The Economist: The explosion of Crypto Assets will fundamentally change finance

Compiled by: Liam

In the eyes of those conservative individuals on Wall Street, the "use cases" of cryptocurrencies are often discussed with a tone of ridicule. Veterans have long witnessed all this. Digital assets come and go, often in the limelight, exciting those investors keen on memecoins and NFTs. Besides being used as tools for speculation and financial crime, their utility in other areas has repeatedly been found to have flaws and shortcomings.

However, the latest wave of enthusiasm is different. On July 18, President Donald Trump signed the Stablecoin Act (GENIUS Act), providing the long-desired regulatory certainty for stablecoins (cryptographic tokens backed by traditional assets, usually the dollar). The industry is in a period of robust growth; Wall Street professionals are now scrambling to get involved. "Tokenization" is also on the rise: on-chain asset trading volumes are rapidly increasing, including stocks, money market funds, and even private equity and debt.

As with any revolution, the revolutionaries are ecstatic while the conservatives are anxious. Vlad Tenev, the CEO of digital asset broker Robinhood, stated that this new technology could "lay the foundation for cryptocurrencies to become a pillar of the global financial system." European Central Bank President Christine Lagarde has a slightly different view. She is concerned that the emergence of stablecoins is tantamount to "the privatization of money."

Both parties are aware of the scale of the transformation at hand. Currently, the mainstream market may face more disruptive changes than the early speculation in cryptocurrencies. Bitcoin and other cryptocurrencies promise to become digital gold, while tokens are merely packaging or vessels representing other assets. This may not sound remarkable, but some of the most transformative innovations in modern finance have indeed changed the way assets are packaged, sliced, and restructured—Exchange Traded Funds ( ETF ), Eurodollars, and securitized debt are typical use cases.

Currently, the circulating stablecoin value is $263 billion, an increase of about 60% compared to a year ago. Standard Chartered Bank expects the market value to reach $2 trillion in three years. Last month, JPMorgan Chase, the largest bank in the U.S., announced plans to launch a stablecoin product called JPMorgan Deposit Token (JPMD), despite CEO Jamie Dimon's long-standing skepticism towards cryptocurrencies. The market value of tokenized assets is only $25 billion, but it has more than doubled in the past year. On June 30, Robinhood launched over 200 new tokens for European investors, allowing them to trade U.S. stocks and ETFs outside regular trading hours.

Stablecoins make transaction costs low and fast and convenient because ownership is instantly recorded on the digital ledger, thus eliminating the intermediaries that operate traditional payment channels. This is particularly valuable for current costly and slow cross-border transactions. Although stablecoins currently account for less than 1% of global financial transactions, the GENIUS Act will provide support for them. The act confirms that stablecoins are not securities and requires that stablecoins must be fully backed by safe, liquid assets. Reports indicate that retail giants, including Amazon and Walmart, are considering launching their own stablecoins. For consumers, these stablecoins may be similar to gift cards, providing a balance for spending at retailers, and prices may be lower. This will eliminate companies like MasterCard and Visa, which facilitate a profit margin of about 2% on sales in the U.S.

Tokenized assets are digital copies of another asset, whether it's funds, company stocks, or a basket of goods. Like stablecoins, they can make financial transactions faster and easier, especially when it comes to trading illiquid assets. Some products are just gimmicks. Why tokenize stocks? Doing so may allow for 24-hour trading, since the exchanges where stocks are listed do not need to be open, but the advantages of this approach are questionable. Moreover, for many retail investors, the marginal trading costs are already very low, if not zero.

Effort Tokenization

However, many products are not that fancy. Taking money market funds as an example, they invest in treasury bills. The tokenized version can also serve as a payment method. These tokens are backed by secure assets just like stablecoins and can be seamlessly exchanged on the blockchain. They also represent an investment that outperforms bank interest rates. The average interest rate for U.S. savings accounts is less than 0.6%; many money market funds yield up to 4%. BlackRock's largest tokenized money market fund is currently valued at over $2 billion. "I expect that one day, tokenized funds will be as familiar to investors as ETFs," said the company's CEO Larry Fink in a recent letter to investors.

This will have a disruptive impact on existing financial institutions. Banks may be trying to venture into new digital packaging areas, but part of the reason they are doing this is because they realize that tokens pose a threat. The combination of stablecoins and tokenized money market funds could ultimately reduce the attractiveness of bank deposits. The American Bankers Association points out that if banks lose about 10% of their $19 trillion retail deposits (the cheapest source of financing), their average financing cost will rise from 2.03% to 2.27%. Although the total deposits, including commercial accounts, will not decrease, bank profit margins will be squeezed.

These new assets may also have a disruptive impact on the broader financial system. For example, holders of Robinhood's new stock tokens do not actually own the underlying stocks. Technically, they own a derivative that tracks the asset's value (including any dividends paid by the company), rather than the stock itself. As a result, they cannot exercise the voting rights typically granted by stock ownership. If the token issuer goes bankrupt, holders will be in trouble and need to compete with other creditors of the failed company for ownership of the underlying assets. Earlier this month, the fintech startup Linqto, which had issued private company stocks through special purpose vehicles, also faced a similar situation. Buyers are now unclear whether they own the assets they believe they own.

This is one of the biggest opportunities for tokenization, but it also presents the greatest challenges for regulators. Pairing illiquid private assets with easily tradable tokens opens up a closed market for millions of retail investors who have trillions of dollars available for allocation. They can purchase shares in the most exciting private companies that are currently out of reach. This raises questions. The influence of agencies like the U.S. Securities and Exchange Commission ( SEC ) on public companies far exceeds their influence on private companies, which is why the former is suitable for retail investment. Tokens representing private shares could turn what was once private equity into assets that can be traded as easily as ETFs. However, ETF issuers promise to provide intraday liquidity by trading the underlying assets, while token providers do not provide such assurances. At a large enough scale, tokens could effectively turn private companies into public companies without the usual disclosure requirements.

Even regulatory agencies that support cryptocurrencies want to draw a line. U.S. Securities and Exchange Commission (SEC) Commissioner Hester Peirce, known for her friendly attitude towards digital currencies, emphasized in a statement on July 9 that tokens should not be used to circumvent securities laws. "Tokenized securities are still securities," she wrote. Therefore, companies issuing securities must comply with information disclosure rules, regardless of whether the securities are wrapped in new cryptocurrency. While this makes theoretical sense, the large number of new assets with novel structures means that regulators will practically be in an endless state of catch-up.

Therefore, there is a paradox. If stablecoins are really useful, they will also truly be disruptive. The greater the appeal of tokenized assets to brokers, clients, investors, merchants, and other financial companies, the more they can change finance, and this change is both exciting and concerning. Regardless of the balance between the two, one thing is clear: the view that cryptocurrencies have not yet produced any noteworthy innovations has long since become a thing of the past.