Original Author: SAMUEL MCCULLOCH
Original Compilation: Deep Tide TechFlow
On the morning of August 7, 2023, payment giant PayPal announced the launch of its stablecoin PayPal USD (PYUSD). This new stablecoin will be used to connect PayPal's existing 431 million users and ultimately demonstrate their commitment to blockchain.
What is PYUSD?
PayPal's PYUSD is the first stablecoin issued by a "non-cryptocurrency" company. It represents a general shift in attitudes towards stablecoins by businesses and a belief in the future acceptance of upcoming policies.
PayPal's stablecoin PYUSD is fully backed by US dollar deposits, such as short-term US government bonds and equivalent assets. Managed by Paxos Trust Company, PYUSD can be exchanged for US dollars at a 1:1 ratio through the PayPal or Venmo app.
According to PayPal's press release:
PayPal customers who purchase PayPal USD will be able to:
Transfer PayPal USD between PayPal and compatible external wallets;
Make peer-to-peer payments with PYUSD;
Choose to use PayPal USD for purchases at checkout;
Convert any cryptocurrency supported by PayPal to PayPal USD and vice versa.
Why PayPal's announcement has a significant impact on cryptocurrency adoption
Until now, the only way to obtain payment stablecoins was through cryptocurrency companies like Tether, Coinbase, or Gemini. Now, with PayPal entering the market, millions of people will be able to enter the cryptocurrency field through one of the world's most widely used payment platforms.
The former head of Paxos portfolio management and partner at Zero Knowledge Consulting, Austin Campbell, said on Leviathan News, "One of the least developed parts of the cryptocurrency ecosystem is the actual fiat on/off ramps. From that perspective, it's hard to find a better choice than PayPal. I think the biggest innovation here is the addition of a native stablecoin on the PayPal platform."
Campbell further stated that he believes "it has been two and a half years of work" before the release of this product. Rumors about the development of a stablecoin by PayPal were already reported in 2021, and at that time, Jose Fernandez da Ponte, PayPal's Vice President and General Manager of Blockchain, Crypto, and Digital Currencies, told the media, "It's still too early." Further rumors leaked to the media confirming PayPal's plans, but in February of this year, the payment company announced the suspension of its stablecoin project, citing an investigation by the New York Department of Financial Services (NYDFS) into Paxos. Six months later, the company apparently deemed the regulatory environment calm enough to launch their stablecoin.
PayPal chose Paxos to manage and issue their stablecoin, which means it will be fully backed, have segregated funds, and regularly publish transparency reports. Furthermore, their stablecoin will be monitored by blockchain analytics companies such as Chainalysis and TRM to prevent illegal use. If criminal activities are involved, PayPal will be able to freeze the funds.
Paxos has caused regulatory concerns due to its relationship with Binance, a series of alleged violations eventually leading to the NYDFS ordering the halt of BUSD issuance and receiving a Wells notice from the U.S. Securities and Exchange Commission. The NYDFS stated that the order was "due to several unresolved issues in Paxos' supervision of its relationship with Binance."
"Pursuant to the instructions of NYDFS, Paxos will cease issuing new BUSD tokens and terminate its relationship with Binance regarding the branded stablecoin BUSD from February 21," Paxos said in a statement.
Paxos CEO Charles Cascarilla said, "The markets have changed, and our relationship with Binance no longer fits our current strategic focus."
The relationship between Binance and Paxos allowed them to mint BUSD directly from the exchange and move it to any blockchain of their choice.
The NYDFS stated, "The Department has not authorized the use of Binance-Peg BUSD on any blockchain, and Binance-Peg BUSD is not issued by Paxos."
Now, PayPal is partnering with Paxos, meaning the investigation is over and the controversial issuer can now operate freely after undergoing strict regulatory scrutiny.
PayPal Vs Meta
Although this announcement is still new, people's reaction to it is radically different from the failed stablecoin Diem developed by Meta. When Facebook first announced its entry into the market in 2021, the social network faced fierce criticism from politicians, economists, and activists in Congress.
At that time, Facebook was still reeling from the Cambridge Analytica scandal, which became a focal point of the 2020 election. The company had not yet restored its image, so the news about Diem caused a strong reaction.
Senator Elizabeth Warren strongly opposed Facebook "re-launching its cryptocurrency and digital wallet." Additionally, she and senators from D-HI, D-OH, and others wrote in a letter, "Facebook is once again pursuing its cryptocurrency plans and has launched a pilot of a payment infrastructure network, despite these plans being incompatible with the actual financial regulatory environment - not only for Diem specifically but for stablecoins as a whole."
According to Campbell, Facebook faces two problems.
First, unlike PayPal, Diem is a completely new business line for the company. Facebook is a social network used by over 2 billion people worldwide and also owns the WhatsApp and Instagram brands. Adding payment services would immediately transform Facebook into a massive quasi-bank that could overnight absorb all of its users. Legislators and regulatory bodies are concerned that Facebook will further abuse its already considerable power by utilizing the data collected from users.
This social media giant already has access to your friends list, likes, posts, direct messages, and location data, and the addition of Diem could potentially provide Facebook with unprecedented access to personal financial information. For a company whose image has already been tarnished by scandals, Diem is seen as a step too far.
The second issue is that Diem is not just a dollar-based stablecoin; the protocol also plans to issue a currency similar to Special Drawing Rights (SDR) backed by various foreign currencies such as the Euro, Yen, Australian Dollar, and Swiss Franc. Economists are highly critical of this proposal. In their view, the opportunity to obtain a basket of currencies on a global scale would undermine central banks' control over domestic currency transmission. If their citizens could easily acquire a less volatile stablecoin globally, then who would be foolish enough to buy their worthless bonds?
Diem has never escaped the regulatory dilemma. And PayPal shines.
Interest Rates Rule Everything
In 2023, every major fintech company is a quasi-bank, with a significant portion of its revenue coming from net interest income. Coinbase, Robinhood, and many others have profited greatly from rising interest rates.
Adding stablecoins to their products is enticing because it is designed like zero-coupon bonds. The stablecoin issuer can issue tokens but retain all the income earned from short-term government bonds. In a purely rational world, where unrestricted competitive markets exist, no one would have stablecoins or cash. What's the benefit of holding an asset that doesn't generate interest income? In short... none.
But we live in a world of significant regulatory barriers, sanctions, forex restrictions, domestic capital controls, and securities laws. For some, the avenues to acquire US dollars are plentiful enough. In the world of cryptocurrency, the demand for leverage has always far exceeded the demand for imported government bond returns until recently. A new paradigm has emerged with short-term rates exceeding 5% and no signs of cooling off.
So, enter Tether...
Tether is poised to earn $4 billion in net interest income this year. That is more than what BlackRock makes. It's practically "free" money for every fintech company and bank to issue their own stablecoins by issuing dollar-denominated debt.
In theory, PayPal should be able to compete with Tether and Circle with its massive user base and broader global reach. In our interview, Campbell believes that the market capitalization of PYUSD could reach $500 billion to $1 trillion within 5-10 years. At that scale, PayPal would become one of the largest holders of US government bonds, earning over $25 billion in total interest income annually.
Will PayPal Join the "Curve Wars™"?
The short answer is... no. Or rather, it depends on the jurisdiction.
In the United States and Europe, there are strict restrictions or outright prohibitions on paying interest income to the general public. If PayPal starts conducting over-the-counter transactions from Michael to bribe their liquidity pool, Gary Gensler himself will go knock on PayPal's door. In Europe, under MiCA (Market in Crypto-Assets), new stablecoin issuers will be prohibited from offering interest to "reduce the risk of crypto-assets being used as a store of value." When the government's currency issuance power is no longer a functional channel, economics will collapse.
Outside of these two continents, competitive markets will drive political entities in the Middle East and Asia to attract new holding companies with only one mission - to deliver interest. We have already seen this with Zunami Dollar (USZ), a stablecoin based in Japan that directly deposits its net interest income into the Votium liquidity pool to increase Curve's liquidity. Campbell believes that PayPal can establish operations in one of these regions as they are "highly globalized" and "do not necessarily have to do business through a US entity."
If Michael's vision is realized, Curve will become a leader in the foreign exchange market. PYUSD is just one of thousands of international stablecoin currencies in the market. Traders will need liquidity, and acquiring liquidity on Curve requires bribery. If PYUSD indeed achieves scalability, it is not so absurd for non-US PayPal subsidiaries to enter the Curve war.
Threat to Banks
The current form of payment stablecoins poses a threat to the inherent leverage lending model of banks. After the bankruptcy of Silicon Valley Bank, depositors were forced to reassess the business model supporting their savings. If companies like PayPal offer stablecoins that can be used in DeFi, why keep funds in banks apart from FDIC insurance and a range of regulations?
When I convert dollars into PYUSD, I can check every month the exact amount of all investments and holdings supporting my stablecoin. And Paxos only holds cash and short-term government bonds, without exposure to long-term bonds, which was the reason behind the collapse of Silicon Valley Bank.
Campbell says, "If I'm going to use a debit card, I'd also participate in commercial real estate loans. People don't think of it this way, but when you hand your money to a bank, that's how they use your money. They lend it out."
With the U.S. Securities and Exchange Commission (SEC) and Elizabeth Warren doing their best to hinder bank growth, JPMorgan will be the last institution to obtain regulatory approval to issue stablecoins. As retail depositors move savings from banks to DeFi, bank deposits face a threat.
If financial technology companies are allowed to operate in their current way, structural changes are inevitable. Campbell said, "If this model continues to spread, what I want to clarify is that I think banks should face a survival question: What is our financing model like? What is the true cost of borrowing, and how should we build this model? Because as we discovered in 2008, we may have been too inclined to lend at all costs, possibly because we forced all deposits to be lent out in a risky manner, regardless of whether people wanted to do so."
Stablecoins are gathering momentum
PayPal's entry into the market is just the beginning. It is reported that more major payment and credit companies, such as Visa, Mastercard, and Square, have been exploring incorporating stablecoins into their product lines. Today's announcement will give the green light to rival products. While PayPal is taking the lead, its competitors will closely monitor the market and Washington's reaction.
If there are no major objections and PayPal's stablecoin develops, these tech companies will accelerate their entry and mark a new monetary system. Congress has yet to pass a unified stablecoin bill, and this moment could be a catalyst to compel Washington to end the stalemate over the long-awaited stablecoin legislation.Once a clear conclusion is reached, the industry may usher in a "spring of stablecoins," unlocking capital efficiency off-chain, while injecting liquidity on-chain.
