Stablecoins will help cryptocurrencies achieve world domination—if they actually work

Will cryptocurrencies ever become much more than speculative assets? If they do, the key will be a new kind of digital coin that is engineered to maintain a steady price. At least, that’s what a growing number of developers in the crypto world seem to believe.

We’re in the midst of a “Cambrian explosion” of such projects, says Garrick Hileman, head of research at Blockchain, a cryptocurrency services firm. According to a survey Hileman published this week, the number of what are called stablecoins has grown from a just a handful to nearly 60 in the past 18 months, and more than a dozen more are expected to launch in the near future. Hileman says the stablecoin rush speaks to a growing understanding that the volatility of cryptocurrencies like Bitcoin and Ethereum “is going to pose a problem” for some of the most sought-after blockchain applications, like payments, lending, and insurance. And he says it reflects the hypothesis that nonvolatile digital coins can form an “infrastructure layer” that could vastly expand cryptocurrencies’ global user base.

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Cryptocurrency often gets cast as a new form of money that will benefit people who don’t have access to a bank account or a stable national currency. Another popular prediction among enthusiasts is that smart contracts, blockchain-stored computer programs that automatically move cryptocurrency between users according to agreed-upon conditions, will revolutionize the way we do business online.

But payment applications have so far failed to gain much traction, and a fair amount of last year’s exuberance about the future of smart-contract-powered decentralized applications—dapps, if you prefer—has been replaced by uncertainty over whether Ethereum and similar platforms can live up to the hype. Ethereum and other currencies have swung wildly in price, and that could well be one factor crypto-payment-based applications haven’t seen wider adoption.

If the goal is to expand the user base, though, it’s important to be clear about what we mean by “stablecoin.” The term can be used to refer to a few very different concepts. Tether, a popular stablecoin that is supposedly backed by US dollars in a bank account, has been around for years. A useful tool for traders wanting to safely park their gains in other cryptocurrency investments without having to convert back into fiat money, Tether has inspired a number of copycats.

According to Hileman’s report, nearly 60% of the $350 million that venture capitalists have invested in stablecoin projects has gone toward approaches that don’t rely on banks and thus promise to be more decentralized and accessible. Some use cryptocurrency instead of fiat money as collateral, relying on smart contracts to manage the collateral’s volatility. But most of this funding has backed yet-to-launch coins commonly described as “algorithmic central banks.” Such a coin wouldn’t use collateral at all, and would instead use software to increase and decrease its supply in order to maintain its price.

Critics doubt that these more complicated stablecoins can hold their pegs in the long run. The systems also raise complicated new legal questions, especially given that many rely on an element of market manipulation to maintain price stability, says Hileman. “It is very early days, not just on the technology side but on the regulatory side,” he says. “Trying to make too many predictions about where this will wind up is hazardous at this stage.”