Essay: stablecoin: Token + Blockchain

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01 Tokens have existed since ancient times

Tokens generally refer to the use of some representations or certificates to represent existing real currencies, and functionally, they can fulfill some currency functions (not necessarily all currency functions, for example, tokens can serve as payment tools within a limited scope), and these certificates can be exchanged back for currency.

Tokens are not a new concept; they have existed since ancient times.

In the era of precious metal coins, if a merchant needed to carry a large amount of coins over long distances to purchase bulk goods, it was a heavy and dangerous task. Fortunately, he knew another local business that had a branch at the destination. So he approached the business and proposed to deposit his coins with them, asking the business to issue him a note or certificate. He would take this note to the branch in the foreign location to withdraw the money, make the purchase, and was willing to pay a certain fee for this service.

The business believes it can make money without doing anything and readily agrees.

This note is a token of money (currency).

After this merchant arrived at the destination with the certificate, he found that this merchant's house had an excellent reputation in the local area, and other local merchants accepted the notes issued by this merchant's house as a means of payment. Therefore, this merchant had no need to go to the branch of the merchant's house to exchange for minted coins; he directly used the notes to make purchases in the market. Thus, the tokens replaced the original currency and fulfilled certain monetary functions. Of course, its monetary functions are more limited than the original currency and can only be used in areas influenced by the reputation of the merchant's house.

Note that it is clearly stated on this note that it represents a certain amount of currency. At this point, the merchant has indeed deposited that amount of money into the business. This is a token of full-value reserve, complete reserve.

Are there any undervalued tokens? The story continues.

After the merchant spent the notes he brought, he found that the local goods exceeded his expectations, so he wanted to purchase more goods to take back, but he didn't have enough money. Therefore, he approached the branch of the trading firm, hoping to borrow some money first, and would repay the main trading firm and pay interest upon his return. The trading firm was very familiar with this merchant and readily agreed.

The crucial step has arrived: the trading house does not need to lend the merchant real currency, but only needs to issue another note to him (and the merchant can also give the trading house an IOU), stating "this merchant has this amount with our house." With this new note, the merchant can go to the market to make purchases.

The question arises: Is there real currency behind this new note? Obviously not. Thus, modern commercial banks, currency derivation, and fractional reserve (partial reserve, under-reserved) emerged. The aforementioned fully reserved business is referred to as a "narrow bank."

Of course, nowadays, apart from regular banks that hold government-issued licenses, various token operations are basically required to have sufficient reserves, otherwise they will be punished by law. For example, game coins, stored-value membership cards, payment company account balances, and the recently popular stablecoins all belong to tokens with sufficient reserves.

Then, historically, there have often been cases where tokens replaced the original currency, leading to the disappearance of the original currency.

For example, in the early days, some gold standard countries issued banknotes that were actually tokens for gold. In other words, gold was the real currency, and banknotes were merely tokens for gold, which holders could redeem for gold at the issuing department of the state. However, gradually, for various reasons, almost no one would go to redeem them. Eventually, the state simply announced the decoupling of banknotes from gold, and banknotes became currency mandated by state law, non-redeemable for anything.

Thus, paper money evolved from tokens to fiat currency, and gold exited the currency system. Later, paper money was deposited in banks, leading to deposits becoming tokens of fiat currency. Nowadays, paper money is not used much, and deposits have become a more mainstream "currency." Subsequently, there emerged tokens for deposits, such as balances from payment companies... Therefore, the status of tokens and original currencies is not static.

Therefore, tokens are not currency itself, but they can fulfill part of the functions of currency and can be conveniently exchanged back into the original currency. For example, bank deposits can almost fulfill all functions of currency, so they are included in the statistics of the money supply. Of course, we still cannot say that deposits are currency, as the "People's Republic of China Currency Regulations" does not include deposits.

It can be seen that the emergence of tokens is due to people finding some new representative objects that can replace the original currency in fulfilling part of its monetary functions (such as payments), and that in usage, they can achieve certain conveniences that the original currency cannot realize (which certainly includes some behaviors that evade regulation or laws). Therefore, as long as the existing monetary system is not perfect and still has inconveniences, tokens will inevitably emerge to take the place of the original currency in fulfilling its roles.

02 “+Blockchain”

Stablecoins are also a type of token that operates on the blockchain, which can be described as "token + blockchain". With the empowerment of blockchain, stablecoins have achieved certain conveniences that were not possible in the original internet environment.

Blockchain is not as old as tokens, but it cannot be said to be a new phenomenon either, as it has been in operation for many years. Blockchain uses a distributed ledger mathematical algorithm to achieve a function that was impossible to realize in the past internet environment: the transmission of trust.

The internet has been around for about 30 years, enabling almost real-time information transmission, which has fundamentally changed the way humans operate. However, there has always been a challenging problem: how to verify who is on the other side of the internet that we are dealing with, and the authenticity of the information they provide. In various internet applications, chatting and spamming may not require high authenticity, but when it comes to real goods or financial transactions, the requirements for authenticity and security are very high.

When the two parties in a transaction cannot trust each other, the traditional approach is to find a person that both parties mutually trust. For example, bank account settlements are a typical representation of this idea: everyone trusts the bank, everyone has an account at the bank, and the bank is responsible for verifying the authenticity of each client's identity as well as the authenticity of the transaction between the two clients. This model requires a "central" entity, which relies on the credibility of the center, and as a result, it leads to higher transaction costs.

And if that center does something wrong, it would have catastrophic consequences.

Therefore, humanity has attempted to find a decentralized model that does not require a center, allowing for trusted transactions between any two individuals, known as peer-to-peer transactions (P2P). Blockchain and distributed ledgers emerged to solve this problem.

Therefore, the greatest significance of blockchain lies in its ability to convey trust over the internet. Although two people may not know each other, and others have no idea who these two individuals are, it can still guarantee that the transaction between them is trustworthy and cannot be tampered with. In this way, a truly decentralized and community-governed internet model has been found. Thus, Web 3.0 has emerged.

It can be seen that stablecoins are particularly suitable for use in scenarios where there is no central authority, with international trade being a typical example.

In summary, as a stablecoin that combines "token + blockchain", it is backed by a sufficient reserve of tokens and utilizes blockchain technology to enable payments without a trusted central authority, making it a noteworthy attempt. However, in a borderless internet world, two issues still need to be addressed:

(1) Selection of Reserve Currencies

Stablecoins, as tokens, serve to fulfill the functions of currency as a substitute for the original currency. Therefore, the premise is that the original currency is widely accepted for payments. On this basis, the desire for greater convenience has led to the creation of these currency tokens. Thus, under normal circumstances, people tend to choose stablecoins that are backed by the most commonly used local currency (usually the country's legal tender). At this time, the original currency determines the choice of reserve currency for the stablecoin, and the two remain consistent.

However, as mentioned earlier, the greatest contribution of blockchain technology is the realization of true decentralization and public autonomy, which means scenarios without a center, such as international trade. In other words, the largest application scenario for stablecoins is likely to be those beyond the jurisdiction of sovereign states (since local currencies can solve problems well in sovereign scenarios), because it is difficult to find a suitable center for this scenario. Sovereign countries cannot dictate which fiat-backed stablecoins everyone should use in this scenario. This brings about a dilemma: in the future, all stablecoins will compete in the same borderless, centerless digital world, and it will be a question of which is more useful and which is more favored by users.

At that time, if some stablecoins provide great convenience and are favored by more and more people, to the extent that some individuals are unwilling to use their national fiat currency and instead choose to hold this stablecoin, it essentially means that the national fiat currency has been replaced. At this point, the stablecoin has encroached on the space of other fiat currencies. The difficulty of each country's fiat currency maintaining its "walled garden" increases.

In the face of currency competition in a decentralized digital world, a country that wants to maintain its currency sovereignty still needs to develop its comprehensive national strength, produce and master more goods that people around the world want to buy, and maintain the convenience of its domestic fiat stablecoin in order to maintain currency sovereignty in the future digital world.

(2) Risks of Complete Decentralization

Blockchain enables true decentralization, allowing two strangers to conduct efficient transactions without a central authority, which is its most significant innovation compared to the past internet. However, this also clearly provides a hiding space for criminals to engage in illegal transactions.

To address this type of risk, updated regulatory models need to be introduced. For example, in a distributed ledger, regulatory or judicial authorities can reasonably be granted legal authorization to access specific transaction traceability data to ensure the legality and compliance of transactions. Furthermore, due to the borderless nature of stablecoins in the digital world, these regulatory arrangements also require international coordination. The regulation of decentralized financial systems is still not mature enough and has a long way to go.