Writer: Sean Stein Smith, DBA, CPA, as originally published with Forbes.com
Asset backed cryptoassets continue to make headlines but understanding the differences between the options that exist is essential for wider adoption. Much has been written and discussed about the potential of cryptocurrencies to revolutionize financial markets and transactions, but price volatility still poses a substantive headwind to broader utilization.
In response to that, the blockchain and cryptoasset ecosystem has organically developed alternatives and options that include an array of new cryptocurrencies that are connected or supported by external assets. While the goal of these new iterations, be they stablecoins or central bank digital currencies (CBDCs), are the same (wider use of cryptocurrencies as currencies), the mechanics of how these cryptoassets operate can vary significantly. Whichever specific cryptoasset achieves mainstream adoption and use by individuals and institutions, understanding the differences between different crypto types is critical, especially considering just how rapidly the asset-backed-cryptoasset space has expanded. Let’s take a look at how, while superficially similar, stablecoins and central bank digital currencies are actually quite different.
Private versus government money. The most obvious difference between stablecoins and CBDCs is the fact that stablecoins are, in essence, a form of private money. Although they may be connected or linked to an external asset, stablecoins do seem to represent the current state of private money versus governmental issued currency. Even if a stablecoin is pegged on a one-to-one basis to the USD, for example, these cryptoassets are issued by a private entity, and not a governmental body. CBDCs, conversely, are a merger of existing fiat issuance processes with blockchain technology. In other words, CBDCs are an evolution of existing fiat options whereas stablecoins are a competing form of privately issued currency.
Framed in this context, the evolution of cryptocurrencies – from decentralized ones such as bitcoin, to stablecoins, to CBDCs – should be seen as a natural development and convergence as incumbents seek to capture the benefits of blockchain.
Details can vary. One of the most common misconceptions surrounding stablecoins is that every single option operates the exact same way. Without getting overly technical in nature, the redeemability and exchangeability of stablecoins can vary, and can impact the usability of stablecoins as a legitimate medium of exchange. For example, if a stablecoin is backed by gold, what does this actually mean? Are these cryptoassets able to be exchanged for physical gold bullion or coins, or are they only able to be exchanged for some sort representation of gold, such as a gold exchange-traded fund (ETF)?
CBDCs, contrarily, are the direct representation of existing fiat currency, and so – in theory – should be treated, accounted for, and handled the same as currency units. With all of the projects underway across the globe, however, there is no guarantee that every CBDC will operate in a similar manner.
Currency versus currency hedge. Perhaps most interestingly is the difference that exists in the underlying goal of these different cryptoassets. Stablecoins might seem to represent a next step in the evolution of fiat but are still designed as an alternative to these options. Bitcoin generates headlines on an almost daily basis due to its price volatility but is still thought of by some as an inflation hedge, or protection against currency devaluations. Even if a stablecoin is supported by an existing currency, the embedding of blockchain and cryptoasset technology into this financial instrument does create a similarity to decentralized crypto.
CBDCs are a direct representation of the fiat currency they are seeking to replace or augment, and so will be subject to the same vagaries that are connected to existing options. This might seem like a direct opposite of what bitcoin was supposed to represent, a decentralized and distributed form of money versus centrally controlled and issued crypto but may in fact be a viable pathway to generating mass utilization.
Regardless of the specific iteration of cryptocurrency, asset-backed-coins, or some hybrid between existing fiat and blockchain technology, the direction of the ecosystem is clear. Cryptocurrencies were designed and are being refined to serve as a replacement for existing currency units, but the eventual path forward might be closer to a collaboration than might otherwise be expected.
Stablecoins and CBDCs are, in both cases, a hybrid or halfway point between bitcoin and the current reality of fiat currencies and have the same objective of facilitating wider adoption. Understanding the differences between these two options, which run deeper than they might initially appear, is an integral component of achieving the mass adoption these crypto iterations are seeking to accomplish.