Stablecoin speech reveals tension between innovation and risk

Lauren McCarthy of Pinsent Masons, the law firm behind Out-Law, said those tensions were highlighted recently by a senior official at the European Central Bank (ECB), who assessed whether so-called stablecoins could help "underprivileged populations and vulnerable groups" around the world to access banking and payment services.

Stablecoins are cryptocurrencies that's value is pegged to that of external assets. The prospect of global stablecoins has attracted significant attention in recent months, in particular after plans were outlined for a new global cryptocurrency in the Libra project, the value of which would be pegged to a select number of fiat currencies. The backers of the Libra project have said that their plans will support frictionless cross-border trade, better access to financial services for the world's unbanked, and the development of innovative new services.

In a speech in Madrid, ECB vice president Luis de Guindos said that the benefits of "technological progress" seen across banking and payment services "have failed to reach all corners of our societies". He said, though, that retail stablecoins "could provide a functional means of payment and even serve as a gateway for other financial services", but said that he understands why there have been calls to regulate stablecoins as it is "far from certain that stablecoins can deliver on their promises, and it is clear that they could pose risks to consumers and the financial system".

"The same rules must be applied to all activities that give rise to the same risks, irrespective of the technologies used or the identity of the service providers," de Guindos said. "In other words, we should uphold the principle of 'same business, same risk, same rules', which is at the core of technology-neutral regulation. Providers of innovative services should not be penalised just because they use new technologies. Similarly, portraying existing financial products as something new by using innovative technologies to circumvent regulation must not be rewarded."

In his speech, de Guindos said that there are a number of challenges that stablecoin initiatives would have to overcome to succeed in increasing financial inclusion.

"Retail stablecoins must successfully address outstanding issues such as high costs, a cash-in/cash-out infrastructure, identification and know-your-customer requirements," he said. "These are formidable barriers to overcome. Moreover, stablecoins must be designed and implemented so that they do not compromise other public objectives such as anti-money laundering and consumer protection – to name just two."

De Guindos also warned about the potential for stablecoin users to incur losses due to the potential for volatility in valuations. He said that the stability of the value could not be guaranteed just by "a mere promise that proceeds from the sales of coins will be invested in low-risk financial instruments", and stressed that the valuation of a stablecoin will depend on "its governance, risk management and the value of the underlying assets or funds portfolio".

"The industry should therefore responsibly manage users’ expectations, making it clear that losses could occur and they would not be covered by the traditional financial stability net, which includes deposit guarantee schemes and central banks’ role as lenders of last resort," de Guindos said. "In this respect, the term stablecoin is a misnomer. They are not stable and they are not coins, for that matter."

Lauren McCarthy of Pinsent Masons said: "The speech highlights the very real tension between promoting financial inclusion and managing the risks of emerging financial products such as retail stablecoins. Increased regulatory oversight combined with the integration of these new technologies into existing regulatory systems should help to ease this tension. However, players in the market should be aware that this is as much a challenge for the private sector as it is for policy makers and regulators, and it is as important as ever to continue to monitor these developments and ensure financial products are delivered with these challenges in mind."    

In a joint statement issued earlier this month, the European Commission and Council of Ministers, which brings together representatives from the governments of EU member states, said that "no global 'stablecoin' arrangement should begin operation in the European Union until the legal, regulatory and oversight challenges and risks have been adequately identified and addressed".