Disrupting the Equilibrium? Why stablecoins may struggle to challenge existing payment schemes
Mastercard and Visa have dominated global markets for consumer payments for decades. A key reason for their success is the barriers to entry into the global general purpose payment card network market. It is hard to replicate Visa’s and Mastercard’s global acceptance, and those networks do everything in their power to maintain and increase those barriers. Certain cryptocurrencies, known as stablecoins, have the potential to disrupt cross-border payment markets and inject much needed competition but recent developments show that they face an uphill struggle.
Mastercard and Visa have managed to extract enormous profits from cross-border payments over past decades. For their financial years ending in 2019 alone, Mastercard and Visa had combined revenues from cross-border payment of $13.4 billion, representing approximately one quarter of their overall gross revenues. Visa and Mastercard inter-regional fees are typically 2 percent or more of the purchase price, and the issuing banks levy additional transaction fees of up to 4 percent. Customers also pay relatively high margins on currency conversion.
Such high prices are possible because there has not been much by way of competition to Visa and Mastercard. Bank transfers are rarely practicable for small purchases and in-person transactions, at least where cross-border. Moreover, the fees for bank transfers can be worse even than the fees charged by Mastercard and Visa. To give one recent example, I personally had to pay a fee of €15 (6.25%) on a recent €240 payment to a Spanish merchant.
Cash is, of course, an alternative for face-to-face transactions but it is less than ideal to carry around large amounts of cash and exchange rates offered by bureaux de change are notoriously poor value. In addition, in our increasingly digital age, less and less people are inclined to carry cash at all. ATM withdrawals also usually go through Visa and Mastercard as well with similar fees to those levied on POS transactions.
Crypto as an alternative
In principle, at least, cryptocurrencies could offer an alternative. Moreover, the decentralized nature of the blockchain that supports cryptocurrencies, in theory, could obviate the need for intermediaries like payment card networks and banks. Transactions can be conducted without using Visa and Mastercard’s payment rails and, indeed, without signing up to any scheme rules. A number of commentators have recognised that there is scope for crypto to increase competition in payments, challenging the dominance of existing players.
One of the biggest obstacles to use of crypto for payments, and which has made it attractive for speculative investment, has been the volatility in value. Famously, the first use of Bitcoin for a purchase “IRL” was to buy two pizzas from Papa John’s at a cost of 10,000 BTC: $539m in today’s money. Only the most adventurous merchants will take the risk on such wild fluctuations. Now, though, there are “stablecoins” that, as the name suggests, are specifically designed to minimise volatility, tied to the value of other relatively stable assets such as the USD.
Stablecoins are mainly used in real time to store value after selling or before buying more volatile crypto. They can also, though, be used for payments and for making cross-border transfers of fiat currency at lower cost than other options available. Research by the UK financial services regulator found that 27% of crypto owners had used crypto to purchase goods and services. The costs involved in making a payment depend on the stablecoin used, the exchange used and the network fees applicable at any given moment. Some stablecoins have fees as low as 0.1% for conversion from and to fiat currencies and network fees can be less than $1. As such, it can clearly be a lot cheaper to use stablecoins rather than payment cards for cross-border transactions.
Challenges in using stablecoins for cross-border payments
Despite the hypothetical promise, however, there are some significant challenges to be overcome for stablecoins to offer a mass-market competitive alternative to the use of payment cards.
First, there are practical issues. For example, the features of a stablecoin depend to a significant extent on the blockchain on which they are built. Many currently use the Ethereum and Bitcoin blockchains. Those blockchains may not be well-suited to rapid processing of large quantities of low value transactions. Thus, for example, both Ethereum and Bitcoin transactions: (i) can take minutes or hours to complete; (ii) incur higher network fees if they must be completed at a specific time and/or quickly; (iii) incur higher network fees when the volume of transactions increases; and (iv) charge similar fees for small transactions as for large ones. As such, a stablecoin used for mass-market retail transactions may need its own dedicated blockchain with different economics.
Second, for any stablecoin to be widely accepted by merchants and consumers, there must be trust in the coin issuer. Stablecoins are only stable because those holding the coins are confident that they will be able to get back the same amount they paid for the coins if they choose to cash them in, which can probably only follow from the value being collateralised by the coin issuer holding sufficient reserves of the reference asset. Even the largest current issuer of stablecoins, Tether, has been mired in controversy undermining the trust placed in it arising from concerns about whether it actually holds sufficient reserves to back all the coins issued.
The issue of trust is intimately tied up with regulation. Users of stablecoin will be able to feel much more comfortable if there are clear rules on what reserves must be held and mechanisms to independently audit compliance. It is hardly surprising, therefore, that as the value of stablecoins in circulation have grown, regulators have begun to pay a lot more attention. Over the last year, financial regulators in both the US and UK have indicated that they believe that stablecoins need to be regulated along the same lines as bank deposits or money market funds.
Adding some degree of regulation can enhance the attractiveness of stablecoins for payments by increasing trust, as discussed above, but regulatory requirements also impose costs and make it harder for new entrants to establish themselves. This is a particular risk with crypto because the same coin can potentially be subject to different requirements in every country around the world. The recent UK Treasury consultation on the extension of regulation to stablecoins explicitly recognises the need for proportionality yet still proposes that a raft of regulatory requirements should apply to all coin issuers and others in the crypto value chain who market their services to UK consumers.
Re-emergence of dominant players
As the compliance burden increases, those market players that have already negotiated the same challenges begin to have a real advantage. They also have a strong incentive to ensure that the disruptors do not take market share from them. It is hardly surprising, therefore, that the payment schemes are beginning to wake up to the significance of crypto and to find ways to ensure that they remain involved in transactions even when crypto is being used as the means of payment.
Visa, for example, has a range of digital currency initiatives and announced in July that it is partnering with 50 crypto platforms to allow crypto to be spent through the use of Visa cards. Visa undoubtedly intends to require merchants to accept these products under its Honor All Cards rules. That will support whatever fee structure Visa intends to impose on these transactions. Against that backdrop, Visa will take its cut of any such transactions including probably a margin on conversion from crypto to fiat currencies. Merchants and consumers may be disinclined to sign up for alternative methods of paying in and accepting crypto when they are required to use the existing Visa network for comparable transactions.
There has been talk about the possible emergence of an alternative payments-focused stablecoin known as Diem (previously Libra) but concerns have been raised about it since it started as a Facebook initiative. It did also involve Visa and Mastercard at one stage, though they seem to have now both withdrawn.
While crypto still has the theoretical potential to disrupt the payments industry, for the moment that day appears to be a long way off.
 Mastercard Form 10-K at 46 (Feb. 14, 2020); Visa Form 10-K at 40 (Nov. 14, 2019).
 UK regulatory approach to cryptoassets and stablecoins: Consultation and call for evidence, HM Treasury (January 2021) available at https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/950206/HM_Treasury_Cryptoasset_and_Stablecoin_consultation.pdf; Stablecoins and the Future of Money, Catalini and Massari (Harvard Business Review, Aug. 10, 2021); Save Money, Transact Faster: Stablecoins as an Alternative to Traditional Banking, Sudaric (Nasdaq website, Sep. 7, 2021) available at https://www.nasdaq.com/articles/save-money-transact-faster%3A-stablecoins-as-an-alternative-to-traditional-banking-2021-09; What Are Stablecoins? (CB Insights, Feb. 16, 2021) available at https://www.cbinsights.com/research/report/what-are-stablecoins/.
 Cryptoasset consumer research 2020, Financial Conduct Authority (Jun. 30, 2020) available at: https://www.fca.org.uk/publication/research/research-note-cryptoasset-consumer-research-2020.pdf.
 Anyone Seen Tether’s Billions?, Z Faux (Bloomberg Businessweek, Oct. 7, 2021).
 Evidence of the chairman of the Board of Governors of the Federal Reserve System, Jerome Powell, to the House Financial Services Committee on September 30, 2021 reported at https://centralbankcurrencies.com/news/federal-reserve-chairman-powell-says-no-intention-to-ban-or-limit-use-of-cryptocurrencies-regulation-bitcoin-news/; comments of HM Treasury in the consultation referenced at n.2 above.
 HM Treasury consultation, n.2 above.
 Crypto-linked cards see continued growth (Visa Inc., Jul. 7, 2021) available at: https://usa.visa.com/visa-everywhere/blog/bdp/2021/07/06/crypto-linked-cards-see-1625612645562.html.