Stablecoins — Bridging the Gap

Issuing digital value in the traditional world. Stablecoins MUST consider these things to succeed in the real world.


A stablecoin for the purpose of this article is a digital “I-Owe-You,” which represents a 100% identical underlying “real money” balance. Not 99% or 98%, but 100% or more.

For people coming from the pure crypto space, a stablecoin is generally a hybrid composition of underlying cryptocurrencies aiming at reducing the actual volatility between individual cryptos and especially Bitcoin (BTC) and Ethereum (ETH) as well in some cases reducing the volatility against FIAT currencies.

The merits of the crypto stablecoin lie in its ability to transport values across the globe quickly with reduced volatility and relatively low cost, but they fail to recognize and encompass the needs of the established “analog” world.

Other stablecoins are in one way or another linked to FIAT currencies, but most fail to understand the credit risks associated with stablecoins linked to underlying currencies, as well as things like settlement risk.

Money is still analog to a large degree.

Tether, the $2.5 billion crypto exchange traded USD stablecoin seem to have some issues in this regard and it does not seem to play a major role for many other stablecoins seeing the light of day.

The latter article is scary because it gives an idea of how many crypto companies are working on stablecoin concepts without understanding the fundamentals of money and risk.

TUSD uses trust accounts to reduce counterparty risks but fails to provide details about the implied credit risk of the trust accounts.

Another rather fundamental issue is whether stablecoins rely on the traditional technical infrastructure of payment services like SWIFT and card schemes, in which case they don’t solve the underlying problem of payments and remittances — cost and efficiency, and the money is not programmable (see below), which is a considerable drawback.

The views and statements expressed in this article form the basis upon which the stablecoin concept of ARYZE is built.

Cryptos and blockchains

The gap between the “real” world and the crypto market is too big for transaction cryptocurrencies to gain mass acceptance and adaptation. The excess volatility of transaction cryptocurrencies on top of FIAT foreign exchange (FX) volatility is too high and unacceptable for the vast majority of corporations transferring money across borders.

Ripple XRP Vs. USD — 3 months from mid-June 2018

Image courtesy of

While not an expression of exact historical volatility but rather an expression of how the data are distributed in a normal statistical mean average distribution, and knowing very well that Ripple and XRP have other functionalities on top of transporting values, it is worth mentioning that the standard mean deviation of XRP was 0.47 from January 1st, 2018 to September 18th, 2018 while the exchange rate between USD and the Euro in the same period was 0.03.

Normalized against the mean average the difference is even more pronounced, and it is quite clear therefore that XRP is significantly more volatile than USD against the Euro.

On top of that, the cost and time delays in settlements are issues, which are difficult for corporations to accept on top of the crypto bid/offer spread.

So, on one side we have blockchains, which will “rule the world” sooner rather than later when scalability issues among others are solved. On the other hand, we have cryptocurrencies, which are much too volatile to gain main traction.

So why is there such a great use case and why are cryptocurrencies essential for the blockchain economy?

Blockchain transactions are executed and confirmed by “miners” through Proof of Work (PoW). Miners are paid for their PoW with an economic incentive for offering their services.

This reward is paid for in the cryptocurrency associated with the blockchain and paid for instantly when a transaction is executed and verified (mined). For example, Bitcoin miners are rewarded with Bitcoin for verifying transactions through complex mathematical computations.

As far as the blockchain ecosystem is concerned, this is a perfect and the only feasible way the system can work. Miners compete for transactions to hash, and they could potentially come from anywhere in the world. They can’t be paid by credit cards or bank transfers, which would defeat the whole decentralized nature of a blockchain system.

Blockchain technology has brought about a new way of connecting information across borders.

Cryptocurrencies have no borders and exist only in cyberspace as a means, in this case, of payment for mining services. Using any other private and centralized network solution removes the trust we, without dispute, can put into truly distributed systems and takes us back to a centralized system of sorts, which is what we want to avoid.

It should be noted that there are technologies emerging based on Proof of Stake (PoS) and distributed ledger systems which are not really blockchain based technologies, which makes it difficult to determine what the future “reward system” will look like.

But does blockchain technology really have a future?

The answer, in my opinion, is a resounding YES. It is the only future, despite the currently known problems, which over time will likely be solved.

Blockchain technology as we know it from Bitcoin will evolve, scale and become a very cost-efficient and secure way of storing and moving data, contracts and assets, and will overall out-compete single server solutions in a highly significant way.

Think about it in the context of distributed ledgers being an old invention, which we often misuse the name of when talking about blockchains. Distributed ledgers have been used for the longest time by many central banks for example, where servers at different locations continuously stay synchronized, in reference to the relevant data concerning money in circulation, primary banking balances with the commercial banking system, etc.

A central bank can’t lose track of this essential data — if one server center goes down or gets hacked, the others take over, and a backup server goes live in the “chain” (simplified).

This is ultimately a very expensive system to run and maintain and not a solution for most entities.

With many infrastructures and other essential services running on more and more obsolete single server solutions and depreciation times as low as 4 years for IT systems in today’s world, the NPV (net present value) of the potential cost savings in adopting blockchain technology for data management, for example, will soon be speaking for itself.

Blockchains and related technologies are not only an option for the future but a necessity for the future. In fact, blockchains have the power to replace obsolete or non-existing digital primary money management systems in the developing world — and yes, there are still countries in the world where moving money from one branch to another of a bank means sending physical money from A to B and registering the balances and transactions on simple centralized single server solutions.

Still somewhat un-researched but an interesting future case would be to analyze the potential macroeconomic impact in poor developing countries if the entire existing money supply and money management systems were replaced with a blockchain-based system, removing frictions and cost in the usage of money in the economic development chains, which might be less costly to implement than one would think.

Stablecoins must consider economic risk in order to succeed in reforming money.

Defining a safe, stablecoin and introducing risk

Today, most transaction cryptos (barring scam cryptos) have emerged from the crypto/blockchain technology side of things with little respect for and understanding of the requirements of the “real world.”

Coming from the non-crypto side of things, a stablecoin representation of central bank-issued currency must incorporate risk, for starters.

A dollar bill deposited in a commercial bank and exchanged for an IOU by a commercial bank has less value than a dollar bill. A fact, which most people in the crypto space don’t realize. The IOU is exchangeable upon demand (during bank opening hours) to a dollar bill, but what if the bank can’t pay?

A commercial bank might have closed shop over a weekend, and all money is lost unless of course consumer deposits are government-guaranteed, which is the case in many European countries, up to a certain amount. From this also follows (ironically), that the bank deposit is indeed a real and equal representation of government money. In the US FDIC insures deposits of private individuals, which in practice has worked well but it’s not the same as a government guarantee.

This raises the question about why governments should guarantee the bank deposits of individuals, which depending on the maturity of an economy, backs up a significant to a very significant part of the commercial interest of banks in search of profit for shareholders.

However, this is a political issue that goes beyond the scope of this article. It is worth noting that commercial deposits are not guaranteed by governments anywhere, and especially worth mentioning that government does not insure stablecoins linked to underlying commercial deposits.

Crypto stablecoins based on other crypto coins are not guaranteed by anything either and could theoretically go to zero.

In short, there is a vast difference between the value of a commercial bank issued IOU if the bank is single C rated and one that is AAA-rated — even if the commercial bank is AAA rated, the risk is still higher than a central bank-issued digital coin.

Following simple financial theory, this is compensated for by the commercial banks offering interest on deposits, which exceed the risk available to consumers through, for example, short-term government issued treasury bills. This, however, is rarely provided to retail depositors today.

The consequence of introducing credit into the risk and value equation is that just any issued stablecoin pegged to an underlying currency backed by bank deposits does not have the same value as placing money in central banks (holding physical bills) and therefore introduces an element of credit risk leverage, which in practice might be acceptable but from a theoretical perspective is rather unacceptable.

Financial markets consider credit risk on a regular basis.

Credit risk works differently with pure crypto-space stablecoins, where the risk is more related to the market value of the underlying composites based on market prices, which per definition is significantly riskier.

In reference to the idea of backing issued digital stablecoins with government bonds and bills, as in the case of the ARYZE stablecoins, the notion of government-backed stablecoin in this context is only theoretically true if government-issued securities back 100% of the issued digital coins and a more correct notion in part of the liabilities are kept as bank deposits form liquidity management purposes should perhaps be “quasi-stablecoin.”

The only true stablecoins with no credit risk in its currency would be digital cash issued by the central bank itself.

It should be noted that government-issued debt obligations are always AAA rated in its own currency. Central banks issue debt obligations to finance public debt on behalf of the government. If more money is needed, the central bank will just print more money to the point where hyperinflation starts to kick in, but the government debt will remain AAA rated in its own currency because the government can always just issue more money to service old debt. The real value in terms of purchasing power for goods will, of course, be eroded, and the value will diminish relative to other currencies.

A Fintech or Central Bank Role?

I have previously written an article about central banks issuing national stablecoins. Not only do I stand by my views about why fiat backed stablecoins are a role for fintech companies and not a central bank role, but the arguments against a national stablecoin also keeps reoccurring.

One of them is the “Big Brother is watching you” problem.

Central bank-issued digital currencies could represent a surveillance issue that goes beyond finance.

Assume for a second that there is no cash, only digital cash. In such a situation, it would be very hard for people not to declare income and the black economies would have a hard time because all transactions leave a digital trace and the transactions are stored for a certain time, which is an anti-money laundering (AML) requirement.

In many countries, such a situation could result in unacceptable hard times for people at the edge of society like beggars, homeless people, and people who generally only survive on the goodwill of others with no access to the digital society and banks.

Now, leaving the socio-economic issues aside for a minute, it is quite clear that a private company managing digital cash in the form of a stablecoin would be subject to numerous rules and regulations regarding data security and data sharing (GDPR, for instance).

If digital cash is issued by a central bank as part of a government initiative, there is no telling where data will end up in a public system and how secure the data will be, which could result in significant human rights violations — follow the money and you know everything about a person.

There are already severe problems and concerns of the kind mentioned above in some countries, related to biometric data and public payments.

Removing trust from the equation

I have many times heard that the reason why the global banking systems work is that banks trust each other. Nothing could be further from the truth. The fact is that banks mistrust each other and only engage in international money transfers and cross-border (even domestic transfers) because they must, otherwise, the financial systems wouldn’t work. (Crashed: How a decade of Financial Crises changed the world — Adam Tooze)

When a Danish bank transfers money to a bank in the US, the system works in the same way it has done for a long time. The funds will be transferred to the US bank against a promise to repay on demand. The money is transferred to the bank directly if the US bank is a correspondent bank to the Danish bank against credit limits set in advance against the US bank.

The bank in Denmark will only transfer money to its correspondent bank, which in turn will transfer the funds domestically to the receiving bank. If banks trusted each other, why not just send the money directly to the bank of the receiver? The fact is that mistrust prevails over trust. (Crashed: How a decade of Financial Crises changed the world — Adam Tooze)

The less developed a country is, the less risk a bank is willing to take against a country overall and the less bank risk the correspondent bank will take and the higher the fees and settlement time.

But what if the risk is not part of the equation anymore, what happens then?

Well, this then boils down to a question of whether one trust banks more than technology and whether the consequences of taking the ability for banks to leverage deposits out of the equation is a good thing or a bad thing.

With blockchain technology, we can store assets like money or commodities and transfer those safely from one place in the world to another almost instantly — and that changes everything! Trust is no longer a part of the equation, simply because you can’t transfer more than you have in your digital wallet.

If credit becomes part of the equation, things change dramatically; a system must be able to handle a situation where a loan is not repaid. Credit, however, could be added as functionality in the form of a DApp (decentralized application) to a digital blockchain-based system.


Proving solvency is not a matter to be taken lightly.

In the stablecoin world, solvency is a different matter than in the commercial banking world. Here, solvency is a question of ensuring that assets and liabilities always match 1 to 1 or assets exceeds the amount of liabilities outstanding, or that assets exist in an interdependent ecosystem to cover deficiencies in this equation.

Solvency is another factor to consider…

In the banking world, solvency and compliances are monitored continuously by central financial authorities. This is not the case in the unregulated and unsupervised crypto world. Therefore, the minimum requirement as far as solvency checks are concerned are:

• That an independent and trusted party checks solvencies

• That the 3rd party verifier reports its findings upon demand and in a transparent manner independently of the crypto issuer/manager to relevant crypto communities/forums and the general public

• That the 3rd party verifies when they want to and at random

• That information can be provided to the 3rd party verifier without the data passing through the crypto issuer/manager first.

Ideally, a system should, if possible, be set-up so that an autonomous system (DAO) independent of all external human interference can verify solvencies.

Programmable Money

Once money is issued in the form of a digital value, the money becomes a digital stake on a certain amount of digitally issued cash, which in this case should always be backed up 1 to 1 with underlying real money (fiat). Money is not necessarily moved around as such, but merely as a digital representation of the equivalent amount transferred in the form of a digital IOU.

When money is digital in this form, it becomes programmable, meaning that its possible to create digital financial and insurance products, for example, which represent a guaranteed assurance of completion of an asset, a contract or money transaction.

In such a case, arrangements can be established that guarantee payment against a particular service or goods being delivered. For example, a purchase of digital stocks or bonds with regulations already programmed into the asset. It happens instantly and without dispute. No banks or other types of intermediaries are required. There is no uncertainty about payments or contracts being honored.

There will pretty much be no issues about payments for international trade, and a vast number of financial contracts and insurance products can be built on programmable money with reactive ease, ranging from micro-donations for foreign development aid and trade finance products, to fully automated payments of compensations for delayed flights.

We are entering an age of hyper-connectivity in finance.

The new order

It is theoretically possible that sometime in the future Bitcoin will be the reserve currency we will measure everything up against, replacing USD as the global reserve currency. I.E., a situation where Bitcoin is accepted as the only an accurate representation of global economic value and accepted as the value represented of real value in thousands of supply chain from primary producers to final consumer.

In such a situation, a stablecoin could be a derivative or composite product which reduces the relative volatility against Bitcoin, but we are currently quite far away from such a situation.

For this to happen, Bitcoin would have to be accepted as a means of payment for starters throughout the economies of the world, but it might come as a surprise that the total amount of USD in circulation outside the banking system is USD 1.67 trillion at the time of writing while the market cap of BTC is USD 112 bn or 6.9 % of the total amount of USD in circulation.

This is surprising because it means that if BTC over time increases 14 times in value measured against USD (stranger things have happened in the past), the BTC in circulation will be identical to the amount of USD issued by the federal reserve circulating outside the banking system. Hardly enough to replace cash in a global economic cash content but still.

This money in circulation is of course not the same as the actual money in usage in an economy, as measured by M3 (M4), which is a measure of the amount of money in use after expansion through leveraged lending, primarily from the banking systems.

However, there is, in theory, nothing that prevents the same kind of credit expansion to take place with BTC over time, if BTC was globally accepted as a reserve currency or a representation of true economic value.

In presentations, I often use an analogy, comparing the market cap of Google, Apple, and Facebook against the market cap of the entire crypto-space and BTC to underline how little this represents in an overall economic context.

Such a comparison is, if not wrong, at least unfortunate if we stop thinking of BTC as an investment, but instead as currency which value will increase or decrease depending on the demand for usage in money supply terms or right economic terms on an unleveraged or leveraged basis.

It should be noted that extending credit and credit expansion through a monetary system is heavily regulated activities. Just how credit extension and expansion would happen in a decentralized system with no central authority is difficult to see, unless of course the decentralized system would be able to make decisions based on majority vote and protocols derived from precisely that — the power of decentralization with no central point of control, which essentially was the fundamental principle of cryptocurrencies from the beginning.

But that’s all a story for another day. Meanwhile, the best proxy to central bank-issued digital cash, which functions in practice across borders, is the stablecoin which best represents the actual risk of underlying government risk.

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