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Podcasts from Confluence Investment Management LLC, featuring the periodic Confluence of Ideas series, two bi-weekly series: the Asset Allocation Bi-Weekly and the Bi-Weekly Geopolitical Report (new episodes posted on alternating Mondays), and a new monthly Q&A format called the Confluence Mailbag.
Welcome to the Confluence Investment Management Bi-Weekly Geopolitical Report. I'm Phil Adler. The increased supply of dollar backed stablecoins has the potential for wide ranging impacts, including support for the dollar and an infusion perhaps of demand for US treasuries. It also is making US banks nervous. Confluence Advisory Director Bill O'Grady joins us today to discuss the possibilities and the investment implications.
Phil Adler:Bill, I think a a brief review is a good way to begin. We know stablecoins are a special type of cryptocurrency fully backed by a reserve asset. Most of the time these days around the world, that asset is the US dollar. So in theory, the concept is one stablecoin for $1. So what's the advantage of holding Stablecoins?
Bill O'Grady:Good question, Phil. The advantage is tied to the nature of cryptocurrencies. Because they are by design fully electronic, transferring a digital coin is, at least in theory, frictionless. Say, for example, I wanna transfer money to someone in Paraguay. Currently, dollars would be wire transferred between banks in The US and the target country.
Bill O'Grady:Both I as the sender and my party in Paraguay, the receiver, would need bank accounts. Substantial fees are usually levied and the transfer can take a day or two. And the transfer isn't transparent, although in practice, regulators tend to be okay with amounts less than $10,000. In contrast, a Stablecoin transaction can be nearly instantaneous transferred via smartphone apps. The transaction is semi anonymous, meaning that on the blockchain, a set of numbers is seen, but without the knowledge of the person behind the account numbers, all you can see is the amount.
Bill O'Grady:In the West, payment systems are robust and mostly safe, and the currency used in the West are stable. But that isn't the case in much of the rest of the world. For these economic actors, stablecoins are very attractive.
Phil Adler:Are stablecoins safe?
Bill O'Grady:Well, it depends on how you define safe. US dollar stablecoins as framed by the genius act would be quite safe. They would be backed by very liquid assets that could be easily converted into dollars to meet redemptions. In other words, safe from runs. A non genius act stablecoins a bit like a money market instrument.
Bill O'Grady:It has a small but not zero chance of not likely being able to redeem at one to one. On the other hand, stablecoins are bearer instruments similar to cash. Somebody mugs me and takes my wallet, they can spend my cash freely. Trying to use my credit cards on the other hand could be problematic. My credit cards, are treated as cash, are really bank loans.
Bill O'Grady:And if an unauthorized user tries to use the card, I'm offered some protections. A Stablecoin doesn't offer the protections of a credit card despite the fact it's digital.
Phil Adler:Do you think the US dollar will continue to be the overwhelming choice to back Stablecoins issued around the world?
Bill O'Grady:Yes. Because the asset behind the liabilities can't easily be replicated elsewhere. It's the same issue that dominates the discussion about the dollar's reserve currency status and the treasury's reserve asset status. All other alternatives are just simply not as attractive.
Phil Adler:Well, I I can certainly see the appeal if I'm involved in an international transaction. Stablecoin transaction can be instantaneous and also cheaper than the normal expense of a cross border deal. What's the downside?
Bill O'Grady:Well, the potential downside is that the current US dollar Stablecoins are not back the same way a GeniusX Stablecoin would be. Thus, it could lose its value if the Stablecoin broke the buck. The other issue potentially is that banks offer some protection against fraud. For example, if you make a mistake and send a Stablecoin to the wrong address, it would require honesty on the illicit recipient to make you whole. This is a risk inherent in bearer instruments.
Bill O'Grady:The current wire system, because banks are involved, offer some degree of protection. In a sense, the frictions you currently have in sending money overseas is due to the protections that are on offer.
Phil Adler:Well, in The US, the Genius Act signed into law last summer introduced stablecoin regulation to reduce risk. This bill was certainly a departure from earlier US Government aversion to cryptocurrency. Of course, even with the bill, buyers can still opt for non US regulated stablecoins or other cryptocurrencies for that matter. But one feature of the bill dictates that stablecoins protected by regulation under the Genius Act cannot pay interest. Banks still seem to be very worried about potential competition.
Phil Adler:Why?
Bill O'Grady:Well, the opposition from the banking industry reflects a very old characteristic of banking. Now the orthodox way banking is taught is that banks acquire deposits and then lend those deposits out. This is known as the loanable funds model of banking. It's a very logical story. Unfortunately, it's factually incorrect.
Bill O'Grady:A number of central banks, most famously the Bank of England, debunked this model. Instead, banks go out and make loans and then go out and find the funding with the goal of lending at a higher interest rate than the cost of funding. When a household or business gives bank money in the form of deposit, this is no way, shape or form dictates that the bank has to lend that money. So for banks profitability has a number of elements. First, it needs lending opportunities where borrowers are solvent and save.
Bill O'Grady:Second, it needs funding sources that are as cheap as possible. Currently bank cost of funds are estimated to be about 3.45%. That rate comes from a mix of liabilities for the bank. For example, banks only pay about 40 basis points for savings deposits. Banks fear if stablecoins become an alternative to bank deposits, their cost of funds will rise.
Bill O'Grady:And we saw a problem similar to this emerge in the nineteen seventies. Bank regulations in this era were first established after the great depression, and there was a concern that if banks paid a lot for deposits, they would tend to make risky loans to earn profits. Thus, the plan was to allow banks to have a locked in low cost to fund from depositors. During the nineteen seventies, as inflation rose, inflation generally outpaced interest payments. Banks suffered disintermediation as funds moved to euro dollar deposits and money market funds.
Bill O'Grady:Eventually, regulations were lifted and banks began to pay more competitive rates. But the payments on deposits is predicated on the amount of money you had on to deposit. If you only had 500 your options were limited. If you had $5,000,000 there were a lot more options available to you at much higher interest rates. Banks fear that the frictionless nature of stablecoins could allow competitive interest rates to be paid on small sums, leading to disintermediation of bank deposits raising their cost of funds.
Phil Adler:Should we be worried about the potential of a run on stablecoins as their use increases beginning first with the non regulated variety, but then spreading, something that could destabilize the economy?
Bill O'Grady:Well, although this is possible, I think the run on Stablecoins worry is probably overstated. If one uses a GeniusX Stablecoins, the odds of a run are very low. That's because the assets backing that liability are very liquid. Now this may not be the case with non genius act stablecoins.
Phil Adler:I think it's also helpful to remember that the issuer of stablecoins doesn't have to be a bank or a government. What's the potential of private companies entering the arena?
Bill O'Grady:Well, this is another interesting aspect of Stablecoins. Nonbanks could issue Stablecoins. You could potentially see a retailer issue Stablecoins and tie various reward programs to their use. The banks are fighting this idea because they fear it could become a backdoor to paying a form of interest on Stablecoins. When Andrew Jackson closed the second bank of the United States, commercial banks issued their own money.
Bill O'Grady:Often, they overissued currency leading to exchange rates developing between different bank dollars. The case of non banks issuing stablecoins creates this potential situation again. You could see a coin issued by JPMorgan having a higher value than one issued by Bob's Deli. Again, being genius at compliance should reduce this possibility, but it would be human nature to trust a large bank compared to your local sandwich shop. If this situation were to emerge, it would violate the notion of $1 always equaling $1.
Phil Adler:Bill, you say in your report that another feature of Stablecoins or of any cryptocurrency for that matter is that they are programmable. How might this play out in the real world?
Bill O'Grady:Well, this feature may be useful on many levels. For example, a retailer could issue a stablecoin that might offer a bonus if used in certain timeframe. A government might offer some sort of benefit if the stablecoin is spent on a social good such as education or medical care. Years ago, it was not uncommon for dealers to offer cash for food stamps. That way, a food stamp holder could buy a good not allowed under the food stamp program, such as cigarettes.
Bill O'Grady:Of course, the dealer would pay less than 100¢ for the food stamp. Stablecoins would make this illicit activity more difficult as the programming would be harder to evade.
Phil Adler:It's easy to see, Bill, how the emergence of stablecoins could ripple through the world economy with significant impacts. Let's focus on some of those potential impacts in the time we have left. Now we've read about the concerns that US Treasuries might attract fewer buyers as the world splits into regional blocks and global tensions increase. How could stablecoins make up for this and maybe fuel demand for US treasuries?
Bill O'Grady:In nations that have unstable monetary regimes, residents will often try to protect purchasing power by holding their saving in hard currencies. When I was a country risk analyst in the 1980s, wealthy Brazilian or Argentines would have demark or dollar deposits. Less affluent households would not have this benefit because the cost of setting up such accounts. Stablecoins would dramatically reduce the cost of setting up such accounts and allow citizens in unstable monetary regimes to hold dollars more easily, thus broadening their demand. Even developed economies are worried about US dollar stablecoins.
Bill O'Grady:Imagine if they had been available during the pigs crisis in The Eurozone in 2011. Instead of Greek or Irish savers flocking to German bonds or Swiss francs, they could have easily just transferred funds into US dollar stablecoins. This would have undermined the Eurozone banking system and led to a far different outcome.
Phil Adler:How could stablecoins bolster the strength of the US dollar?
Bill O'Grady:Well, if foreigners decide to diversify their currency holdings, the increased demand will, on its own, lift demand for dollars and thus the exchange rate. Now this assumes nothing else changes. US policymakers may take steps to reduce the exchange rates by lowering interest rates, for example.
Phil Adler:In other words, could stablecoins be an avenue to growing US power worldwide?
Bill O'Grady:It would, in part, by undermining foreign monetary systems.
Phil Adler:Bill, how might foreign countries employ stablecoins? Could nations with shaky economies employ stablecoins to increase stability?
Bill O'Grady:Well, not on its face. The stability comes from the assets that back the coins. A nation with an unstable financial system isn't likely to have a financial asset such as a government bond that would be attractive enough to back the coin. It is possible that a nation with an unstable financial system could offer a stablecoin backed by natural resources or gold, but this would only work if the holder felt he had real access to that asset. Ultimately, currencies come down to faith.
Phil Adler:Bill, your conclusion is that stablecoins overall do appear to be a positive for US financial and real assets. But you also warn that this is not a clear path, that there are many other factors to be considered. What are some of them?
Bill O'Grady:Well, perhaps the biggest threat to US dollar stablecoins with private issuers is with central bank digital currencies. The US appears to be ruling out such a currency that would presumably be issued by the Federal Reserve. Foreign nation, on the other hand, appear to be moving in this direction. China, for example, is aggressively promoting its central bank issued digital currency. Given the potential to undermine foreign monetary systems, it would make sense if foreign governments attempted to ban the use of US Dollar Stablecoins.
Bill O'Grady:I think that might prove to be difficult, but China has been extraordinarily effective in guarding its Internet. It may be able to prevent its citizens from holding US dollar stablecoins.
Phil Adler:This is a lot. How can the individual investor incorporate all this in a financial plan?
Bill O'Grady:For US investors on its face, there isn't an obvious position to take. A company had a successful US dollar stablecoin that becomes profitable, could make that company more attractive for investors. But by using T Bills as assets backing Genius Act stablecoins, it could skew US Treasury borrowing to bills and away from notes and bonds. The scarcity could lift the price of those assets. And since the Federal Reserve can effectively control the interest rate at the short end of the yield curve, it would reduce government borrowing costs.
Bill O'Grady:This would improve the outlook for fixed income. But at this time, we are not incorporating the impact of stable coins into our investing process.
Phil Adler:Thank you, Bill. The title of this report that we've been discussing today is the geopolitics of US dollar stable coins. You can find a link to the written report dated 03/02/2026 on the Confluence webpage, confluenceinvestment.com. Our discussion today is based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice.
Phil Adler:This information does not constitute a solicitation or an offer to buy or sell any security. Our audio engineer is Dane Stole. I'm Phil Adler.