STABLECOINS
1. Context
Hong Kong is taking a decisive step forward in regulating certain types of cryptocurrencies, as it prepares to enforce the Stablecoins Ordinance from August 1. The new regulations come amidst an explosion of interest in stablecoins and their promising applications in both personal finance and international business. While crypto users who support official regulation are excited, the authorities have advised caution.
2. What are Stablecoins?
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- Stablecoins are a type of cryptocurrency whose value is tied to specific assets. Unlike popular cryptocurrencies such as Bitcoin (BTC), Ether (ETH), or meme tokens like Shiba Inu (SHIB) — which can experience sharp price swings driven by market sentiment and other factors — stablecoins are built to keep their prices relatively constant, which is how they get their name.
- This price stability is achieved by “pegging” the stablecoin to an underlying asset, which could be a fiat currency (like the U.S. Dollar, Euro, or Hong Kong Dollar), a commodity (such as gold), another cryptocurrency (like Bitcoin), or by using algorithmic controls.
- In some cases, a combination of these methods is used. For instance, while Bitcoin’s value may fluctuate significantly over time, a stablecoin pegged to the U.S. Dollar is intended to stay close to $1.
- It’s important to note that stablecoins differ from Central Bank Digital Currencies (CBDCs). CBDCs are state-issued digital currencies managed by a country’s central bank, whereas stablecoins are often created by private entities and may even be pegged to foreign currencies
3. Regulation of Stablecoins
- Stablecoins hold significant importance both inside and outside the cryptocurrency space, even though they lack the explosive price surges seen in assets like Bitcoin. Within the crypto market, investors often use stablecoins to simplify trading on exchanges.
- Beyond that, people in countries facing currency depreciation turn to stablecoins to preserve their savings’ value or to reduce costs in cross-border payments.
- In regions such as Argentina, Turkey, and even Taliban-controlled Afghanistan, stablecoins are more than trading tools — they serve as a lifeline for day-to-day transactions.
- The scale of their use is striking. According to CoinMarketCap, Tether (USDT) — the largest stablecoin and the fourth biggest cryptocurrency by market capitalization — has a circulating supply of 163.75 billion USDT. Globally, the total circulation of stablecoins is estimated to exceed $250 billion.
- This growing influence has sparked concerns among governments. Authorities worry that the complex mechanisms behind stablecoins might one day impact the value of the fiat currencies or commodities that support them.
- When a stablecoin provider suddenly declares the addition of millions in backing assets, questions naturally arise about the origin — or even the existence — of those funds. This is precisely why regulatory oversight is increasingly seen as essential
4. Volatility of Stablecoins
- Despite their name and asset backing, stablecoins are not immune to volatility. Influenced by technical issues or global events, they can sometimes lose their peg, causing prices to move outside the expected range. Sharp declines, in particular, can spark investor panic. For instance, USDT — pegged to the U.S. Dollar — has previously dropped to around $0.92.
- In some cases, stablecoins have experienced complete collapse. A notable example is from May 2022, when Terra’s cryptocurrency LUNA and its associated algorithmic stablecoin UST lost nearly all their value within hours.
- As trust evaporated, investors rushed to sell, driving prices down to near zero. This crash erased billions of dollars from the crypto market, and the resulting liquidity crisis led to asset freezes on multiple global crypto exchanges and fintech platforms
5. Licensing System in Hong Kong
- The Hong Kong Monetary Authority (HKMA) has announced that the Stablecoins Ordinance will take effect on August 1 this year. Under the new law, it will be illegal to “offer any unlicensed fiat-referenced stablecoin (FRS) to a retail investor” or to “actively market the issuance of unlicensed FRS to the public in Hong Kong,” as stated by HKMA Chief Executive Eddie Yue.
- To operate legally, companies aiming to issue stablecoins in Hong Kong will be required to obtain a licence from the Monetary Authority. They must also meet specific standards for managing reserve assets, redemption processes, asset stabilisation, and handling user requests.
- Additionally, they will have to follow anti–money laundering (AML) and counter–terrorist financing (CTF) regulations, ensuring that all assets are transparently disclosed and subject to proper audits.
- The HKMA cautioned that the new framework is not an open invitation for mass participation. Initially, only a small number of licences will be granted, meaning many applicants are likely to be rejected, according to Mr. Yue’s official statement
6. Other Countries' regulations
- In July, U.S. President Donald Trump signed the GENIUS Act, aimed at regulating stablecoins and safeguarding the U.S. dollar — a move welcomed by his pro-crypto supporters.
- According to the White House, the legislation mandates that stablecoins must be backed 100% by liquid assets such as U.S. dollars or short-term Treasury securities. Issuers will also be required to publicly disclose the composition of their reserves every month and adhere to specific marketing regulations.
- Countries like Japan and Singapore have already introduced dedicated stablecoin regulations, AFP reports, while several other jurisdictions apply broader cryptocurrency laws that also cover stablecoins.
- Meanwhile, despite China’s strict curbs on crypto activities, some of its major tech firms are looking to Hong Kong’s upcoming regulatory framework as a possible gateway for launching their own stablecoin projects
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For Prelims: Stablecoins , Bitcoins, Cryptocurrency
For Mains: GS III - Economy, Science and technology
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Previous year Question1. With reference to “Blockchain Technology”, consider the following statements: (UPSC 2020)
1. It is a public ledger that everyone can inspect, but which no single user controls.
2. The structure and design of the blockchain are such that all the data in it are about cryptocurrency only.
3. Applications that depend on the basic features of blockchain can be developed without anybody’s permission.
Which of the statements given above is/are correct?
A. 1 only
B. 1 and 2 only
C. 2 only
D. 1 and 3 only
Answer: D
2. With reference to 'Bitcoins', sometimes seen in the news, which of the following statements is/are correct? (UPSC 2016)
1. Bitcoins are tracked by the Central Banks of the countries.
2. Anyone with a Bitcoin address can send and receive Bitcoins from anyone else with Bitcoin address.
3. Online payments can be sent without either side knowing the identity of the other. Select the correct answer using the code given below.
A. 1 and 2 only
B. 2 and 3 only
C. 3 only
D. 1, 2 and 3
Answer: B
3. With reference to Non-Fungible Tokens (NFTs), consider the following statements:(UPSC 2022)
1. They enable the digital representation of physical assets.
2. They are unique cryptographic tokens that exist on a blockchain.
3. They can be traded or exchanged at equivalency and therefore can be used as a medium of commercial transactions.
Which of the statements given above is/are correct?
A. 1 and 2 only
B. 2 and 3 only
C. 1 and 3 only
D. 1, 2 and 3
Answer: A
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Source: The Hindu
