Stablecoins: Use Cases and Advantages

One of the oft-repeated criticisms of cryptocurrency is that the value of coins and tokens is too volatile to meet the needs of many transactional use cases. Stablecoins have completely blown this reproval out of the water.

Stablecoins, which combine the advantages of crypto with the perceived stability of fiat currency, are disrupting finance more than anyone could have predicted even a year ago. In this post, we'd like to spend just a little time putting this into context.
What is a stablecoin?
A stablecoin is a cryptocurrency that holds a value equivalent to that of some other asset, such as national currencies or commodities. The vast majority of stablecoin trading volume is for assets pegged to the value of the US dollar. For simplicity's sake, we will focus in this article on these coins.

Most stablecoins maintain their stability through one of two mechanisms: collateralization or smart-contract governed algorithmic trading. Collateralized stablecoins, such as Tether (USDT) and USD Coin (USDC) are backed by actual dollars held in accounts controlled by centralized organizations or businesses.

Non-collateralized stablecoins, such as DAI, are governed by decentralized automated organizations (DAOs). The smart contracts that are developed by the DAO create a system which issues, and burns tokens in line with market supply and demand.
Advantages of Stablecoins

  1. Zero devaluation risk in relation to backing assets.

  2. Faster transactions that can be carried out 24/7.

  3. Bypass the correspondent (intermediary) banking system.

  4. Transparent and trackable payments.

  5. Fully self-custody enabled, permissionless, and P2P.

  6. Swappable on decentralized exchanges (DEXs).
So, what are the use cases?
Stablecoins offer a better alternative for a wide variety of transaction scenarios, including those that apply to business payments, investing, and lending.

Over the last couple of years, the way companies operate has been radically disrupted. While a trend towards business decentralization has been underway for at least a decade already, the COVID-19 pandemic put this process into a higher gear. Everywhere, the management of even large, conservative-minded, firms have begun to understand that there is no need to keep employees and contractors under a single roof. Remote working is the new normal and companies are getting more creative with who they are willing to hire, including independent specialists in smaller economies that are willing to work for more competitive wages.

Stablecoins eliminate most of the complexities of international payroll. First, they bypass the intermediary banking system, ensuring a higher degree of clarity between parties. Second, payments can be sent 24/7, meaning that service orders can be created and fulfilled even at the most inopportune times in any time zone. Finally, they give workers in countries that may have highly volatile currencies access to a better store of value. If the receiver is unsatisfied by the USD's inflation rate, they can easily swap their coins for cryptocurrencies like BTC or ETH using a DEX.

For many business situations today, escrow is a necessary but expensive administrative process. Smart contracts can be programmed to automate the payout of cryptocurrencies following the fulfillment of certain conditions, in this way virtually eliminating escrow costs. Since stablecoins lack volatility, it can be ensured that payment recipients receive the exact sum that had been agreed to initially.

This kind of smart contract powered escrow is expected by many experts to form the core of the connected economy of the future. As automation technology improves, we will begin to see these protocols applied to supply chains globally.

Moving funds onto and off of blockchains requires crypto traders to pay both exchange and payment processing fees. Stablecoins act as an essential tool for these investors and speculators by enabling them to bypass these costs. Instead of withdrawing funds, traders can leave their money on the trading platform in the form of crypto.

Already, around 60% of all Bitcoin is traded in exchange for the Tether stablecoin. In select markets, such as China, stablecoins absolutely dominate, with USDT being involved in 80% of all Huobi transactions.

Stablecoins are not only used by crypto investors to lock in gains, but also to generate passive income through a process called staking. Several decentralized lending platforms, such as Compound.Finance and DDEX offer extremely competitive yearly interest rates, ranging from 7-10%, for staked stablecoins.

On the surface, income generation through staking is not so different from bank deposits in the traditional economy. All you need to do is deposit your coins into an account and wait for interest to accrue. Unlike CDs, there is no penalty for withdrawing funds from your account — you just stop earning interest.
It is also possible for regular holders of stablecoins to participate in the lending process through centralized lending platforms. This offers certain benefits over decentralized systems and can offer rocket high returns.Crypto lending companies like Blockfi and Celsius accept stablecoin deposits from regular investors in order to fund collateralized loans to a clientele mostly made up of financial institutions. Owing to the fact that these lending platforms are centralized businesses — and therefore subject to regulation — they have an easier time attracting this kind of customer.

Ultimately, this works out to be a highly lucrative business, since institutional investors are ready to pay a premium to get temporary access to large amounts of stablecoins. These coins are then used to build leverage on other cryptocurrencies or to arbitrage trade between exchanges. The interest rates that trickle down to stablecoin holders reliably quadruple those of bank cash deposits.

Alternative Banking
There are currently about two billion people on the planet without access to banks or other financial services. Not having the ability to open or use a checking account or debit card can add a huge amount of unneeded complexity to the lives of an entire third of the planet's population.

Crypto wallets offer an excellent alternative to a bank account for these people. Since wallets can be set up by anyone with a mobile phone and an internet connection — two things that are already widespread across all continents — accessibility becomes a non-issue. Cryptocurrencies, and in particular BTC, have already gained adoption in countries that suffer from high inflation rates. The unique benefits of stablecoins would likely bring in many new users who had previously chosen to constantly change their salary currency into physical US dollars as a store of value.

Hundreds of millions of families across the world depend financially on money that is sent home by relatives living and working overseas. Carrying out these cross-border payments, however, can be a real challenge: On the one hand, they are expensive - according to the World Bank, remittance costs on average 6.38% of the amount sent. On the other hand, they may be difficult to receive, with sanctions or internal controls requiring family members to jump through hoops just to access their money.

In a wide variety of common remittance scenarios, stablecoins offer a better solution. When being sent to areas with limited availability of financial services, they remove the need for relatives to travel long distances to visit a bank or payments center. When received in unfree countries, funds can be held in wallets that are easy to hide from the authorities.

Crypto-financial platforms are already in development that will use stablecoins as a backend and that will allow people anywhere to make electronic payments that automatically and inexpensively convert to the local currency. Similar systems that make use of Bitcoin are already in place and being used every day in El Salvador. Strides are being made in other countries as well.

What does this mean for investors?
Stablecoins, of course, are not investment assets — they are transactional instruments. However, their growing rate of adoption should be of interest to crypto investors owing to their underlying infrastructure — the blockchain networks themselves. Taking the example of USDT, transactions occur both on the Omni layer of the Bitcoin blockchain and on Ethereum. In these protocols, a small amount of BTC or ETH must be paid to the network as a fee. Needless to say, this has its effect on the market.

Crypto tech intel for your business
At AlterCap, giving businesses a head start with crypto finance is our specialty. To learn more about stablecoin transactions or about cryptocurrency in general, please do get in touch!