Stablecoins like Tether are being accused of printing money out of thin air — is it true?

Want to hear something scary? Around 40% of US dollars in existence were printed within the last 24 months.

Governments around the world have been accused of simply printing money out of thin air to address rising deficits incurred during the pandemic. There are real concerns that this influx of cash could lead to runaway inflation, undermine confidence in the economy, and ultimately be disastrous.

If that sounds bad, I’ve got even worse news for you. It looks like some cryptocurrency companies might be printing money of their own. Stablecoin companies like Tether and Circle have been accused of printing money out of thin air.

Is this true? And if it is, does it even matter?

How Do Stablecoins Work?

A stablecoin is a coin that is linked to a single asset, typically a fiat currency like the US dollar. This backing is designed to provide a level of stability that normal cryptocurrencies like Bitcoin can’t provide as well as making it easier to convert fiat into cryptocurrency and vice versa.

In an ideal world, how this works is fairly simple. I take $10,000 and give it to Tether Limited. Tether then takes that $10,000 and holds it in trust — either in a bank account or as part of their operations — and gives me $10,000 USDT in exchange. The implication here is that I can convert that USDT to fiat money again and exit the cryptocurrency market.

This fungibility has obvious value. It removes the need for investors to time the market and makes it far easier to liquidate their funds. It’s also possible for exchanges to more easily convert fiat to cryptocurrency and essentially ensures that the cryptocurrency market is liquid.

Theoretically, a stablecoin company is only able to “print” this money if they have the assets to back it up, which means that they can’t make money out of thin air.

But what if they could?

Why Would a Stablecoin Print Money?

Currently, there is $76 billion in USDT in circulation. If that seems like a big number, that’s because it is. That number is so large that it would make Tether the 42nd largest bank in the United States by total asset value. With its 28 employees, Tether is almost certainly the most valuable company in the world by employee (each employee equates to $2.71 billion.).

The point is that Tether has a lot of money.

Even if its asset value doesn’t raise some eyebrows, this next fact probably will: Tether recently minted over $3 billion USDT over just two weeks.

So, either Tether has experienced an enormous injection of capital in a very short time — or they’re minting Tether without any assets backing it.

Tether Has An Incredibly Shady History

Normally, determining the assets behind a company of this size would not be difficult, but Tether is not a regulated company. It is also not a decentralized blockchain solution.

This lack of oversight means that no one can verify exactly how many assets are backing USDT at any given moment. Indeed, Tether Limited has had some fairly high-profile arguments with the US government on exactly this point.

In October 2021, the company was forced to settle a lawsuit to the tune of $41 million over accusations that it lied to investors when it claimed that USDT was backed 1:1 with USD. The court found that between 2016 and 2018, Tether only had sufficient fiat reserves to account for 27.6% of all USDT tokens in circulation.

The same case also found that Tether transferred some of its reserve funds to Bitfinex to help the exchange deal with a “liquidity crisis.”

Unfortunately, things have not improved since 2018. In December 2021, Tether released an assurance stating that as of September 31, Tether held assets amounting to $69,156,771,674, roughly broken down as:

• $30.6 billion in commercial paper
• $30.6 billion in commercial paper
• $7.2B in cash
• $3.8B in “other investments” including crypto
• $3.6B in corporate bonds.
• $3.5B in secured loans to non-affiliated entities
• Nearly $1B in money market funds

There are two immediate problems here. The first is that this is an assertion, not an audit. Although the company is legally obligated to be truthful, without a true third-party audit we are still taking what they say on trust.

However, if we assume that Tether is still being truthful, it means that they only have around $7.2 billion in liquid assets available to them at any one time. That could be a ticking time bomb.

Tether Might Not Be Able to Handle a “Run on the Bank”

One key concern surrounding Tether is that we don’t know where their commercial paper is based. We do know, from previous reports, that a fairly sizable amount of it is invested in Chinese companies like Evergrande. Although Tether has repeatedly denied having investments in Evergrande, they have yet to comment whether they have investments in other Chinese property companies.

Scenario: What If Evergrande Goes Under?
So let’s take the not-unreasonable scenario that Evergrande goes under and takes some of Tether’s investors with it. Tether has suddenly lost a fair chunk of that $30.6 billion supposedly backing USDT.

In isolation, this might be okay, but what if the markets get shaky? Maybe a lot of investors decide that it’s time to get out of cryptocurrency and move to safe-haven assets.
At that point, Tether has a problem.

If Tether holders decide to redeem more than $7.2 billion of their USDT, Tether will need to begin liquidating its existing assets to meet demand. If the markets are bad, Tether may well be forced to liquidate those assets at a discount, further compounding their dilemma.

At the same time, Tether’s woes will increase the demand for purchasing USD. This will not only increase the price of USD but will likely tip-off savvy investors that something is wrong, resulting in more people attempting to redeem their Tether.

This scenario would not only be devastating for the cryptocurrency market, it could also spill over into the currency market more generally. Governments are naturally becoming a little concerned and regulation of Tether appears to be coming in short order.

Stablecoins Are Becoming a Key Target Of Government Regulations

The sheer size of Tether means that governments have been forced to come up with a more comprehensive approach to cryptocurrencies. The United States took its first steps in November with a Treasury Department report on stablecoins.

The report recommends that US legislators impose or authorize a regulatory framework for stablecoins that is more in line with the regulations that banks and other financial service providers need to comply with. This type of regulation would compel companies like Tether to be far more transparent about the assets they hold and force them to keep a minimum amount of liquid capital on hand to deal with a potential crisis.

Other organizations, specifically the European Union, have already gone a step further and laid out detailed plans for how they plan to deal with stablecoins moving forward. In November, the European Council published a 405-page proposal on Regulation on Markets in Crypto Assets (MiCA).

The regulation targets stablecoins by requiring the companies that operate behind them to obtain licenses to operate as “credit institutions and e-money institutions” in an EU member state.

The proposed set of regulations establishes rules for the issuers of crypto-assets — like foundations, developers, and companies behind crypto coins — as well as crypto-asset service providers, such as exchanges and custodians. On the one hand, this will make it easier for stablecoins to operate legally within the European Union. On the other hand, it will make it difficult for organizations without a transparent reporting process to gain a license to operate within the bloc.

While it will take some time for these regulations to come into effect, they could pose an existential crisis for Tether.

What Tether Alternatives Are There?

The most commonly-cited example of an alternative to Tether is USDC, controlled by Circle Corp. However, USDC also has many of the same challenges that Tether does. That being said, Circle is currently exploring going public to gain the funds to become a fully registered financial services provider.

One of the better alternatives in this space is TUSD, also known as TrueUSD, launched and operated by the TrustToken platform. The key difference between TUSD and Tether is a focus on transparency. The whole redemption process is governed by smart contracts. When a user purchases TUSD through the TrustToken platform, a smart contract mints 1 TUSD — and when they redeem it, a smart contract burns that token, removing it from circulation.

Unlike Tether, all fiat capital held by TrustToken is held in escrow and insured according to US standards. The company is licensed and regulated to operate in the United States and undergoes regular audits to ensure that it can prove it is fully collateralized.

Decentralized Stablecoins Like DAI
Another proposed solution is to use a decentralized stablecoin, such as Dai (DAI). Just like TrustToken DAI uses smart contracts, but the similarities end there. DAI doesn’t rely on holding USD 1:1 to maintain a stable value. Instead, it uses an automated series of smart contracts, governed by a decentralized autonomous organization called MakerDAO.

To obtain DAI, a user needs to deposit Ether, or any other cryptocurrency accepted as collateral. They can then use this balance to obtain DAI that they can borrow or spend. Users obtain this money via an over-collateralized loan with a ratio of around 150%. In other words, you need to deposit $150 Ether to obtain 100 DAI.

This collateralization helps protect DAI users from sudden volatility. If the underlying collateral drops below the designated ratio, the loan can be liquidated by the smart contract. If it increases, then more DAI can be borrowed.

In short: DAI is backed by the underlying collateral of crypto assets in the platform. The smart contracts and interest rates are automatically adjusted in real-time. This system controls the amount of DAI in circulation which helps to maintain the value of the cryptocurrency at approximately $1.

The main question mark over DAI is whether it would be allowed to operate in the EU in its current form. The regulation is broad enough to cover DAI — and other DeFi stablecoins — but the EU has not clarified whether non-custodial solutions will be included in any new regulations.

Stablecoins Still Represent Crypto’s Biggest Failure Point

Thankfully, these regulations will take a bit of time to come into force which means that we are unlikely to see a Tether apocalypse in the near future. However, this doesn’t mean that investors shouldn’t be worried about Tether and other unregulated stablecoins printing money out of thin air.

Investors should think seriously about their new exit strategy from the crypto space. I would suggest relying on regulated solutions such as TUSD, which are more likely to be accepted under new regulatory norms.