The U.S. dollar is the dominant peg for stablecoins (crypto assets whose value is linked to a fiat currency), yet most stablecoin sponsors aren't subject to specific U.S. regulations (see chart). That could change with the introduction of the Lummis-Gillibrand Payment Stablecoin Act, which promises a legislative and regulatory framework to bolster confidence in stablecoins, accelerate institutional usage, facilitate bank issuance, and simplify the provision of digital custody services.
What's Happening
The bipartisan Lummis-Gillibrand Payment Stablecoin Act was introduced on April 17, 2024. Its key proposals include:
- Authorization for state non-depository trust companies (non-banks), which are registered with the Federal Reserve, to issue stablecoins up to $10 billion, while depository institutions have no threshold.
- Transitional arrangements enabling existing stablecoin issuers to continue operations pending new approval.
- A ban on algorithmic stablecoins.
- Reserve requirements including segregation of assets, full coverage of outstanding stablecoins, and the limitation of reserve assets to cash, bank deposits, Treasury Bills that mature within 90 days, repurchase agreements that mature within seven days, and deposits with the Federal Reserve.
- Monthly asset and regulatory breach disclosure.
- Mandatory redemption of stablecoins within one business day.
- Federal Deposit Insurance Corp. conservatorship and resolution for insolvent stablecoin issuers.
- Clarification that custodians' digital assets should be treated as off-balance sheet, like other custodied financial assets (overruling a SEC requirement that custodians report digital assets as an on-balance-sheet asset with a corresponding liability).
Why It Matters
Stablecoins could be a key pillar of financial markets' blockchain adoption by serving as a digital currency for fully on-chain payments which promise efficiencies and enhanced settlement security, specifically through tokenization of financial assets and digital bond issuance. Investment group Blackrock's BUIDL fund provides a recent use case. The tokenized fund, which uses the Ethereum blockchain and invests in U.S. treasuries, has a liquidity pool denominated in the USDC stablecoin, for which investors can redeem share tokens via a smart contract, instantaneously and 24/7.
What Comes Next
Regulatory clarity should encourage banks into the stablecoin market. Assuming the bill is approved, and that relevant banking regulation follows, the new rules may offer banks a competitive advantage by limiting institutions without a banking license to a maximum issuance of $10 billion. The bill is unlikely to significantly affect stablecoins already regulated by the New York Department of Financial Services (NYDFS), including PayPal USD, Gemini USD, and Paxos USD, as they are well-below the $10 billion threshold and because it is otherwise broadly consistent with NYDFS guidance.
Tether's dominance may wane. Tether, the largest stablecoin by outstanding volume, is issued by a non-U.S. entity and therefore not a permitted payment stablecoin under the proposed bill. This means that U.S. entities couldn't hold or transact in Tether, which may reduce demand while boosting U.S.-issued stablecoins. We note however, that Tether transaction activity is predominantly outside the U.S., in emerging markets, and driven by retail users and remittances.
Decentralized stablecoins remain on the to-do list. The U.S. bill's focus on stablecoins issued by centralized entities is part of a global trend toward delaying regulation of decentralized stablecoins, such as Dai or Frax. That reflects greater familiarity with the regulation of centralized issuers whose operations parallel already regulated financial activities.
New providers of digital asset custody services could emerge with the removal of the SEC's requirement that custodians report digital assets on their balance sheet. That policy not only differs from the general treatment of financial assets held in custody, which are generally off-balance sheet, but creates a capital requirement that likely discourages financial institutions from providing digital asset custody in the U.S. The new rules would remove that barrier and could lead to greater competition.
Related Research
This report does not constitute a rating action.
| Primary Credit Analysts: | Mohamed Damak, Dubai + 97143727153; mohamed.damak@spglobal.com |
| Andrew O'Neill, CFA, London + 44 20 7176 3578; andrew.oneill@spglobal.com |
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