Senators Thom Tillis and Angela Alsobrooks announced a compromise last week regarding stablecoin yields, outlined in Section 404 of the Digital Asset Market Transparency Act. This agreement stops stablecoin companies from providing yields that are, in economic terms, similar to traditional bank interest. It seems solid, at first blush.
However, there are significant gaps that could impact a trillion-dollar industry. Despite the original aim, crypto companies are currently promoting systems framed as “rewards” or “cashback,” which are essentially indistinguishable from interest, dependent on maintaining stablecoin balances. As long as the prohibition on yield is applied solely to direct issuer payments, platforms, exchanges, and wallets will likely develop structures that offer comparable economic incentives through different means.
The text from Tillis and Alsobrooks provides the terminology for ongoing practices. The agreement prohibits stablecoin issuers from giving yields based only on stablecoin reserves, but the word “alone” plays a crucial role here.
If a company incorporates additional activities tied to its stablecoin, it can sidestep the ban entirely. Simple tasks like watching a video or completing a trade could suddenly justify yield calculations as “rewards” for participation.
It’s possible the drafters intended a meaningful differentiation here. Still, cryptocurrency lawyers will likely exploit that nuance.
The term “economic or functional equivalence” is ambiguous and unenforceable until regulators can clarify its meaning. The compromise would task federal regulators with creating a framework for stablecoin disclosures and a list of acceptable compensation activities. Notably, this list isn’t exhaustive, leaving room for regulatory expansion and ensuing court debates over Congress’s objectives.
Moreover, rewards from staking or governance activities can directly relate to size and holding time, and while they may be labeled differently, they effectively serve as yield.
The current enforcement outlined is problematic as well. Companies must demonstrate they “knowingly” structured reward schemes to bypass the rules. This is a higher bar than what’s generally required for consumer protection in financial institutions under current law.
Rulemakings granting regulators power to prevent bypassing use “may” instead of “shall.” It’s possible Congress might never establish these rules, and penalties may only apply once written rules are developed, something that could indefinitely delay.
The parties affected will not include Wall Street. According to projections, independent community banks could see up to $1.3 trillion in deposits vanish and an $850 billion drop in lending capability if Congress fails to close the loophole.
Community banks are vital for financing small businesses and local families. They lack the means to offset sudden deposit losses through wholesale capital markets. A shift from banking institutions to stablecoin reserves could slash credit creation by 25%, affecting affordability and access to credit for small businesses, farms, and families.
Thomas Phillipson, former chair of the White House Council of Economic Advisers, mentioned the importance of credit competition occurring on a level playing field, suggesting existing institutions shouldn’t face regulation while the new ones do not.
Stablecoin exchanges can’t lend or invest in securities, so their ability to generate profits from reserves is limited. If they do provide yields, they’re engaging in a structurally unsound competition for deposits without any commitment to ensure their safety.
Unlike banks, stablecoin issuers lack FDIC insurance, are not subject to stress tests, and face less rigorous oversight than traditional financial entities.
The prohibition on interest-bearing stablecoins is critical for establishing a sustainable financial system per the Cryptocurrency Market Structure Act. While the Tillis-Alsobrooks compromise seems to uphold this principle, it doesn’t actually honor it. Crypto lawyers are already figuring out how to modify reward programs to exploit these loopholes.
The Senate Banking Committee should postpone any evaluation until these issues are addressed; otherwise, Congress shouldn’t approve this compromise.
