popular in countries with high inflation, capital controls, or difficulties in obtaining dollar accounts, these assets should not be treated as cash.

Three key tests

Specifically, due to its structural design, the stablecoin failed the elasticity test. Taking Tether’s USDT as an example, this stablecoin is backed by “nominally equivalent assets,” and any “additional issuance requires full prepayment from the holders,” which imposes a “prepayment cash constraint.”

In addition, unlike central bank reserves, stablecoins do not meet the “uniqueness” requirement of currency - that is, currency can be issued by different banks and unconditionally accepted by everyone - because they are typically issued by centralized entities that may set different standards and do not necessarily always provide the same settlement guarantees.

The author wrote: “Holders of stablecoins will label the name of the issuer, just like the private banknotes that circulated during the 19th century American free banking era. Therefore, stablecoins are often traded at different exchange rates, undermining the singularity of the currency.”

For similar reasons, stablecoins also have “significant flaws” in promoting the integrity of the monetary system, as not all issuers adhere to standardized Know Your Customer (KYC) and Anti-Money Laundering (AML) guidelines, and they cannot effectively prevent financial crimes.

Transformative Tokenization

The issuer of the stablecoin USDC, Circle, saw its stock price drop more than 15% on Tuesday following the publication of a BIS report. The day before, CRCL shares had reached an all-time high of $299, up over 600% from its initial public offering price of about $32.

Although the BIS expressed concerns, the organization remains optimistic about the potential of tokenization, considering it a “revolutionary innovation” in areas ranging from cross-border payments to securities markets.

The author wrote: “A tokenized platform centered on central bank reserves, commercial bank currency, and government bonds can lay the foundation for the next generation of currency and financial systems.”