Stablecoins, once seen as a straightforward way to keep funds secure whilst operating in the volatile world of cryptocurrency, are now becoming the centre of intense competition and are beginning to be seen as an alternative way to make payments in general. Traditionally, providers such Tether and Circle have thrived by offering stability without the need to pay users any returns. The logic was simple: users were content with the assurance that their money was safe in an industry fraught with risk, especially since DeFi platforms often provided attractive yields for stablecoin holders. Tether, with its market cap of $117 billion and Circle, with $34 billion, have dominated this space by earning interest on users' funds through avenues such as US Treasuries - without sharing these profits with their customers. Tether made $5.2billion in the first half of 2024 and Circle, backed by BlackRock and the Circle, is now looking to do an IPO - although it is possible to generate a yield on a stablecoin by staking or lending ones stablecoins. Indeed, in February 2024, Archax (the UK’s first regulated digital exchange) launched a service to help owners of stablecoins to generate a yield. Meanwhile, US-based cryptocurrency exchange, Kracken, is offering 5% for those holders of Tether who would like this stablecoin to be staked. However, stablecoins are subject to a degree of confusion. On the one hand you have a €stablecoin from a highly regarded French bank, Societie Generale, and its EURCV which is backed by €. Arguably, at the opposite end of the risk spectrum for stablecoins you have USDe which has an investment objective to track the US$; its investment strategy was offering a 27% yield by its neutral delta hedging and had accumulated over $3.5billion of assets. And recently, PayPal has entered this lucrative market with its PYUSD stablecoin, aiming to disrupt the status quo.
Yet, despite being a traditional finance (TradFi) giant - capitalised at over £55billion - PayPal's initial foray into the stablecoin market was met with scepticism, especially as PYUSD lagged behind established competitors with a market cap of less than $1 billion. Recognising the challenge, PayPal has adopted an aggressive strategy to boost PYUSD's adoption, offering significant incentives to users who deposit their stablecoins on select DeFi platforms. For instance, PayPal has partnered with Kamino and Drift (two Solana-based DeFi protocols) to offer returns as high as 18% on PYUSD deposits. And these incentives have been effective; within a month, PYUSD’s market cap surged and after a year has now grown to $960million, signalling a positive response from the market. Furthermore, this move by PayPal represents a significant shift in the stablecoin landscape, where direct financial rewards are now being used to attract users - a strategy that could force other providers to follow suit. PayPal has also entered into a relationship with Anchorage which has over $50billion of assets under custody and is offering ‘rewards’. Is this interest or could these rewards be seen as airdrops? The amount of money being spend on airdrops is sizable and growing with some estimates claiming so far this year, more than $4 billion worth of free tokens and coins has been given away in the form of airdrops. As to whether PayPal is looking to position its ‘rewards ‘ as an airdrop is important because in the US, airdrops are treated as a taxable event whilst in the UK, airdrops are not taxable.
Meanwhile, looking at historical precedents, we see that PayPal's strategy is not entirely new but is a refined iteration of what other financial products have done in the past. For example, high-yield savings accounts once reshaped traditional banking by offering better returns on deposits, so leading to widespread adoption as banks competed for customers’ funds. Similarly, in the credit card industry, reward programs and cash-back incentives were used to draw users away from competitors, fundamentally changing consumer expectations. And, in the stablecoin market, we might see similar dynamics play out. If PayPal’s incentive-driven approach continues to succeed, it could trigger a ripple effect and so push other stablecoin providers such as Tether and Circle to offer returns or other forms of rewards to retain their user base. Moreover, this potential shift could redefine the economics of stablecoins, making them not merely a tool for stability but also an investment vehicle with tangible returns. However, it is important to note that whilst these incentives are attracting users, they are likely to be unsustainable in the long term. And, much like initial promotional interest rates or credit card bonuses, these high yields may decrease once PayPal has established a foothold in the market. Nevertheless, the impact of this strategy could have lasting effects on user expectations and the competitive landscape, prompting stablecoin providers to continually innovate in order to maintain or grow their market share.
So, PayPal’s entry into the stablecoin market with PYUSD is more than simply another digital currency launch; it is a strategic move that could reshape the entire industry. By offering high-yield incentives, PayPal is challenging the traditional no-return model that has long been the norm for stablecoins. As this competition heats up, it will be interesting to see how Tether, Circle and other players respond and whether they, too, will begin to share their substantial interest earnings with their users. Certainly, this battle for market dominance in the stablecoin space could ultimately lead to a more dynamic and user-friendly ecosystem where the lines between traditional finance and decentralised finance continue to blur.
This article first appeared in Digital Bytes (10th of September, 2024), a weekly newsletter by Jonny Fry of Team Blockchain.