Stablecoins had been high on the list of U.S. and international regulators, central bankers and elected officials focused on crypto regulation before one of the biggest collapsed in May.
The loss of confidence, run and utter collapse of the terraUSD stablecoin and its sister token, LUNA, which was supposed to maintain its dollar peg, wiped out $45 billion of investors’ money, and pushed the drive for regulation into high gear.
See also: $45B Stablecoin Rout Confirms Worst Fears about Crypto’s Need for Reserves
Motivated by those concerns, Japan has become the first major economy to formally define stablecoins’ legal status, Bloomberg reported on June 2. In a move that will likely influence the deliberations of the U.S., EU and other governments looking to follow suit, Japan has effectively classified stablecoins as a form of digital money — a privately issued currency.
Read more: FSB Tells National Regulators to Move Faster on Stablecoin Regulation
It may have been influenced by Kenya’s treatment of non-blockchain-based digital currencies — most notably the 15-year-old m-Pesa, which is dominant in the country with at least one user in 96% of households. Its success has made the East African nation a pioneer in the use of digital money.
Kenya’s central bank gave the m-Pesa a fair amount of leeway, other than requiring it to hold a license issued by the central bank rather than a full banking license. In April, it added interoperability to the mix, requiring m-Pesa to link with other mobile service providers.
More here: Kenyan Mobile Service Providers Link With M-Pesa Payments Platform
While the Japanese Financial Services Agency said it plans to issue comprehensive stablecoin regulations within the next few months, the law will come into effect next June. Notably, and perhaps inevitably, it effectively banned algorithmic stablecoins like terraUSD, which use an arbitrage-based incentive system to maintain their peg that eventually caused its failure.
Three Key Decisions
Stablecoins will have to be pegged to the yen or another legal tender — most are currently pegged to the U.S. dollar — and holders will have a legal right to redeem them at face value.
Also, only licensed banks, registered money transfer agents and trust companies will be allowed to issue them.
Pegged to Legal Tender
The requirement for the one-to-one peg won’t affect most crypto stablecoins, including the two largest, Tether’s USDT and Circle’s USDC. That said, it will likely require a high degree of public oversight of the cache of currency backing stablecoins, something that Tether has been loath to provide.
It may also limit the funds backing stablecoins to fiat currency, which has been a big issue in the U.S. as USDC’s backing also includes highly liquid treasuries. It briefly held less stable investments until an uproar ensued, but Tether had most of its backing in more volatile commercial paper and other investments, with less than 2% in cash. While Tether has been working on changing that for months, it still has about 25% in commercial paper.
See here: Tether Breaks Buck as Stablecoin Panic Spreads
Backed by Legal Tender
But holding the funds in actual currency means issuers may not be able to earn interest on those funds — something U.S. banks are concerned about. A requirement to keep a full cache of backing currency liquid at all times might effectively prevent the banks holding it from loaning it out.
The banking lobby has already been pushing for the ability to use these funds, perhaps with a slightly higher liquidity requirement than other assets. And as a large chunk of those funds would otherwise be kept in bank accounts, banks fear that the money supply they have access to would shrink — an issue that also came up in the banking lobby’s recent attack on the idea of a U.S. central bank digital currency.
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Open to Non-Bank Issuers
Japan’s issuers will have to be licensed, but they won’t necessarily have to be banks. That’s a departure from the recommendation made in the U.S. by the Treasury Department-led President’s Working Group on Financial Markets’ stablecoin report, which said only federally insured banks should be permitted to issue them.
The working group’s stance has raised an outcry in Congress, where many members feel that state-licensed banks should not be excluded. And while Coinbase has a slew of state-issued money transfer licenses, it has announced plans to apply for a federal banking license — something Cayman Islands-based Tether has not.
Related reading: Powell, Yellen Clash Over Stablecoin Regulation at Senate Hearing
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