Issue 118

Tether as a disruptor

Delivered on 28 June 2021 by Justin Pyvis. About a 2 min read.

Eric Rosengren, President of the Federal Reserve Bank of Boston, last week singled out Tether – a so-called stablecoin pegged 1:1 to the US dollar – as posing "financial stability challenges":

The reason I talked about Tether and stablecoins is if you look at their portfolio, it basically looks like a portfolio of a prime money market fund but maybe riskier... [it] has a number of assets that, during the pandemic, the spread got quite wide on those assets.
I do think we need to think more broadly about what could disrupt short term credit markets over time, and certainly stablecoins are one element. I do worry that the stablecoin market that is currently, pretty much unregulated as it grows and becomes a more important sector of our economy, that we need to take seriously what happens when people run from these type of instruments very quickly.

Created in 2014, Tether's primary function is to provide liquidity to cryptocurrency exchanges and facilitate decentralised finance – 'DeFi'. According to asset manager NYDIG and cited by JPMorgan, around 50%-60% of bitcoin has traded for USDT ('tether') since 2019. It has a market cap of approximately $US62.5 billion, which would rank it in the mid-30s in terms of the world's largest banks by market capitalisation (somewhere between the National Australia Bank and the Australia and New Zealand Banking Group), but hasn't produced a single independent audit. Its balance sheet is essentially a black box – 'trust us'.

The only information anyone has about Tether (outside of its 11 employees – not a typo!) is what is published on its website. Again, it's all completely unaudited.

Tether's asset breakdown.

As usual with these sorts of things, caveat emptor applies: buyer beware! Even if Tether's disclosures are true (and it hasn't engaging in fractional-reserve banking to manipulate crypto prices, as some speculate), that would still mean 49.6% of its assets are in "commercial paper", with just 3.87% in cash.

That leaves Tether very exposed to market gyrations – what happens if there's a corporate bond crisis in the US, prices tank and people try to redeem their tether at the same time? Simple: Tether becomes insolvent and implodes, much like Bernie Madoff's infamous 20-year Ponzi scheme only unravelled during the global market downturn in 2008.

But the issues with Tether don't apply to all stablecoins. Circle's USD Coin ('USDC'), for example, is fully backed by US fiat and is publicly audited by accounting firm Grant Thornton every month. It has been snatching market share from Tether as doubts about the latter's solvency have grown, especially after the state of New York found it guilty of "overstating reserves [and] hiding approximately $850 million in losses around the globe".

If Tether is indeed some kind of Ponzi scheme, it will eventually blow up. Will it disrupt the broader crypto market? Absolutely. But it's unlikely to pose "financial stability challenges".

However, what is clear is that cryptocurrencies and so-called stablecoins in particular will be facing increased regulatory scrutiny in the coming months. And that's a good thing, provided it's done right – in the long run, a more mature, open and robust crypto market will only help it grow.

Issue 118: Tether as a disruptor was compiled by Justin Pyvis and delivered on 28 June 2021.