Crypto payments are unable to break free from traditional finance infrastructures—and that’s good.

Despite its promise of revolutionizing the finance industry, the crypto payments scene has so far been unable to completely break free from traditional finance infrastructures—and that’s a good thing.

Follow the thread of any financial news lately and you’ll eventually land at a discussion of cryptocurrencies, from the early Bitcoin investors who have now become millionaires to proud owners of numerous NFTs ranging from decade-old tweets to images of cartoon apes. Indeed, the incredible growth of the crypto industry over the past few years—driven primarily by individuals and businesses investing in cryptocurrencies—has generated quite a bit of optimism in the global financial space. The emerging sentiment was (and to an extent still is) that this new, decentralized form of currency holds the potential to transform a vast range of financial operations from lending to cross-border payments.

Indeed, the global cryptocurrency market has grown by leaps and bounds over the past two years alone—from US$826.6 million in 2020 to an estimated US$915.8 million in 2022, the latter according to a recent Cryptocurrency Market Report. Experts also forecast that growth will continue at a CAGR of 11.1% until the market size of cryptocurrencies reaches US$1902.5 million by 2028.

With such outstanding growth figures, you’d expect that crypto adoption would become de rigueur not just in finance-industry circles but by the public at large… Yet, as of now, that is still not the case.

How did we get here

With all the hype surrounding cryptocurrencies and blockchain technology these days, it may be hard to remember that the crypto landscape was in its infancy just a decade ago. Since the OG cryptocurrency, Bitcoin, emerged as an online peer-to-peer payment method, the initial approach of crypto companies was to launch the technological infrastructure and wait for the market to start using it for its obvious benefits, such as speed, transparency, and convenience. However, time has shown that this approach doesn’t help crypto’s widespread adoption as a means of payment. Although tech giants like Microsoft and PayPal—and a few other household names like the international coffeehouse chain Starbucks—now accept Bitcoin and several altcoins as payment, you’d still be hard-pressed to buy a can of Coke from the mom-and-pop store on your corner using crypto.

Technological viability is only one side of the coin; it doesn’t mean much on its own when cryptocurrencies must comply with the well-established rules and regulations of traditional finance to achieve mainstream use. While the need for regulation may seem diametrically opposed to the decentralized ethos of crypto and blockchain technology, it is also the major reason why governments have been hesitant to allow crypto payments on a mass scale. Recently, Binance announced that moving forward, it would consolidate certain stablecoins like USDC, USDP and TUSD to BUSD in order to enhance liquidity and capital-efficiency, again revealing certain aspects of centralized decision making by the bigger players still looming around this emerging space.

In reality, the mass adoption of crypto requires a more viable approach that takes advantage of and builds upon what already exists. In practice, this looks like utilizing the traditional system in a way that combines the capabilities of both TradFi and DeFi, paving the way for further innovation in payments.

An overview of total stablecoin supply in the global markets—notice the prevalence of fiat-backed stablecoins USDT and USDC

Bridging traditional finance with crypto: stablecoins

Today, stablecoins have emerged as one of the most salient use cases of cryptocurrencies in the payments landscape. These coins are, for the most part, pegged to fiat money and backed by actual cash and liquid assets, also known as real-world assets (RWA). In other words, they are designed to offer the best of both worlds, which explains why stablecoins are rapidly becoming the medium between crypto and TradFi: not only do they fulfill crypto’s promise of convenient payments by compliantly eliminating the need for intermediaries, but they are also able to mitigate the price volatility commonly associated with crypto markets.

The total market capitalization for stablecoins was US$180 billion at the beginning of May 2022, reflecting a 110% increase YoY from US$86 billion. However, despite their meteoric rise, it’s time we reckoned with the fact that not all stablecoins are created equal.

Why the stablecoin market shakeup is good, actually

Although the May 2022 collapse of TerraUSD (UST)—due in part to the U.S. Federal Reserve tightening its monetary policy following inflation—may cast doubt on the viability of stablecoins as a long-term payments solution, a distinction must be made between algorithmic stablecoins like the UST and RWA-based stablecoins, the best-known example of which remains the US-dollar-pegged USDC, which boasts a market cap of US$51.67 billion as of September 2022. While RWA-based stablecoins use tangible assets to maintain a steady price, algorithmic stablecoins rely on complex calculations to link two separate coins and stabilize the price through supply and demand manipulation. As such, algorithmic stablecoins remain largely uncollateralized, and therefore a riskier investment than their fiat-backed counterparts. (There is a third category still, of crypto-collateralized stablecoins which utilize cryptocurrencies as their backing, but for our purposes we will focus on algorithmic vs. fiat-backed stablecoins.)

An overview of TerraUSD and Luna’s collapse in spring 2022, as well as their immediate impact on the market size of other cryptocurrencies and stablecoins Source:

An argument could be made that the downfall of UST goes a long way in highlighting the key advantages of RWA-based stablecoins over algorithmic ones. While “truly stable” fiat-based stablecoins such as the USDC and the USDT (Tether) may not be fully decentralized in the way crypto natives envisioned, they represent a functional compromise between DeFi and TradFi that’s able to alleviate some of the concerns of governments and large financial institutions such as central banks. In fact, over in the UK, Prince Charles presented the idea of a crypto bill in May, during the Queen’s annual address to the British Parliament, right amidst the market crash of Terra. This announcement by the UK government that fully-backed stablecoins will be legalized and regulated is further proof that the stablecoins market—like most other markets—has the potential to self-correct, to let untenable contenders like Terra fall to the wayside as it marches on with its strongest players like the USDC.

What does all this mean for TradFi?

Given all that we know about the complexities and intricacies of the mass-scale adoption of stablecoins and blockchain technology, it may be tempting for some to yearn for a return to the status quo of TradFi systems—but that approach majorly misses the mark, and the fact remains that DeFi emerged for a reason.

As of 2022, our established financial systems are still slow, costly, highly centralized, and dependent on holidays and banking hours. Financial inclusion and access to credit still pose problems for both individuals and businesses, while the extra-long payments processes and wait times at traditional banks preclude many from doing business on a global scale. In the massive payments sector, real-time cross-border money transfers are either impossible or come with high costs and extra-slow bureaucracy—making it all the more imperative to find solutions for B2B transfers on a global scale. In short, traditional finance needs blockchain technology, digital assets, and a regulatory framework to meet the growing demand for cross-border payments—now more than ever.

Although the collapse of Terra and Luna might have damaged public trust in stablecoins in the short run, both stablecoins and blockchain technology are undoubtedly the future of the global finance industry, and they are here to stay. If anything, the market shakeup serves to remind us that a regulatory framework is necessary to ensure the safety of users while supporting mainstream adoption.

On the whole, we are still in the very early stages of understanding the potential crypto carries for the future of cross-border payments, yet as the need for faster, easier, and more transparent payments grows, stablecoins can bring easily understood use cases for mass adoption.

For crypto natives, buying and using stablecoins is almost second nature—but for the players outside the industry, there are still many questions to be answered, such as which TradFi infrastructure will support which use case of stablecoins and how. The good news is that we are witnessing more concrete steps being taken towards an elevated version of finance, with the wider adoption of fiat-based, attested, and audited stablecoins helping us all navigate these uncharted waters.

The shift we are currently experiencing brings numerous opportunities for players who combine the best of Web3 technologies with traditional finance to thrive in the marketplace. Add to that the proliferation of successful partnerships across the industry, and it becomes easier to see how digital assets will grow their presence in payments, bringing even more substantial outcomes that will accelerate the ongoing shift in finance. Even though the industry is still fixing some of the initial early kinks, the future is bright with untethered potential.

Author Bios:

Aly Madhavji 穆亚霖 is the Managing Partner at Blockchain Founders Fund which invests in and builds top-tier venture startups. He is a limited partner on Loyal VC. Aly consults organizations on emerging technologies, such as INSEAD and the United Nations on solutions to help alleviate poverty. He is a senior blockchain fellow at INSEAD and was recognized as a “Blockchain 100” Global Leaders of 2019 by Lattice80. Aly has served on various advisory boards, including the University of Toronto’s Governing Council.

Ali Erhat Nalbant is the CEO and Co-founder of Arf, a global settlement banking platform for licensed money service businesses and financial institutions. He is a seasoned entrepreneur with more than 15 years of experience in product development and consulting, with Arf being his 3rd fintech startup.

Prior to Arf, he started the world’s largest pre-seed startup accelerator The Founder Institute’s Istanbul branch and held the Director role for 7 years. At Founder Institute Istanbul, he has reviewed and mentored more than 500 startups with 50 graduates. He is an ex-software developer, ex-Deloitte, and HBR author with more than 10 years of product development and consulting experience with over 25 international clients in EMEA.