America’s Genius Act for crypto regulation shows no ingenuity

The Guiding and Establishing National Innovation for US Stablecoins Act, which Congress passed this week, would regulate stablecoins and effectively transform them from a security to a means of payment.

While there is a need for some regulation, as some retailers are considering issuing their own stablecoins, mainstreaming cryptocurrency is hardly a genius move.

The bill would introduce a tremendous amount of risk to the financial system and to consumers. And for what purpose? The US already has a means of payment—it’s called the dollar—and it works pretty well.

For most of crypto’s history, its use case, other than paying for goods and services in the underground economy, has been unclear. Tokenization does have the potential to make payments quicker and more efficient.

The big problem has always been volatility: Cryptocurrencies are not a stable store of value, and therefore not a useful means of payment. Stablecoins solve this by striving to maintain a dollar peg.

They can do this in several ways, the most common of which is to use low-risk assets such as Treasury bills as backing.

This will not produce a perfect peg to the dollar. The exchange rate between the dollar and Tether, the most popular coin backed mostly by Treasury bills, still fluctuates. It is more stable than an unhedged cryptocurrency, but not perfect.

Crypto coin issuers are very similar to banks of the 1830s, which also issued their own currencies and were regulated by the states.

In a similar spirit, under the Genius Act, companies that issue less than $10 billion worth of coins would also be regulated by the states while the US Federal Reserve would regulate bigger issuers. The thing about the 1830s is that the system was very chaotic.

Constant oversight was necessary, because any hint of currency devaluation created bank runs and failures. States had different standards, and several underregulated their local banks, creating a lack of confidence in the system.

Back then consumers had no choice, as no universal fiat currency was widely available. Today, of course, Americans can just use dollars.

Vendors don’t have to worry that their value will fluctuate and holders don’t have to worry that it will collapse. The central bank will ensure that it doesn’t. And despite the occasional bout of inflation, the Fed has a great track record.

Mainstreaming stablecoins also poses risks to the financial system. Stablecoin issuers are already becoming a major source of demand for US Treasuries.

Tether purchased more than $33 billion of them last year and now owns more than Germany. If the market takes off, some banks estimate stablecoin issuers could be a captive buyer for trillions of dollars in Treasuries.

The government might find that extra demand appealing, as it would help keep rates low. But it also introduces systemic risk. If there is ever a run on a large coin, all these Treasuries would need to be sold quickly—potentially causing a financial crisis or risking a bailout.

It’s worth asking what the benefits of the Genius Act might be. It would make payments more efficient than the current system of using banks and credit and debit cards—which all charge non-trivial fees. But for stablecoin issuers to turn a profit, they’d also have to charge fees.

Currently they earn most of their revenues from returns on their reserve assets. But to comply with effective regulation or just inspire confidence, these assets need to have a stable price (relative to the dollar) and be perfectly liquid.

In other words, they have to be the kind of asset that pays no return. The only way to make money while also paying compliance costs would be to charge fees. Probably not much less than what credit-card companies or banks charge.

There are also concerns specific to the Genius Act itself: There is not enough regulatory scrutiny, so illicit use would still be possible. There are inadequate provisions for bankruptcy and for enforcement.

And then there are concerns about conflicts of interest—particularly with the president, whose family issues its own coins.

But the biggest question is why the US government wants to make it easier to use stablecoins as a means of payment. Not only does it create needless risk, but it also undermines the government’s own function as the issuer of the dollar.

The Bank for International Settlements (BIS) has a better idea: To get the benefits of cryptocurrency while minimizing risks, and to better integrate blockchain technology into central banking, just tokenize the US dollar. ©Bloomberg