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Blockchains are becoming dollarized: Now what?

The advantage of stablecoins lies in their ability to generate demand for the blockchain, thereby facilitating the payment of mining fees essential for security.

It is increasingly evident that stablecoins have become the primary method of settling transactions on public blockchains, sidelining native cryptoassets such as Bitcoin and Ether. This deviates from the original intentions of blockchain architects and their respective communities.

On-chain data supports this shift, revealing that stablecoins constitute around 10% of the total crypto market cap, yet they contribute to approximately 70%-80% of the transactional value settled on blockchains. This information was presented by Nic Carter at Token2049, a cryptocurrency event sponsored by our company.

While traditional metrics indicate a stagnation of interest and usage in major crypto use cases, stablecoin usage continues to thrive. The value settled by stablecoins has remained relatively stable throughout the past two years of the bear market, with a continuous growth in monthly active transacting users.

Data compiled by Brevan Howard Digital indicates a rising trend in weekly active addresses for USDT and USDC, primarily on blockchains like Tron and BSC. The weekly transaction count for major stablecoins is approaching an all-time high. Ethereum Layer 2 solutions, including Arbitrum, Polygon, and Optimism, are also gaining popularity as venues for stablecoin settlements.

Tron has emerged as a strong competitor to Ethereum in terms of the value settled, especially with Tether on Tron becoming the most widely used digital asset globally, particularly in emerging markets.

Conversely, the usage of native cryptoassets like Bitcoin and ETH seems to be declining, even as their prices recover. Current narratives around Bitcoin and Ether revolve more around the emergence of financial products like ETFs or staking in the case of ETH, rather than the actual usage of these blockchains.

The ascendancy of stablecoins challenges long-held beliefs among cryptocurrency enthusiasts, who anticipated that native tokens would become major mediums of exchange. While there is demand for Bitcoin and Ethereum as stores of value, the expectation that these assets would serve as means of exchange and units of account is being questioned as on-chain transactions in tokenized dollars become more prevalent.

One possible explanation for this shift is the practical considerations in certain regions, such as the U.S., where transacting in USD terms may have favorable tax implications. Using volatile crypto assets can trigger taxable events, incurring capital gains for users. Additionally, users may prefer stablecoins to avoid unnecessary volatility, especially in cross-border transactions.

This raises the question: Are stablecoins acting as parasitic free riders, benefiting from blockchain security without contributing back? Some Bitcoin advocates believe so, discouraging stablecoin usage on Bitcoin. However, Lightning, proposed as an alternative, has seen limited adoption, with a Total Value Locked (TVL) of only $150 million compared to a $125 billion market cap for stablecoins.

Changes may be on the horizon, though. Lightning Labs introduced the Taproot Assets protocol, allowing efficient issuance of assets, including stablecoins, on Bitcoin. While Bitcoin has historically resisted stablecoins, this move could open doors for their re-entry, albeit with the need to establish liquidity, tooling, and network effects from scratch.

In contrast, Ethereum's leadership recognized early on that non-native assets would dominate transactional demand. Through EIP-1559, they established a system where transactions, even for non-native assets, result in the direct burning of Ether, aligning interests between Ether and the Ethereum blockchain.

Ethereum's move towards staking has further created positive incentives around the asset. It's now possible to build stablecoins tracking the dollar entirely based on staked-Ether collateral. Thus, the rise of stablecoins, while marginalizing Ether as a medium of exchange, doesn't necessarily harm Ethereum.

However, Ethereum faces the risk of a 'race to the bottom' as stablecoins circulate on various blockchains. End users may prioritize fees over the blockchain used. Tron and Solana have seen significant growth in stablecoin usage due to low fees, presenting challenges in aligning stablecoin usage with their native token values.

Visa Crypto's endorsement of Solana as their preferred blockchain for stablecoins highlights this trend. While more blockchains may follow Ethereum's example to convert usage of non-native assets into value accrual for the native token, the potential for stablecoin users to remain fee-sensitive and switch to low-fee blockchains raises uncertainties. In such cases, the best hope for these blockchains may be to issue stablecoins against their native tokens, similar to staked Ether.

In conclusion, stablecoins have emerged as major financial rails, rivaling traditional financial settlement networks. They contribute to financial inclusion and offer protection from inflation. However, whether they are ultimately beneficial for blockchains themselves remains an open question.

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