In a speech before the U.S. Monetary Policy Forum, Federal Reserve Board ("FRB") Governor Lael Brainard highlighted the increasing digitalization and decentralization of global finance and considered the implications of such trends for the financial system.

Ms. Brainard highlighted five areas for the FRB as it plans for the future of the financial system:

  • The Evolving Digitalization and Decentralization of Finance: Ms. Brainard argued that it is important to develop robust statutory and regulatory frameworks that deal with both digital payment mechanisms (particularly, stablecoins) and the delivery of services through decentralized finance platforms.
  • Preparing for the Payment System of the Future: Ms. Brainard emphasized that the FRB "needs to be preparing for the payment landscape of the future." She argued that the FRB should further consider how the possible development and implementation of a U.S. central bank digital currency ("CBDC") will affect the FRB's "responsibilities to maintain financial stability, a safe and efficient payment system, household and business access to safe central bank money, and maximum employment and price stability." She highlighted the Federal Reserve's recent issuance of a discussion paper analyzing various policy and design considerations implicated by a U.S. CBDC.
  • Financial Stability: Ms. Brainard noted that the FRB's consideration of a U.S. CBDC must include an analysis of how the usage of a CBDC would affect financial stability both currently and in the future. In particular, Ms. Brainard (i) highlighted the potential implications of a U.S. CBDC regarding financial intermediation, and (ii) discussed the possibility of a future in which CBDCs coexist alongside privately issued stablecoins and commercial bank money.
  • International Considerations: Ms. Brainard emphasized the international implications of a CBDC, for both cross-border payments and domestic payment systems, and highlighted the rollout by China of a digital yuan in a number of Chinese cities. Ms. Brainard stated that a U.S. CBDC "may be one potential way to ensure that people around the world who use the dollar can continue to rely on the strength and safety of U.S. currency to transact and conduct business in the digital financial system." Additionally, she noted that policymakers should consider how the United States can "continue to play a lead role in the development of standards governing international digital financial transactions involving CBDCs consistent with norms such as privacy and security."
  • Technology Research and Experimentation: Ms. Brainard argued that the FRB must familiarize itself with new and developing technologies, including the technology underlying the digitization of the financial system. She pointed out that the FRB is currently analyzing how distributed ledger technology and other financial innovations may improve the financial system and emphasized that such research includes "experimentation with stablecoin interoperability and testing of retail payments across multiple distributed payment ledger systems."

Commentary

Both the banking regulators and the futures regulators are actively engaged in considering how their regulations should apply to digital assets. (Substantial praise is due in this regard to former CFTC Commissioner J. Christopher Giancarlo.)

The SEC remains the recalcitrant regulator in this regard. Of course, digital assets should not entirely escape the securities laws; there is a need for investor protection. Likewise, the notion that there should be a single new regulator for all digital assets is a nonstarter. Digital assets that are securities will continue to be regulated by the SEC; those that are futures or swaps will be regulated by the CFTC, and so on.

But the conclusion that there is not the need (and certainly not the possibility) of a revolution in the regulation of financial services does not mean that there is not a need for evolution. SEC Commissioner Hester Peirce put forward a very reasonable proposal as to how the SEC might regulate digital assets that are securities. It does not need to be adapted in full, but it certainly deserves consideration as a starting point. See generally Cabinet Commentary: The Securities Law Treatment of Utility Tokens.

Commentary

Governor Brainard's comments on stablecoin market concentration are important. Ms. Brainard notes that there "is a high degree of concentration among a few dollar-pegged stablecoins: as of January 2022, the largest stablecoin by market capitalization made up almost half of the market, and the four largest stablecoins together made up almost 90 percent" (pp. 1-2). Moreover, she highlights the fact that stablecoins are being used as a means of access to decentralized financial markets and other crypto platforms, "as well as in facilitating trading and monetization of cryptocurrency positions on and between crypto and other platforms" (p. 2). When discussing the financial stability concerns of the evolving digital asset and payment ecosystems, Ms. Brainard emphasizes that if "current trends continue, the stablecoin market in the future could come to be dominated by just one or two issuers" (p. 7, emphasis added). 

Setting aside Ms. Brainard's comments on the potentially positive effects for U.S. financial system stability of the possible coexistence of a CBDC alongside stablecoins and commercial bank money, if the largest stablecoin (as measured by market capitalization) already makes up almost half of the market, one might argue that the stablecoin market is already  dominated by one issuer.

Ultimately, Ms. Brainard's comments on stablecoin market concentration raise certain questions that should be considered by financial regulators and policymakers, including:

  • What is the threshold for considering a financial market to be concentrated? What factors should be considered in determining financial market concentration?
  • At what point does financial market concentration (i) pose risks for the stability of the U.S. financial system, and (ii) require regulatory action to mitigate such risks?
  • Regarding the stablecoin market specifically, is there an economically efficient level of market concentration? If so, how should that level be determined, and how should it be balanced against the risks posed by concentration?
  • Given that the four largest stablecoins make up almost 90 percent of the stablecoin market, what are the current effects of stablecoin market concentration with respect to U.S. financial stability? What financial stability risks are currently posed by the high degree of concentration among dollar-pegged stablecoins? 

Primary Sources

  1. Federal Reserve Bank Governor Lail Brainard Speech: Preparing for the Financial System of the Future

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