PayPal poses big threat to banks in race to develop stablecoins

The stablecoin market is growing rapidly — and every new stablecoin issuer from the tech sector puts pressure on banks to dive in.

PayPal is considering issuing its own stablecoin with a working name of PayPal Coin. PayPal's initiative comes as the Facebook-affiliated Diem stablecoin approaches launch. Technology and government initiatives have driven the value of the stablecoin market up to about $140 billion — seven times higher than two years ago.

Stablecoins are digital currencies that tie their values to a government-issued currency such as the U.S. dollar to avoid the volatility of cryptocurrencies such as Bitcoin. Even though many banks are active stablecoin developers, there is a chance that the stablecoin industry could follow the same path as the mobile-wallet market — with banks eventually giving way to tech companies that could charge a toll for participation. In the case of Apple Pay, for example, the technology company requires card issuers to pay a fee for payments made through Apple's mobile wallet.

"Nonbanks are moving faster on stablecoins than banks. Similar to what technology companies did with mobile wallets such as Apple Pay and Google, fintechs are leveraging technology platforms and assets that they uniquely control," said Richard Crone, a payments consultant in San Mateo, California.

Facebook and PayPal have expansive networks of merchants and consumers already using their platforms to sell goods and receive payments.

via Bloomberg

"Banks would essentially have to plug into a system like this at the platform level," said Marco Salazar, director of payments at Javelin Strategy & Research in Chicago.

Block (formerly Square) would also be well positioned to issue offer a stablecoin, given its existing cryptocurrency investment business and services for both merchants and consumers, Salazar said. Block did not respond to a request for comment by deadline. Block has a cryptocurrency division called TBD that is working on potential use cases for cryptocurrency and related blockchain technology.

PayPal would not comment beyond confirming that it is considering its own stablecoin and would work closely with "relevant regulators" if it does move forward.

"Stablecoins offer yet another new business model for making money with cryptocurrency … [and] would give PayPal an advantage for processing within its own infrastructure," Crone said. Stablecoins can be paired with other products and services to generate fee revenue through financial super apps.

PayPal additionally has money transmitter licenses in dozens of countries and a base of more than 400 million consumer users and 33 million merchant accounts, which could create a network effect for stablecoin payments. PayPal's Venmo subsidiary has 88 million users, though there is likely some overlap with PayPal. In November Paypal signed a deal with Amazon to support Venmo payments, creating another source for potential stablecoin payments volume.

"PayPal is better positioned than other high-tech companies because it has built an acceptance network," said Tim Sloane, vice president of payments innovation at Mercator Advisory Group in Concord, Massachusetts.

PayPal has been developing its cryptocurrency business over the past year. In March 2021, it launched Checkout with Crypto, which allows PayPal merchants to accept cryptocurrencies for payment and settle in U.S. dollars. Payments can be made with cryptocurrencies that are held in PayPal wallets, with PayPal supporting Bitcoin, Litecoin, Ethereum and Bitcoin Cash. Venmo in April 2021 added a feature that allows users to buy, hold and sell cryptocurrency, opening digital assets to a younger demographic and charging fees as low as $1.

The largest stablecoins in the market today are primarily linked to blockchain technology companies or cryptocurrency exchanges. Tether is the largest stablecoin, with a market capitalization of about $78 billion as of Jan. 10, according to Coinmarketcap.com. Circle's USD Coin is second at about $44 billion and Binance's market cap is about $14 billion.

Banks have been less active than fintechs in supporting stablecoins and other forms of cryptocurrency, but there are exceptions. JPMorgan Chase's JPCoin is used for wholesale payments and treasury management. The La Jolla, California-based Silvergate Bank supports transactions for cryptocurrency exchanges such as Coinbase, Kraken, Gemini and Bitstamp. The $12 billion-asset Silvergate is also slated to issue the pending Diem stablecoin.

Other banks active in the cryptocurrency market include Customers Bank, a $19 billion-asset bank based in West Reading, Pennsylvania, that is in the midst of a repositioning as an institution that backs cryptocurrency companies. And the $100 billion-asset Signature Bank in New York sets aside $23 billion in reserves for cryptocurrency clients, and offers stablecoin support through Signet, the bank's payment platform.

"Banks are mostly providing a gateway for cryptocurrency transactions or investments," Crone said, adding cryptocurrency trading as a stand-alone service can be lucrative — Square gets more than 70% of its revenue from cryptocurrency trades.

Customers Bank likely won't issue a stablecoin similar to Diem or USDC, according Chris Smalley, managing director and head of digital banking at Customers.

"We're focused on large-enterprise-grade transactions and corporate payments," Smalley said of the bank's digital-asset strategy, adding that "know your customer" compliance would be too difficult for developing an open-loop stablecoin for everyday use. "Those are not small-business payments or retail payments."

Customers recently hired several cryptocurrency experts to work on business development, technology, onboarding, payments and compliance for the bank's digital-asset banking team. The bank's cryptocurrency strategy includes the Customers Bank Instant Token, a tokenized version of the U.S. dollar that allows bank customers to exchange traditional currencies in real time.

"It looks like a stablecoin, but it can't be exchanged outside of the codified ecosystem of the bank," Smalley said. "Everyone using it has to be a 'KYC' customer."

Despite these initiatives, banks may fall behind technology companies in using cryptocurrency to build assets under management, according to Crone. By offering both cryptocurrency trading and its own stablecoin, PayPal can incentivize use by lowering fees for cryptocurrency trades in exchange for using the PayPal stablecoin for payments, Crone said.

The global payment networks, including PayPal, have advantages such as an account structure that enables the accumulation of value, Sloane said, adding the networks can also provide gateways that connect cryptocurrencies to the global payment infrastructure. Both Visa and Mastercard have expressed interest in supporting stablecoin payments. Visa in December launched a cryptocurrency advisory service as part of an effort to nudge banks and credit unions to build cryptocurrency products. Mastercard offers a similar service.

"The race is on to digitize the U.S. dollar," Sloane said, adding the contestants are the global payment networks, banks, high-tech powerhouses and the U.S. government itself through a potential digital dollar.