Development History and Future Outlook of Stablecoins

Stablecoins, as an innovative payment method, simplify the way value is transferred and build a market that runs parallel to the traditional financial system, with annual transaction volumes even surpassing major payment networks. Despite millions of people using stablecoins and trading trillions of dollars, the definition and understanding of stablecoins remain vague.

A stablecoin is a medium of value storage and exchange, usually pegged to the US dollar. Although it has only developed over the past 5 years, its evolution path is worth learning from: from under-collateralization to over-collateralization, from centralized to decentralized. This helps to understand the technical structure of stablecoins and eliminates market misunderstandings.

To understand the limitations and scalability of stablecoin design, one can draw inspiration from the history of banking development. Stablecoins may replicate the development path of the banking industry, starting with simple deposits and notes, gradually achieving complex credit to expand the money supply.

The Development History of Stablecoins

Since 2018, the development of stablecoins has shown which patterns are viable and which are not. Early users mainly used fiat-backed stablecoins for transfers and savings. Decentralized over-collateralized lending protocols, while useful and reliable, have limited actual demand. Users clearly prefer stablecoins pegged to the US dollar.

Some types of stablecoins have already failed, such as decentralized, low-collateral stablecoins. Other types, such as yield-bearing stablecoins, remain to be observed, facing user experience and regulatory hurdles.

Based on the success of stablecoins, other USD-pegged tokens have emerged, such as strategy-backed synthetic USD. This is an emerging product category that has not yet reached the security standards of fiat-backed stablecoins and is primarily adopted by DeFi users to obtain higher yields.

Fiat-backed stablecoins are rapidly gaining popularity due to their simplicity, security, and account for over 94% of the total supply of stablecoins. Asset-backed stablecoins are relatively lagging but hold the largest share of deposits in the traditional banking system.

The Future of Stablecoins from the Perspective of the Development of the American Banking Industry

The development history of the American banking industry is very helpful in understanding stablecoins. Before the Federal Reserve Act of 1913, different forms of currency had varying risk levels and actual values. The value differences of banknotes, deposits, and checks varied greatly depending on the issuer, the difficulty of redemption, and the credibility.

It was not until the promulgation of the Federal Reserve Act in 1913 that the value of the US dollar began to stabilize. Today, banks balance profitability and risk by investing deposits. Credit is an important means for banks to increase money supply and capital efficiency.

Stablecoins provide users with an experience similar to bank deposits and notes, but in a self-custodial form. The development path of stablecoins may start with simple deposits and notes, and as decentralized lending protocols mature, asset-backed stablecoins will become increasingly popular.

Three Main Types of Stablecoins

1. Fiat-backed stablecoin

Fiat-backed stablecoins are similar to 19th-century American banknotes, which are tokens that can be directly exchanged for fiat currency. Users are increasingly trusting that high-quality stablecoins can be reliably exchanged through exchanges.

Currently, the legally supported stablecoins account for over 94% of the total supply. To increase trust, issuers accept audits and obtain relevant licenses. Verifiable reserve proof and decentralized issuance are possible development directions for the future.

2. Asset-backed stablecoin

Asset-backed stablecoins mimic the way banks create money through credit, and are a product of on-chain lending protocols. They are supported by highly liquid collateral on-chain, similar to how banks create new funds through complex lending systems.

Currently, the proportion of asset-backed stablecoins is relatively small, but as economic activities shift to the blockchain, it is expected that this proportion will increase. Users can evaluate these types of stablecoins based on standards such as governance transparency, collateral asset quality, and smart contract security.

3. Strategy-supported Synthetic Dollar

This type of token combines collateral and investment strategies and should not be considered a stablecoin. They are usually centralized, under-collateralized tokens with attributes of financial derivatives, more similar to hedge fund shares.

Strategy-supported synthetic dollars may be based on various strategies, such as basis trading or participating in yield-generating protocols. Users should fully understand their risks and mechanisms before use. Regulators have taken enforcement actions against similar "stablecoins."

Outlook

Stablecoins have become the cheapest remittance method and are expected to reshape the payment industry. The number of asset-backed stablecoins is expected to increase in the future, DeFi will continue to develop, creating more strategy-supported synthetic dollars for investors, while improving the quality and quantity of asset-backed stablecoins.

Stablecoins provide startups with the opportunity to build on a frictionless, low-cost new payment platform. As technology and regulation evolve, stablecoins will play an increasingly important role in the global financial system.