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The Structural Shortage of Stablecoins

A brief history of stablecoins

This article was written and published on 22 March 2022. Republished with permission from Ken Chia, author of Bridging Bitcoin. Ken is currently the Head of APAC of Abra, with a focus on HNW and institutional adoption of cryptocurrencies as an asset class.

Stablecoins are cryptocurrencies without the volatility ⏤ they represent access to USD fiat on public blockchains like Ethereum.

Stablecoins have been receiving a growing amount of institutional attention due to high yield opportunities @ 8-10% p.a. (non-degen) ⏤ high single-digit annualized returns without the volatility of crypto, plus the added benefit of liquidity.

In comparison, US dollars in fiat world is yielding between 0% (bank) to ~2% (30-year US Treasury).

Question: where are these high yields on stablecoins coming from?

In this article we will unpack:

  • the history of stablecoins;
  • the structural shortage of the stablecoin market; and
  • the rise of the crypto lending market

History of Stablecoins

Stablecoins have only existed for less than 8 years (since late-2014).

Yet, today stablecoins have crossed $180B in market cap, showing no signs of slowing down.

The history of stablecoins can be categorized into three phases:

  1. Pioneer Phase (2014-2019)
  2. Initial Expansion Phase (2019-2020)
  3. Expansion & Maturation Phase (2021-present)


Pioneer Phase (2014-2019)

Welcome back to 2014.

BTC was under $1k. The crypto market was either BTC or non-BTC (altcoin). Ethereum did not exist yet.

During this period, crypto was highly experimental. There were hundreds of stablecoins issued, including those backed by precious commodities (gold, silver etc). Many of these projects are no longer active today.

Most notably, Tether was issued in 2014 ⏤ the first dollar-backed stablecoin on the market.

(non-comprehensive) stablecoin launch timeline

Initial Expansion Phase (2019-2020)

The 2018 ICO bubble had just popped. A three-year bear market ensued, aka crypto winter.

Yet, builders in the industry continued to build. During this period, two major catalysts led to the initial growth of stablecoins:

  1. the emerging crypto derivative markets; and
  2. the growing demand for dollar-backed stablecoins from China & East Asia

1. Emerging derivatives market

In hindsight, it is relatively simple to explain why the crypto derivative markets boomed during this period.

As market entered into prolonged crypto winter in 2018, market participants looked for ways to hedge/short given falling prices.

The growth in futures markets came from that need to short the market:

rising % of volumes from derivatives

But with the rise of emerging derivatives trading platforms (such as FTX, Binance Futures)[…] both market makers and traders need huge sums of USDT to gain exposure[…] The USDT-denominated derivatives market is becoming more and more vigorous.” ⏤ Longhash, Why Tether Has Been Growing Faster than Bitcoin and Ethereum

2. Tether: Big in China and East Asia

In late 2017, the Chinese government banned direct exchanges of the yuan for cryptocurrency. Chinese investors then started adopt USDT as a substitute for the yuan.

By 2019, China dominated the global demand for Tether (USDT).

rising dominance in % of global demand from China

Tether’s Initial Expansion

As a result of these two major catalysts, Tether grew from zero to $4B, and very quickly doubled, then tripled to over $10B in market cap.

Tether dominated up to 2020, capitalizing on its first mover advantage.

stablecoin supply rapidly expanded from 2020 onwards

Expansion & Maturation Phase (2020 onwards)

In hindsight, Tether was only the beginning ⏤ the stablecoin market started to boom from mid-2020 onwards:


Today, although Tether is still the leading issuer by market cap, its dominance has greatly reduced from ~100% to 45% of the market, followed by Circle (USDC) @ 25%.

USDC being given a blessing from the OCC and being adopted by Visa drastically lowered its perceived regulatory risks vs USDT:


The Structural Shortage of Stablecoins

Sources: FRED, Federal Reserve Bank of St. Louis; SIFMA; CoinMarketCap; Bridgewater Associates, “Our Thoughts on Bitcoin”; Raoul Pal

Put into perspective, the stablecoin market is still in its early stages: at $180B, stablecoins are only 10% of the entire cryptocurrency market, and less than 1% of M2 money supply & most major financial asset classes i.e. gold, equities, bonds etc.

Crypto markets are still nascent. Financial primitives (liquidity, lending, risk, and arbitrage) are still developing.

Especially the crypto lending market.

The Crypto Lending Market

Crypto Loans 101

Crypto loans arise from a natural market between three main counterparties: borrowers, depositors and lending platforms:

  • Borrowers: sophisticated investors looking to borrow stablecoins for arbitrage opportunities; HNW investors / crypto miners seeking USD liquidity without selling coins (more tax-efficient to borrow vs. sell)
  • Depositors: opportunity to fund these loans for high yields
  • Lending platforms: ensure that loans are sufficiently collateralized, manage & mitigate counterparty risk, perform financial analysis, ongoing loan monitoring etc

Very similar to traditional banking models.

How big is the crypto lending market?

The crypto lending market has been growing exponentially in just the past four years. As a proxy, Genesis Trading cumulatively originated >$150B as of 4Q 2021:

Source: Genesis Trading, Q4 2021 Market Observations

Why? Due to the structural shortage of stablecoins in relation to its ever-growing demand, we have witnessed an exponential surge in the crypto lending markets led by natural market forces (depositors who want access to high yield USD opportunities; sophisticated borrowers who want to borrow as much as they can to capitalize on arbitrage opportunities)

Traditional investors salivate at these types of arbitrage opportunities, allowing them access to double-digit annualized returns (basis trades during bull runs) with minimal volatility & drawdown (market-neutral). These opportunities simply do not exist in traditional financial markets.

Crypto lending is just one source of yields

There is a growing list of reasons as to why sophisticated investors borrow, and why mainstream hedge funds are pouring billions of dollars into crypto, including names like Alan Howard and Paul Tudor Jones.

Let’s Recap

The stablecoin market is still nascent with less than 8 years of history. A nascent market presents opportunities, resulting in a large demand to arbitrage and to capitalize on these opportunities. Stablecoins are highly preferred vs. USD fiat for its borderless transfer capabilities, ease of use and speed of transactions. A large demand for stablecoins leads to a large demand to borrow ⏤ a rising crypto lending market.

A large demand to borrow coupled with the structural shortage of stablecoins (demand > supply) leads to a market with high funding rates.

Though still nascent today, as one of the four financial primitives, the crypto lending market will one day play a significant role in the global financial system, beyond crypto:

What we are witnessing in crypto today is similar to the futures markets in the 70s ⏤ rapidly developing, then later far exceeded its agricultural and commodities origins and had an enormous impact to key markets (such as the interest rate swap market)

For those who enjoy tweetstorm threads, here’s one that I put out as a quick recap:


For now, the stablecoin lending market continues to soak up more fiat dollars ⏤ like a magnet.

[…] it’s not going away until there’s enough cash in the crypto market to arbitrage away the price difference ⏤ Jeff Dorman, Arca

Disclaimer: I only recommend services that I would use myself. Nothing written on is financial advice.