USDT, the stablecoin issued by Tether Holdings Ltd., isn’t the most valuable cryptocurrency or the most likely to make you rich. Tether simply promises that if you give it $1, it’ll give you a coin that will almost always be worth $1. That dull utility has made it the most widely traded digital token in crypto. It’s also become a focus of concern in the wake of the collapse of the FTX exchange, whose knock-on effects continue to reverberate throughout the sector. If USDT stumbles, the risk of broader turmoil across already troubled crypto markets could rise significantly.
1. What is USDT?
It’s a stablecoin, a category of cryptoassets that is designed to always be worth a set value, typically $1. That’s in contrast to most cryptocurrencies, which can experience big swings. Most stablecoins maintain their peg by promising to hold an equivalent value of funds in reserve as collateral to match the coins sold. For stablecoins backed by fiat currency like USDT, the majority of that collateral pile is typically held as a mix of cash and highly liquid cash equivalents.
2. What’s USDT’s appeal?
USDT is by far the biggest stablecoin, with around $65 billion in circulation at present. Its closest rival is Circle’s USDC, at a circulation of around $42 billion; meanwhile, Bitcoin and Ether are the only cryptocurrencies of any kind to top Tether by market value. Investors can use stablecoins either as an easier entry point into buying crypto, or to trade between different tokens. Their price stability makes transactions much simpler, and because there’s so much more USDT out there than anything else, using that stablecoin in particular can be easier than alternatives, because exchanges will offer more options for converting USDT into other tokens.
3. Why is it important?
USDT can be exchanged for more than 4,000 other currencies on centralized exchanges, and possibly an even greater number on decentralized ones that don’t always accept regular dollars. As a result, it’s quite hard for traders to actively engage in crypto without using USDT at some point. If USDT were to face problems that reduced its appeal or usage, that could cause a chain reaction across the entire sector and sharply crimp trading volumes.
4. What are the concerns about Tether?
The big worry is the “almost” in the statement that USDT is “almost always” worth $1. The question is whether Tether, as USDT’s issuer, really is setting aside enough in assets to keep its dollar peg secure. These questions have been raised since shortly after it was first issued in 2014, in part because the company has never released the kind of audited financial statements that normal deposit-taking banks are required to report. Investor doubts prompted the company to start issuing attestations on its reserves in 2017, currently conducted by external accounting firm BDO Italia (though the Wall Street Journal reported in mid-December that the firm was “evaluating” whether to continue its work for Tether and other crypto companies). As part of a 2021 settlement with the New York Attorney General, which included allegations that Tether lied about its reserves in the past, these attestations are now filed quarterly. That deal saw Tether and its sister crypto exchange Bitfinex fined $18.5 million, while another settlement with the Commodity Futures Trading Commission ordered Tether and Bitfinex to pay $42.5 milllion in penalties that same year. Some investigations are still ongoing, including a US Justice Department probe into whether Tether executives deceived their banking partners.
5. What’s known — and not — about Tether’s finances?
Attestations aren’t actual audits, like the kind that public companies publish annually for shareholders. That means that while Tether’s reports say it has about 82% of its reserves in cash and cash equivalents, we don’t know exactly where those assets are held, which money market funds it invests in or other details that might imply the level of risk around its collateral. For example, the proportion of Tether’s reserves that it lends out to other companies has been rising, according to the attestations — but we don’t know who’s borrowing the money, or what due diligence Tether conducted to make sure they can pay it back. Tether said on Dec. 13 that it plans to steadily reduce its secured lending activities to zero in 2023.
6. Why is that a problem?
Because USDT is supposed to always be worth $1, crypto investors have tended to treat Tether a bit like a bank — but without the deposit insurance that regular banks carry to protect their customers. If people start to feel less confident in Tether’s ability to make good on that promise during times of market stress, USDT’s peg to the dollar can erode and leave the cryptocurrency vulnerable to runs. If it’s in trouble, USDT being worth more or less than a dollar for too long would start to impact both how people trade in crypto on a regular basis, and the treasuries of the many crypto companies and projects that use USDT holdings like a regular bank balance. In 2022, several major company collapses elsewhere in crypto saw investors flee to assets that they considered to be safer — and Tether’s USDT bore the brunt of that, slipping from $83 billion in circulation at its April peak. In May when the Terra ecosystem collapsed, USDT fell to as low as 95 cents because users rushed to offload their USDT tokens for other stablecoins, or just wanted their dollars back. And when FTX was facing imminent bankruptcy in November, Tether briefly lost its peg again. Given how much anxiety investors are feeling since the FTX collapse, any erosion of confidence in USDT would likely eat away further at confidence in crypto in general.
6. What do regulators think?
Stablecoins have been a major point of concern for regulators for a while. They’ve seen what happens when institutions that are like banks but lack the same protections run into trouble. When US money-market funds couldn’t hang on to their $1-per-share price pledge during the 2008 financial crisis, the Federal Reserve had to step in to provide a bailout. Regulators are also worried because stablecoins are the main point of overlap between the buyer-beware crypto world and the institutions of traditional finance. Ultimately, they fear about what could happen if USDT grew to be systemically important in the real world without any checks and balances — an even bigger concern after one stablecoin, TerraUSD, already went bust this year.
7. What do they propose?
The Financial Stability Board, a panel of global regulators, issued a report in October calling for an approach it summarized as “same activity, same risk, same regulation,” under which stablecoins would come under the same rules as firms that conduct similar activities in the real world. Meanwhile, lawmakers in the US, the EU, the UK, Japan and others have spent a lot of time this year considering rules that would overhaul the $150 billion stablecoin sector. Regulators want a say over the types of assets that stablecoin providers like Tether can use to fill their coffers, and are expected to require more detailed disclosures on their reserves. This is something that managers of money-market funds are especially keen to see because they compete with Tether and others in buying assets like US Treasuries, which earn a small yield while also being relatively liquid.
• Bloomberg News articles on lawmakers’ concerns about the lack of stablecoin regulation and on the FSB’s crypto report.
• A QuickTake on stablecoins and the collapse of TerraUSD.
• A Bloomberg Businessweek feature on the mystery of Tether’s murky assets.
• A 2022 William & Mary Law Review article on “DeFi: Shadow Banking 2.0?”
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