Skepticism and digital currency have gone hand in hand since “Satoshi Nakamoto” first published the white paper that created Bitcoin in 2009. Controversy continues to follow digital currency in its multiple forms and concepts, and vested interests on all sides influence the ongoing debate.
But at the same time a surging torrent of interest is pulling digital currency further into the mainstream. 2022 could be the year that digital currencies begin to function more frequently in the U.S. as a payments instrument, rather than in the role of a store of value, or as a form of investment.
Keep Your Eyes on PayPal’s Crypto Efforts
Market forces are exerting the most influence in this area versus official policy moves on the regulatory and legislative front. A good example is the payments behemoth PayPal.
In January 2022 the company acknowledged in a statement to Bloomberg News that it is exploring a “stablecoin” of its own. This “PayPal coin” — a working name at this point — would likely be housed in its app to be used as a payments-oriented digital currency. Stablecoins are privately issued digital currencies whose values are pegged to actual “fiat” currency and which are ostensibly backed by some form of reserves in that currency or related instruments. Thus far they are chiefly used to orchestrate trading, lending and borrowing of other digital assets, but proponents want to turn stablecoins into a payments option for consumers and businesses.
Crypto in Your Wallet?
A PayPal stablecoin is especially notable because PayPal is already involved in digital currency. Its app permits purchase and holding of multiple cryptocurrencies. At the point of sale consumers can use the app to liquidate sufficient crypto to make their purchase in fiat currency.
PayPal users must pay fees to purchase crypto for this wallet and must also pay to sell. This by itself is a lucrative business for PayPal and competitors such as Coinbase and many other crypto wallets, made possible partially because buyers are locked into their wallet. To move to another platform, at present, you have to sell your holdings and purchase crypto assets anew on the new provider’s platform, points out veteran payments analyst Richard Crone of Crone Consulting.
Banks and credit unions looking at this business “have to understand that this is the ultimate loyalty play,” says Crone. The fee income is hefty, “and the reason they can do this is that it is a greenfield, unregulated market,” he adds.
Adoption of a dedicated payment stablecoin would be one way to create a smoother setup for turning digital currency into a payments instrument.
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Fast-growing crypto player NYDIG works with banks and credit unions as well as other concerns to build Bitcoin-based solutions. Thus far, in the U.S., Bitcoin has mainly served as a store of value, versus, say, El Salvador, which has adopted Bitcoin as legal tender, according to Patrick Sells, NYDIG’s Chief Innovation Officer. Right now, he says, a consumer would no more regard their Bitcoin holdings as a direct payment vehicle than someone who owned a gold bar would bring it in to a car dealer to buy an SUV.
“However, being able to use the Bitcoin network as a mode of payment is something that I think is coming,” says Sells. At present Bitcoin most closely resembles a security, and much like a security, to spend the value, you would first have to sell it and then use the proceeds.
Sells notes that this sets Bitcoin, and other crypto, apart from other forms of digital currency. Stablecoins, as defined earlier, aren’t intended as commodities but as a medium of exchange. Likewise, government-issued “central bank digital currencies,” or CBDCs, are intended as the digital equivalent of cash — not a payment instruction, but actual funds.
“99% of the money you or I made or spent last year was never more than pixels on our phones to us, so we lived with a digital dollar. However, underneath those pixels remains a very expensive and complicated system of trucks and vaults.”
— Patrick Sells, NYDIG
Digital currency payments envisions a point where “we could actually have money move like technology,” says Sells.
There is a sense that in the crypto space ideas are moving from a development holding pattern into the “real world.” A report from Visa, The Crypto Phenomenon: Consumer Attitudes & Usage, states that: “The hype and headlines have made their impact — we see almost universal awareness of cryptocurrency at 94% globally among adults with discretion over their household finances. Crypto is moving from a niche asset class for a small community of investors to a broader market increasingly accessible for mainstream and new adopters.”
A growing number of payment processors and tech firms have been building bridges for banks and credit unions to enable them to get into aspects of crypto.
Let’s look at the status of each of these three forms of digital currency, beginning with a look at what appeals to people about owning nontraditional financial assets.
The Attraction to Cryptocurrency
Why do people decide that investing in cryptocurrency is a good use of their money?
“FOMO,” says Richard Crone — the fear of missing out. (For providers, he adds, the attraction is all those fees.)
People see crypto as an opportunity for wealth creation, and in a form that has become relatively easy to trade.
“I think at some point trying to ride an elevator to the moon is part of what’s motivating people, particularly in recent years,” says Jonah Crane, Partner at Klaros Group, a financial services and fintech advisory and investment firm based in Washington, D.C. During the 2020 winter holidays, Crane says, he attended a holiday party for crypto market players and one of the signature cocktails being served was dubbed “To the Moon.”
“Crypto has no more practical utility than gold,” says Crane. “But the old thesis that Bitcoin is digital gold does seem to have caught on with a lot of folks.”
There’s also been an education curve. NYDIG’s Sells believes 2021 saw many consumers come up to speed on the education side, and that 2022 will see many more push along into the last mile of implementation, especially with Bitcoin.
Thus far, only about one out of five consumers in Visa’s overall sample say they are interested in using cryptocurrency as a means to buy goods and services. However, about half of those consumers have strong interest in crypto-linked cards that would convert crypto holdings to fiat currency for purchases. In addition, among “active owners,” four out of five are interested in crypto cards and one in ten actually have a crypto card of some kind already. About as many of the active owners would also be interested in rewards cards that pay off in crypto rather than cash, miles or other typical rewards.
“For many owners,” the report states, “a crypto-linked card could be the gateway to everyday spending with cryptocurrency, as those who already do have a crypto-linked card report spending roughly equal amounts of cryptocurrency and fiat currencies with it. … We are just seeing the very cusp of consumers experimenting with transacting with cryptocurrency.”
(Active owners, 21% of Visa’s sample, are consumers who have done any of the following: used crypto to make purchases, accepted crypto as payment, transferred crypto to or from another person, or developed a cryptocurrency.)
“Active Owners are younger than other segments (49% Millennials), skew largely male (65%), and primarily get their information about crypto from YouTube (60%).”
— Visa study, The Crypto Phenomenon: Consumer Attitudes & Usage
Richard Crone’s “FOMO” diagnosis may be a pretty good fit. Among owners, the Visa report states, “there is a recognition that crypto is not simply a technological phenomenon; it’s also deeply cultural, with consumers believing that there is a movement underfoot here and that cryptocurrency will be even bigger in the future.”
Will Financial Institutions Feel ‘FOMO’ of Their Own?
Significantly, many consumers surveyed feel financial institutions must be part of this trend before it can become mainstream, and a growing number of institutions are getting involved in one way or another. NYDIG’s Sells says there is increasing regulatory clarity regarding what banks and credit unions are permitted to offer to consumers who want crypto services, especially if they go the route of having a firm like NYDIG serve as custodian.
Klaros Group’s Crane is skeptical about growth in usage of crypto for payments in the U.S., especially direct person-to-person use of crypto.
“It’s not to say that nobody’s using it for payments, but it’s quite scarce. It rarely changes hands to buy something,” says Crane. “It’s limited to situations in which people want to avoid institutions, including their government, in some fashion or other. I think some of the original premises of Bitcoin [for payments] are more compelling in countries other than the U.S.”
Patrick Haggerty, Director at Klaros Group, thinks the appreciation in crypto values has undermined its use for currency but another factor is the cost of transacting in crypto.
“The idea of fee-less transactions hasn’t been borne out,” he says, “because the blockchain is so congested. They are working on all sorts of scaling solutions to solve that, and it’s possible that in the next year or years it could become possible to use stablecoins in a way that would facilitate payments at a much lower cost.”
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Looking at Stablecoins in the Washington Environment
How quickly stablecoins move into the spot that Haggerty predicts remains to be seen.
In late fall 2021 the President’s Working Group on Financial Markets, FDIC and the Comptroller’s Office, issued a much-awaited report on stablecoins that dwelled on risks and regulatory gaps. This included the danger of runs on stablecoin arrangements, and the ripple effects in the broader economy that could result in systemic risk if specific stablecoins grew large enough in the analysis. The market capitalization of stablecoins in the U.S. rose by almost 500% in 2021, to over $127 billion. (According to figures cited by a House Financial Services Committee memo, stablecoins represent about 5% of total digital assets, but account for 75% of the trading done on digital asset trading platforms.)
In Washington the words “run” and “systemic risk” are anathema.
The report called on Congress to devise legislation that would subject payment stablecoins to a framework of federal prudential regulation. Concurrent with this, the Federal Reserve, FDIC and OCC stated that 2022 would see a series of issuances to clarify banking organizations’ involvement in multiple crypto-asset areas. Among these: crypto safekeeping and custodial services, facilitation of customer purchases and sales of crypto, crypto-collateralized lending, and issuance and distribution of stablecoins.
Both the Senate Banking Committee and the House Financial Services Committee held hearings on stablecoins in late 2021. In the current environment in Congress, whether any legislation results in a law in 2022 is hard to predict.
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A factor lurking out there is Meta, formerly Facebook, which continues to work on its Novi wallet. The earlier incarnation of Facebook cryptocurrency, Diem, caught Washington’s attention in a big way.
“If you dig one layer deeper,” says Klaros Group’s Jonah Crane, “what’s motivating the regulators is concern about erosion of the commercial banking franchise.”
Haggerty notes that there is chatter that the regulators may use the interagency Financial Stability Oversight Council to go after stablecoin issuers on the basis of potential systemic risk. (FSOC is chaired by the Treasury Secretary.)
Such concerns have been brought out in commentary issued by the Bank Policy Institute and the American Bankers Association, along with other groups. BPI has raised the issue of whether stablecoins and central bank digital currencies could choke off deposits for traditional institutions and interfere with development of bank payment services.
“Assuming stablecoins will not offer anonymity in furtherance of illegal conduct, it is difficult to understand as a business matter what is gained by consumers paying each other for their pizzas or concert tickets, or a business paying a supplier, with a stablecoin rather than an instantaneous bank transfer,” BPI President Greg Baer stated, in a speech.
ABA, in a letter responding to the Senate hearings, made a grab for stablecoins for the industry: “ABA believes that customers who choose to access digital asset markets, including stablecoins, will be best served when they can do so through fully regulated banks where they are afforded robust consumer protection.”
Klaros Group’s Haggerty sees that banking is concerned about “crypto eating bank deposits, their source of funding, or will require them to pay up for that funding, which erodes their net interest margin, the lifeblood of the banking system.”
He says that the industry is increasingly calling into question the whole “DeFi” space — decentralized finance, which, broadly, uses crypto for lending outside of the usual regulatory umbrella. Crane thinks the financial regulators and possibly agencies will engage in a wave of enforcement actions to end the perception among crypto players that no one need comply with, for example, anti-money-laundering rules.
However, adds Haggerty, “as the crypto industry matures, they have a ton of money and they’re gearing up to be way more active on the political side.”
Again, the market isn’t holding still while the authorities deliberate. In mid-January 2022, an association of banks, including New York Community Bank, FirstBank, Sterling National Bank and Synovus Bank, working with Figure Technologies and the JAM FINTOP banking consortium, launched the USDF Consortium. The group wants to further the adoption and interoperability of a bank-minted stablecoin, USDF, which Figure has been working on. The intent is that the stablecoin will be minted exclusively by U.S. banks and that holders will be able to redeem them for cash on a one-to-one basis for cash from a consortium member.
Dig Deeper into USDF: How Banks Will Mint Their Own Stablecoins
Central Bank Digital Currencies in the U.S. Versus China
A Federal Reserve discussion paper on adoption of a U.S. CBDC is still being awaited, long past its original deadline, though thus far the Fed’s leaders have revealed little love for the idea. (Update: The Fed issued its CBDC paper, characterized as “the first step in a public discussion,” on Jan. 20, 2022. The executive summary noted that “the paper is not intended to advance any specific policy outcome, nor is it intended to signal that the Federal Reserve will make any imminent decisions about the appropriateness of issuing a U.S. CBDC.”)
“We wouldn’t be talking about CBDCs at all if we didn’t have the last decade or so of revolution in the crypto markets,” says Jonah Crane of Klaros.
No to CBDCs, Say 1 in 3 Bankers:
A banker survey by IntraFi Network found that 31% of respondents opposed the idea as potential competition to the banking system and insured deposits. Almost twice that many respondents were unsure, requiring more details about what a U.S. CBDC would look like.
In the absence of much to chew on in the U.S., many eyes have turned to the CBDC pilot in China.
Richard Turrin, an American financial consultant and author based in Shanghai, and the author of 2021’s Cashless: China’s Digital Currency Revolution, has not been able to use the Chinese CBDB, called e-CNY, directly, but he’s observed friends using it in vending machines and elsewhere. He maintains that for China, already massively devoted to digital payments, eventual conversion to a digital currency “will be viewed as a footnote, rather than as a ‘Sputnik moment’.”
He says that this is difficult for Americans to understand because the U.S. payment system, and its usage, is so far behind China’s, where digital payments are the norm. In part this was accomplished by the elimination of such consumer-side charges as interchange fees.
“This allowed for a deeper level of societal digitization,” says Turrin, “meaning that everybody takes digital payments, from fairly large purchases to buying noodles from the smallest guy with a shop on the corner here.”
“It is true peer-to-peer direct payment,” says Turrin. He says that reports that the pilot will be expanded to a full rollout during the Winter Olympics in China in February 2022 are inaccurate.
“It will be trialed at the Olympics, for sure,” says Turrin. “It has always been planned to trial central bank digital currency at the Olympic area, and let foreigners use it.”
Instead of a major shift, Turrin expects China to get the e-CNY operational in its second- and third-tier towns, a gradual affair.
“There’s no advantage for the Peoples Bank of China to say, ‘OK, it’s our big day, everybody’s going to use it on Saturday.’ They’ll roll it out in city after city. It will gradually become the norm.”