Chainalysis: Understanding Global Stablecoin Policies, Regulations, and Use Cases in One Article

Original Title: "Stablecoins 101: Behind crypto's most popular asset"

Source: Chainalysis

Compiled by: Bai Shui, Jinse Finance

Stablecoins have quietly become a powerful force in the global cryptocurrency market, accounting for more than two-thirds of the tens of trillions of dollars in cryptocurrency transactions recorded in recent months.

Unlike most cryptocurrencies, which often experience extreme price volatility, stablecoins are pegged to less volatile assets, such as fiat currencies or commodities, at a 1:1 ratio to maintain a consistent and predictable value.

Globally, stablecoins are gaining momentum as a medium of exchange and a store of value, filling the gaps left by traditional currencies, especially in regions with currency instability and limited access to the US dollar (USD). Businesses, financial institutions (FIs), and individuals are leveraging stablecoins for various use cases, from international payments to liquidity management and hedging against currency fluctuations. Compared to traditional financial systems, stablecoins facilitate faster and more cost-effective transactions, accelerating global adoption.

As regulatory momentum around cryptocurrencies continues to grow, stablecoins are becoming a focal point in discussions about the technologies shaping the future of finance.

What are Stablecoins?

Stablecoins are programmable digital currencies typically pegged 1:1 to fiat currencies like the US dollar. They are primarily issued on networks like Ethereum and Tron, combining the powerful capabilities of blockchain technology with the financial stability needed for practical use cases of cryptocurrencies.

The launch of Bitcoin in 2009 revolutionized the world’s financial infrastructure by introducing a decentralized peer-to-peer trading system that eliminated the need for intermediaries. However, its limited supply and speculative trading dynamics led to extreme price volatility, making its native token, Bitcoin (BTC), difficult to use as a medium of exchange. Similarly, when Ethereum emerged a few years later, it built on Bitcoin's foundation and extended the functionality of cryptocurrencies to programmability through smart contracts. This innovation spurred the rise of decentralized finance (DeFi), but like Bitcoin, Ethereum's native token, Ether (ETH), also suffered from significant price fluctuations.

Stablecoins first appeared in 2014, combining the technological advantages of blockchain (such as transparency, efficiency, and programmability) with the financial stability required for widespread adoption. By addressing the issue of cryptocurrency price volatility, stablecoins unlocked new use cases beyond trading and speculation, attracting a broad range of cryptocurrency users, including retail and institutional users.

Types of Stablecoins

Stablecoins maintain their value through various mechanisms designed to ensure price stability.

Fiat-Collateralized Stablecoins

Fiat-collateralized stablecoins are the most popular type of stablecoin, pegged to the value of traditional currencies at a 1:1 ratio, with the US dollar and the euro (EUR) being the most common benchmarks. The stability of these stablecoins comes from reserves held in fiat currencies or equivalent assets, which serve as collateral. Examples include Tether (USDT) and USD Coin (USDC), which are pegged to the US dollar, and Stasis Euro (EURS), which is pegged to the euro.

Commodity-Collateralized Stablecoins

Commodity-collateralized stablecoins are pegged to the value of physical assets such as gold, silver, or other tangible commodities. These stablecoins allow users to gain exposure to commodity investments without directly owning the commodities. For example, PAX Gold (PAXG) is a stablecoin backed by gold reserves, with each token representing one troy ounce of gold stored in a secure vault. Another example is Tether Gold (XAUT), which similarly provides stability backed by gold.

Crypto-Collateralized Stablecoins

Crypto-collateralized stablecoins are backed by reserves of other cryptocurrencies. These stablecoins often use over-collateralization (i.e., the value of assets held in reserve exceeds the pegged value) to mitigate the inherent volatility of their underlying assets. For instance, Dai (DAI) is backed by cryptocurrencies like ETH and is maintained through a system of smart contracts within the MakerDAO protocol. Users deposit collateral to mint Dai, ensuring its stability, even as the collateralized cryptocurrencies experience volatility.

Treasury-Collateralized Stablecoins

Treasury-collateralized stablecoins, such as Ondo's USDY and Hashnote's USYC, differ from traditional fiat-backed stablecoins in that they are supported by cash reserves or liquid assets. Backed by US Treasury bonds and repurchase agreements, they provide yield directly to holders, essentially acting as tokenized money market funds and attracting investors seeking safety, passive income, and regulatory compliance.

Algorithmic Stablecoins

Algorithmic stablecoins maintain their value through programmed mechanisms that adjust supply based on market demand, without relying on direct collateral. Examples of algorithmic stablecoins include Ampleforth (AMPL), which dynamically adjusts its supply to stabilize prices, and Frax (FRAX), which is a partially algorithmic stablecoin that combines collateral with algorithmic adjustments. Ethena's USDe is a synthetic stablecoin pegged to the US dollar that uses crypto assets and automated hedging to maintain its dollar value without directly holding fiat currency. While these models are innovative, they face challenges in maintaining long-term stability, as seen in the collapse of TerraUSD (UST) in 2022, highlighting the risks associated with purely algorithmic stabilization mechanisms.

Stablecoins in the Cryptocurrency Market

Beyond speculation, stablecoins play a crucial role in the cryptocurrency market, providing a reliable medium of exchange, a store of value, and a bridge between TradFi and cryptocurrencies. As significant liquidity providers, stablecoins underpin much of the activity in decentralized finance (DeFi), centralized exchanges (CEX), and cross-border payments.

As we see below, the stablecoin market has matured globally, replacing BTC as the preferred asset for everyday transactions.

Regions like Latin America and Sub-Saharan Africa are embracing stablecoins as a means to hedge against local currency instability, providing a more reliable means of transaction and value preservation. In these areas, retail adoption of stablecoins is primarily driven by their utility for low-cost remittances, safe savings in volatile currency regions, and access to DeFi services like lending and staking.

While stablecoins are becoming increasingly popular among institutions, much of their growth is driven by transfers below $1 million—our benchmark for non-institutional activity—which we examined in our annual cryptocurrency geography report. Below, we analyze the growth of retail and professional-scale stablecoin transfers from July 2023 to June 2024 compared to the same period last year.

Latin America and Sub-Saharan Africa are the fastest-growing regions for retail and professional-scale stablecoin transfers, with year-over-year growth exceeding 40%. East Asia and Eastern Europe follow closely, with year-over-year growth rates of 32% and 29%, respectively.

Meanwhile, markets like North America and Western Europe have seen significant growth in retail stablecoin activity, albeit at a slower pace, likely due to robust local financial infrastructure, although institutional investors in these regions are increasingly adopting stablecoins for liquidity management, settlement, and entry into cryptocurrencies. Notably, Western Europe is home to the world's second-largest merchant services market, with the UK leading the region with a year-over-year growth rate of 58.4%. Stablecoins dominate these services, consistently accounting for 60-80% of market share each quarter, as shown in the chart below.

In the Middle East and North Africa, stablecoins and altcoins have captured a larger market share, surpassing traditional dominant assets like BTC and ETH, particularly in Turkey, Saudi Arabia, and the UAE.

Notably, the volume of stablecoin transactions in Turkey also far exceeds its GDP.

In East Asia, interest in stablecoins has surged following the launch of a stablecoin sandbox in Hong Kong. Upcoming stablecoin regulations will pave the way for stablecoins to be listed for retail trading, potentially bolstering Hong Kong's web3 ambitions.

In Central Asia and South Asia, as well as Oceania, stablecoins are widely used for cross-border trade and remittances, circumventing the challenges of traditional banking. Countries like Singapore have enhanced confidence in stablecoins through regulatory frameworks, making them important tools for both retail and institutional users.

Global Stablecoin Policies and Regulations

Stablecoins have become a priority for global regulators as they are rapidly adopted in the global financial system and play an increasingly important role in various use cases. Governments and regulatory bodies are grappling with the challenge of creating frameworks that encourage innovation while ensuring consumer protection, financial stability, and compliance with anti-money laundering and counter-terrorism financing (AML/CFT) standards.

European Union (EU)

The European Union (EU) has introduced the Markets in Crypto-Assets Regulation (MiCA), aimed at creating a unified crypto asset framework for issuers and service providers within the EU, including stablecoins. MiCA represents a significant shift from AML-focused regulation (introduced by the Fifth Anti-Money Laundering Directive) to a comprehensive regulatory framework establishing prudential and conduct obligations. MiCA focuses on enhancing consumer protection, ensuring market integrity, and maintaining financial stability. The stablecoin framework under MiCA will take effect on June 30, 2024, while regulations governing crypto asset service providers (CASPs) will come into force on December 20, 2024. Although MiCA is a European regulation applicable to all 27 EU member states, the responsibility for licensing and supervising issuers and CASPs lies with their respective national authorities.

MiCA establishes two distinct types of stablecoins: (i) Asset-Referenced Tokens (ARTs), which aim to maintain stable value by referencing another value or right or a combination of both, including one or more official currencies, commodities, or crypto assets; and (ii) Electronic Money Tokens (EMTs), which aim to maintain stable value by referencing the value of an official currency (such as the euro or US dollar). ART and EMT issuers within the EU must obtain the appropriate MiCA license, including publishing a detailed white paper and adhering to strict rules regarding governance, reserve asset management, and redemption rights.

EMTs (considered both crypto assets and funds) serve as a means of payment, while ARTs are viewed as a means of exchange, requiring issuers to report trading activities in greater detail. Additionally, ARTs may be subject to issuance restrictions. Major stablecoins, referred to as "significant" stablecoins, face stricter regulation, including higher capital requirements and reserve asset obligations, directly overseen by the European Banking Authority (EBA) rather than national regulators. While MiCA has the potential to become a global standard, challenges such as unclear national implementation and overlapping classifications highlight the need for additional guidance to ensure smooth implementation and adoption.

Singapore

The Monetary Authority of Singapore (MAS) has completed the country's stablecoin regulatory framework, focusing on single-currency stablecoins (SCS) pegged to the Singapore dollar or any G10 currency in circulation in Singapore. The framework emphasizes value stability, capital adequacy, redemption, and disclosure to ensure prudent robustness and consumer protection. Stablecoin issuers meeting all the framework's requirements can apply to be recognized as "MAS-regulated stablecoins."

Hong Kong

Hong Kong, as a Special Administrative Region of China, has a different legal and regulatory framework from mainland China. This separation allows Hong Kong to develop progressive regulatory policies around stablecoins and other crypto assets. The Hong Kong Monetary Authority (HKMA) has established a regulatory framework for stablecoin issuers, recognizing the rapid evolution of the digital currency landscape. Even as legislation nears completion, the HKMA has launched a sandbox to allow industry stakeholders with compelling use cases to develop and test their business models, facilitating two-way discussions on regulation and risk management. Three projects were included in the sandbox in July 2024.

Japan

Japan is one of the first countries to establish a regulatory framework for stablecoins. This framework places a strong emphasis on stability and oversight, allowing banks, trust companies, and money transfer service providers to issue fiat-backed stablecoins under strict reserve requirements. Major companies like Mitsubishi UFJ Financial Group (MUFG) are reportedly exploring stablecoin opportunities, but the market is still in its infancy, with no stablecoins listed on local exchanges or registered with electronic payment service providers (EPSPs). Recently, Japan's Financial Services Agency has been reviewing stablecoin rules and considering international experiences.

United States

Stablecoin regulation in the United States is still a work in progress, with significant uncertainty and controversy. While stablecoins like USDC and USDT are widely used for payments and financial services, the lack of a comprehensive regulatory framework poses challenges for both issuers and users. Efforts to address this issue include proposed legislation, such as the stablecoin bill introduced by the House Financial Services Committee in 2023, which aims to establish clear rules for issuers regarding reserves, transparency, and anti-money laundering (AML) compliance.

Major Stablecoin Issuers

While there are currently hundreds of stablecoins in circulation, most are issued by Tether, followed by Circle. Other issuers, though smaller in market share, are actively reshaping the stablecoin landscape.

Tether (USDT)

Tether (USDT) is the largest stablecoin by market capitalization, accounting for the vast majority of stablecoin supply and providing liquidity to numerous blockchains. Tether's reserves and financial transparency have been under scrutiny, but the company asserts that audits and market stress tests have validated its solid position. Tether holds nearly $100 billion in US Treasury securities, with most of its assets managed by Cantor Fitzgerald, making its reserve assets comparable to those of major countries. Tether continues to expand its product range, including UAE dirham-backed tokens and gold-backed stablecoins, focusing on markets where these assets provide tangible value.

Circle (USDC)

Circle issues USDC, the second-largest stablecoin by market capitalization. USDC is known for its transparency, with weekly attestations of its reserves. The reserves are held in cash and short-term US government bonds, providing users with a high level of transparency and assurance.

Paxos

Paxos issues Pax Dollar (USDP) and provides infrastructure for PayPal's stablecoin PayPal USD (PYUSD) and other global stablecoin projects. Paxos emphasizes transparency and trust, adhering to portfolio management guidelines and publishing monthly attestation reports to verify reserves.

PayPal (PYUSD)

PayPal has entered the stablecoin market with PayPal USD (PYUSD), issued in partnership with Paxos. PYUSD is designed for payments and is backed by reserves managed by Paxos, with regular transparency reports provided to the public.

Use Cases for Stablecoins

Stablecoins were once primarily used for cryptocurrency trading but have now become versatile tools for everyday use cases, offering broad utility for both the crypto-native ecosystem and TradFi.

Gateway to DeFi

Stablecoins are the backbone of many DeFi protocols, facilitating lending and yield farming. They are ideal for liquidity pools due to their lack of price volatility, which reduces impermanent loss and maintains the efficiency of decentralized exchanges (DEXs). Stablecoins also enable global financial services, allowing users in economically unstable regions to participate in DeFi markets without being affected by local currency fluctuations.

Payments and Peer-to-Peer (P2P) Transactions

Stablecoins are increasingly used for everyday payments and P2P transfers. They can process transactions quickly and cost-effectively compared to traditional banking systems, often incurring minimal fees, making them an attractive option for users. In P2P transactions, stablecoins provide individuals with a simple and secure way to exchange value without intermediaries. This is especially valuable in regions where reliable banking systems are unavailable.

Cross-Border Transactions and Remittances

Cross-border payments and remittances are among the most transformative use cases for stablecoins. They offer a faster and cheaper alternative to traditional remittance services, which often involve high fees and slow processing times. Migrant workers, who often lack or have limited access to banking services, use stablecoins to send money home, while businesses use them to settle international invoices. Stablecoins provide a solution that bypasses the inefficiencies of traditional financial systems, enhancing financial inclusion and reducing friction in cross-border transactions.

For example, using stablecoins to send a $200 remittance from Sub-Saharan Africa is approximately 60% cheaper compared to traditional fiat-based remittance methods, as shown below.

Foreign Exchange (FX) and Trade Financing

For foreign exchange and trade financing, stablecoins enable businesses to transact in globally accepted digital currencies, reducing reliance on intermediaries and lowering the risks associated with exchange rate fluctuations. Stablecoins simplify transactions for importers and exporters, providing a stable and transparent medium for international trade, especially in regions with limited access to foreign exchange.

Store of Value in Economic Instability or Inflation

Stablecoins have become the preferred store of value in regions facing economic instability or high inflation. By pegging their value to assets like the US dollar, stablecoins offer individuals and businesses a way to preserve purchasing power and protect their assets from local currency fluctuations. This use case is particularly effective in emerging markets, where access to stable financial instruments is limited and there is a strong need for direct access to US dollars.

Stablecoins often trade at a premium in high-inflation areas, reflecting users' willingness to pay for stability and faster capital mobility. Currency instability in emerging markets can lead to significant GDP losses over time, further driving demand for stablecoins.

Illicit Activities in the Stablecoin Ecosystem

While stablecoins have garnered significant attention for their legitimate use cases, they have also been exploited by high-risk and illicit actors for various illegal activities. Their stability and global accessibility make them attractive tools for bad actors attempting to circumvent financial controls and avoid detection—despite the inherent transparency and traceability of blockchain often making this a poor choice.

While we estimate that less than 1% of on-chain transactions are illegal, stablecoins have been used for activities such as money laundering, fraud, and evading sanctions. Due to their relatively high liquidity and acceptance on cryptocurrency exchanges, stablecoins can be used for rapid cross-border value transfers without relying on traditional financial institutions.

Using Stablecoins to Evade Sanctions

As countries like Russia explore alternatives to bypass Western financial restrictions, the practice of evading sanctions through stablecoins and other cryptocurrencies is becoming increasingly prominent. Entities in sanctioned regions may use stablecoins to facilitate international trade or transfer funds to entities in non-sanctioned jurisdictions. These activities exploit the anonymity of blockchain transactions to obscure the source of funds, often through complex networks of wallets and exchanges. Although large-scale sanction evasion remains challenging due to liquidity constraints in the cryptocurrency market and the transparency of blockchain transactions, smaller-scale activities (such as fund transfers involving sanctioned entities and political figures) pose security and compliance risks.

How Stablecoin Issuers Collaborate with Law Enforcement

Stablecoin issuers are ramping up efforts to combat financial crime, supporting global law enforcement and regulatory investigations. Issuers like Tether work closely with global law enforcement agencies, financial crime units, and regulators like the Financial Crimes Enforcement Network (FinCEN), using Chainalysis to monitor transactions in real-time and identify suspicious activities. Most centralized stablecoin issuers also have the authority to freeze or permanently delete or "burn" tokens in wallets associated with confirmed criminal activities, thereby preventing illegal transactions and aiding in the recovery of stolen funds.

Which Stablecoin Issuers Can Burn and Freeze Tokens?

Stablecoins issued by centralized services, such as USDC (Circle), USDT (Tether), BUSD (Paxos), and TUSD (Techteryx), can be frozen or burned by their issuers to comply with regulations or prevent illegal activities. In contrast, decentralized stablecoins, such as DAI (MakerDAO), FRAX (Frax Finance), and LUSD (Liquity), are governed by protocols and smart contracts, thus not subject to freezing or burning by any centralized entity. Balancing compliance and user autonomy is an important consideration in decentralized technology.

The Future of Stablecoins

Stablecoins not only represent a critical intersection between blockchain and traditional financial systems but also open new avenues for economic participation. Supported by regulatory advancements aimed at providing clarity and building trust between users and institutions, adoption rates continue to grow across regions and industries. As frameworks like the EU's MiCA and guidelines from markets like Singapore and Japan take shape, stablecoins will gain further legitimacy and integrate into the mainstream financial system.

The future of stablecoins is not without challenges. Regulatory uncertainty in major markets, exploitation by illicit actors, and issues surrounding reserve transparency persist, and if not effectively addressed, these issues could undermine market confidence and hinder broader adoption. On the other hand, stablecoins offer tremendous opportunities for financial inclusion, particularly in underserved regions, and are actively innovating payments, remittances, and trade financing by lowering costs and increasing speed. The role of stablecoins in creating new financial products and simplifying cross-border trade further illustrates their transformative potential.

With ongoing advancements in regulation and technology, stablecoins have the potential to unlock new opportunities, bridging gaps between economies and achieving greater global financial connectivity. Their continued evolution will play a central role in defining the future of cryptocurrencies and TradFi.