In this third and final chapter of our three-part series review of JP Morgan’s report titled “Blockchain, Digital Currency and Cryptocurrency: Moving into the Mainstream?” (hereinafter referred to as “the Report”), we will be exploring stablecoins which refers to cryptocurrencies with prices that are pegged to assets with a stable value. Through the structuring of stablecoins in such a manner, they are able to leverage the benefits of decentralization while avoiding the issue of market volatility which results in the fluctuations of their trading price.
In this regard, it can be noted that the issue of market volatility does have a material impact on the crypto domain as illustrated by the price fluctuations of the mother of all cryptocurrencies i.e. the legendary Bitcoin which value spiked by about 8% during the three months period from October 2017 to January 2018. Notwithstanding the benefits of stablecoins, they do bring with them certain risks. The Report explored these risks through the use of Facebook’s Libra Coin which can be said to be the epitome of stablecoins as the model example.
From the outset, the Report justified its choice of using Libra Coin as the model stablecoin in its evaluation of the risks of stablecoins by referring to the network externalities of the Coin. These externalities are due primarily to the wide network effects brought about by the association of the Coin with the expansive global reach of Facebook’s user pool. In this connection, it is notable that as of the fourth quarter of 2019 the social media giant had more than 2.5 billion users around the world whereby this represents an astounding user rate of almost 30% of the global population. Although the stature of Facebook as a global social media network giant may lead some to think that this may be a positive factor in support of the development of Libra Coin, the Report highlighted the fact that it is precisely the wide distribution and use of Libra Coin which may render it to be vulnerable to systemic risks.
The gist of the Report’s discussions on the systemic risks posed by Libra Coin is the inherent instability of the Coin’s network due to its use as a large-scale payments system in the absence of any short-term credit mechanism to provide for settlement liquidity. According to the Report, if as expected the Libra Coin grows into being a systemically important payment and currency system, its operating structure would be similar to corporate wholesale bank deposits i.e. having a high rate of turnover and a low average balance to gross activity ratio.
Unlike central banks which have access to short-term credit markets, Facebook as the issuer of Libra Coin lacks access to such markets. This lack of access coupled with the aforementioned operating structure of the Coin’s network render it to be vulnerable to cascading disruptions. Minor perturbations may result in a ripple effect which may eventually cause a systemwide reconfiguration of the network.
Although the presence of the Libra Association which acts as a gatekeeper for the Libra network provides a sort of supranational regulatory infrastructure for the network, the Report notes that this does not detract from the fact that unlike fiat-based tokens issued by central authorities, assets-backed tokens such as the Libra Coin are affected by issues of short-term liquidity which is a major contributor to the systemic risks afflicting the Coin. Using Libra Coin as the model example of stablecoins, the Report has convincingly highlighted the possible systemic risks brought about by the use of such coins particularly those relating to a lack of liquidity.
In the context of SEA, the region looks set to be heading for an economic crisis with stock markets in the region suffering unprecedented plunges due to the Covid-19 pandemic. This situation is not unlike the 1997 Asian financial crisis which is thought to have originated in Thailand when the government chose to unpeg the Thai Baht (THB) from the US Dollar (US$), setting off a wave of capital flight from the country. This triggered a chain reaction across Southeast Asia that rippled out to the entire continent, eventually culminating in the Asian financial crisis. Fast forward to 2020 and Asia finds itself on the brink of another financial crisis albeit this time around the wave of capital flight of foreign investors is triggered by a global healthcare crisis as opposed to a unilateral governmental action.
As the global economy in general and the regional economy in particular goes on a downward spiral due to the negative investors’ sentiments as a result of the Covid-19 pandemic, the budget deficits of governments of Southeast Asian countries are likely to grow larger. As Southeast Asian countries embark on their respective paths to economic recovery, the use of stablecoins as payment instruments coupled with the inclusion of stablecoins as part of fiscal policy considerations could allow them to serve as a fail-safe mechanism thereby avoiding the pitfalls of spiraling public debt. The dangers in this regard are aptly highlighted by the accumulation of a total federal debt of US$22.5 trillion by the United States (U.S.) since it abandoned its gold standard back in 1933 at the height of the Great Depression as part of its economic recovery plans. If Southeast Asian countries are to sidestep the dangers of the debt-ridden economic recovery path of Uncle Sam, perhaps stablecoins may well be the answer.
In sum, the Covid-19 pandemic has brought about novel challenges which threaten the continued existence of humanity and threaten to wreak havoc to the global financial as well as economical order. As illustrated by our review of the Report, the use of blockchain in the financial and capital markets as well as being the underlying mechanism in support of alternate payment renders it to be a technological saviour to the issues faced by humanity. Accordingly, it may not be too far-fetched to postulate the possibility of tackling the after effects of the Covid-19 pandemic with the twenty-first century technological wonder that is blockchain. Notwithstanding the risks of stablecoins as exemplified by Libra Coin, the most critical aspect in the use of blockchain for the recovery of the regional Southeast Asian economy is perhaps the role of stablecoins in stabilizing the respective national economies of Southeast Asian countries in the wake of the financial implications and economic downturn brought about by the Covid-19 pandemic.
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