Coming UnTethered — Crypto’s Favorite Stablecoin Under Fire

Tether, the allegedly U.S. dollar-backed stablecoin has been under regulatory iron sights for some time, but that hasn’t stifled its use nor its popularity.

Tien Ma, a 40-year-old delivery truck driver, happily trundled across the Nanfang’ao Bridge in Taiwan’s Yilan County, a trip that he had made countless times, hauling fresh fish from the city’s fishing port to its fish market several miles away.

With the radio blasting Taiwanese pop idol JJ Lin’s latest hit, Ma sped along the bridge with nary a care in the world.

But despite the countless trips across the bridge that Tian Ma had made in the past two decades, this morning’s bridge crossing would be different.

As Ma’s three-ton Toyota Dyno truck put its weight to bear on the Nanfang’ao Bridge, years of rain damage and weakened structural supports for the bridge, undermined by a recent typhoon, sent the single-arch bridge crashing into the waters below, taking with it a small fleet of fishing boats underneath the bridge and Ma to a watery and early grave.

As emergency and rescue services raced to the site of the Nanfang’ao Bridge to rescue survivors, a governmental inquiry committee was immediately convened to investigate the cause of the collapse.

A local landmark, the Nanfang’ao Bridge, built in 1998 and spanning a small fishing port was utilized regularly by locals with each successive travel on the bridge’s expanse obscuring any concerns about its underlying safety and integrity.

Because while heavy rains and strong winds have long lashed the eastern coast of Taiwan, testing the integrity of the infrastructure in that region, it was a fine day when the Nanfang’ao Bridge collapsed — proving that a bridge is only as safe as its last journey.

Last Stablecoin Standing

So when a class-action lawsuit was filed against Tether and Bitfinex last Monday at the Court of the Southern District of New York, it was just the latest lashing in a string of challenges on the allegedly dollar-backed stablecoin leaving traders scratching their heads on whether or not this will be the last shoe to fall.

For the uninitiated, Tether is a cryptocurrency whose value is pegged to the dollar and has long been used by cryptocurrrency traders to enter and exit positions quickly on cryptocurrency exchanges.

While it has been alleged by critics that Tether is used to manipulate the price of Bitcoin and other cryptocurrencies, that hasn’t stopped its ascent to become what is arguably the most popular and heavily utilized cryptocurrency in the world.

To be sure, that Tether is the most heavily utilized cryptocurrency speaks more to its potential as being a tool for the manipulation of Bitcoin, than it does to its popularity.

According to data from CoinMarketCap.com, a website posting algorithmically-weighted cryptocurrency prices, Tether is the cryptocurrency with the highest daily and monthly trading volumes, with trading about 30 times the size of the stablecoin’s market capitalization.

And in April this year, Tether’s volume surpassed that of Bitcoin for the first time.

Speaking to Bloomberg, Lex Sokolin, global financial technology co-head at Consensys, a blockchain technology firm said,

“If there is no Tether, we lose a massive amount of daily volume — around US$1 billion or more depending on the data source.”

And while Tether may be the world’s most heavily used stablecoin, it’s difficult to say whether the bulk of that use is in the manipulation of Bitcoin’s price, or the result of organic demand for the cryptocurrency itself.

According to the lawsuit filed in New York last Monday,

“Tether issued extraordinary amounts of unbacked USDT to manipulate cryptocurrency prices. Because the market believed the lie that one USDT equalled one US dollar, Bitfinex and Tether had the power to, and did, manipulate the market on an unprecedented scale to profit from boom-and-bust cycles they created.”

But whether or not Tether is actually backed by dollars seems to be of secondary importance to the legions of traders who use the stablecoin.

Don’t Ask Don’t Tell

In China for instance, where cryptocurrency exchanges are banned, people can pay cash over the counter to get Tether with few questions asked and from there trade Tether for Bitcoin and other cryptocurrencies.

According to Sokolin,

“For many people in Asia, they like the idea that it’s this offshore, opaque thing out of reach of the U.S. government.”

Then there are the scores of people who use Tether without even knowing that they’re using the stablecoin.

Thaddeus Dryja, a research scientist at the Massachusetts Institute of Technology notes that because most cryptocurrency exchanges have limited access to bank accounts and traditional banking services, many will hold Tether on behalf of their customers.

According to Dryja,

“I don’t think people actually trust Tether — I think people use Tether without realizing that they are using it, and instead think they have actual dollars in a bank account somewhere.”

And the way that Tether is managed means that holding onto Tether for any extended period of time creates risks of its own.

While Bitcoin is not controlled (at least as far as is known) by a central authority, Tether is issued by a Hong Kong-based private company whose proprietors also own Bitfinex, one of the world’s largest cryptocurrency exchanges and a primary conduit for dollar-based Bitcoin trading.

Then there’s the mechanism by which Tether’s supply is increased and decreased which is unclear to say the least.

Technically, if one Tether were backed by one dollar, the mechanism ought to be straightforward — a Tether is issued every time a dollar is deposited.

But that just simply isn’t the case with Tether, whose management and governance mechanism has been likened to a “black box.”

Exactly how much of Tether’s supply is backed by physical dollars is impossible to say.

Don’t Be The Last One Across The Bridge

In April this year, at roughly the time when Tether’s circulation surpassed that of Bitcoin’s, Tether disclosed that only 74% of Tether is covered by cash and short-term securities, in a response to the Supreme Court of the State of New York — which is vastly different from the 100% claim made earlier.

Even more interestingly, Tether was alleged to always have been backed by dollars, which the disclosure has now revealed has been expanded to encompass securities as well.

The April disclosure by Tether would never have come to light had it not been for the ongoing investigation into the company by the New York Attorney General, which has accused the companies behind the stablecoin of a cover-up to hide the loss of US$850 million of co-mingled client and corporate funds.

But then, should traders care anyway?

They should if the bulk of their dollar deposits are tied up in Tether, because one never knows when one’s truck is happily trundling across the bridge and causes its collapse.

Otherwise, the sheer convenience provided by Tether means that for the large part, most traders are quite comfortable to take the risks inherent with using the Tether bridge on a daily basis.

Tether has more trading pairs and exists on more cryptocurrency exchanges than any other stablecoin, regulated or otherwise.

Tether’s widespread use also means that liquidity, should one want to trade his or her Tether for Bitcoin or some other cryptocurrency, is more or less guaranteed.

And because Tether has proved instrumental to the growth of countless cryptocurrency exchanges, there are some who suggest that these same exchanges are likely to back the embattled stablecoin when the chips are down — simply because these exchanges can’t afford for Tether to fail.

Former head of trading technologies at Galaxy Digital, Dan Raykhman suggests,

“There’s this implicit support from all these exchanges to help Tether stay afloat.”

While dozens of stablecoins have come out in the past year alone, many of which have been the subject of far more stringent audit and regulatory oversight, Tether continues to stand heads and shoulders above the rest in terms of ubiquity.

Because there continues to be a school of thought that whether or not Tether is backed one-for-one is irrelevant, the question is whether or not the stablecoin has utility.

Given that Tether has been around since 2014 (a lifetime in crypto circles) and has retained its value, presents more than a decent case for its continued use.

Often in the cryptosphere, convenience trumps certainty, meaning that as long as a use case for Tether exists, traders will be willing to look the other way when it comes to Tether’s recently revealed fractional-backing policy.

To be sure, even banks practice fractional reserve banking — where deposits reflected in one’s bank account are not reflective of actual amounts held at the bank and are more aspirational in nature rather than actual.

But most developed countries back deposits below a certain amount and at no point in time has it ever been a secret that banks practice fractional reserve banking — the same cannot be said for Tether.

And while Tether has often claimed (up till recently) that every Tether is backed by an actual dollar, as long as not every Tether holder draws down on those dollars simultaneously, the truth in Tether’s claims would never be tested.

Against this backdrop, traders who use Tether know better than most that whether or not there are actual dollars backing Tether is not the correct question to be asking, the correct question to be asking is whether or not your truck is the one crossing the bridge if and when it collapses.