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'Over-Collateralization Can Help Mitigate the Risk of Stablecoin Depegging' — Pendulum CTO
April 07, 2023
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Despite being touted as a game-changing innovation, the decentralized finance (defi) ecosystem is still not connected to fiat rails largely because of regulatory and compliance issues, Torsten Stuber, the CTO at Pendulum says. According to Stuber, the defi ecosystem will succeed in getting more traditional financial institutions on board once “a substantial amount of liquidity needed to facilitate efficient trading” is in place.

Defi’s Perceived Lack of Regulation a Barrier to Adoption

In addition, Stuber, whose firm uses the Polkadot blockchain to bring fiat networks to the decentralized finance ecosystem, suggested increased education and awareness as the other ways defi proponents can bring traditional financial institutions on board.

The Pendulum CTO also shared his views on central bank digital currencies (CBDCs), and their benefits and likely risks to defi. In written responses sent to Bitcoin.com News Stuber also explained why the integration of CBDCs into defi systems is something that goes against the very essence of decentralization. The CTO also explained why having more collateral could be a solution to the problem of stablecoins depegging during extreme market events.

Below are Stuber’s responses to the questions sent by Bitcoin.com News.

Bitcoin.com News (BCN): The foreign exchange market is believed to be a more than $6 trillion market that runs on the infrastructure built by traditional financial institutions. Some have suggested that forex trading based on decentralized finance (defi) can potentially improve the efficiency of, or access to, this market. However, for this to happen, some argue that the defi space needs to be developed further. To help readers understand why defi is potentially a game changer, can you briefly define decentralized forex trading and how this could potentially benefit traditional businesses, fintechs, or even traders?

Torsten Stuber (TS): Decentralized forex trading refers to the process of conducting foreign exchange transactions on a decentralized platform, typically built on a blockchain network. By leveraging smart contracts and automated market makers (AMMs), decentralized forex trading aims to improve the efficiency, transparency, and accessibility of the traditional forex market.

To be more specific, I particularly want to stress the following advantages. First, decentralized forex trading will lower transaction costs by eliminating intermediaries. Second, blockchain-based platforms record all transactions on a transparent distributed ledger – this can help minimize market manipulation and fraudulent activities. Third, traditional forex markets operate within specific trading hours, depending on the region, whereas decentralized forex trading platforms function round-the-clock, allowing businesses and traders to conduct transactions anytime and anywhere; even more, they facilitate seamless cross-border transactions, bypassing geographical restrictions. Finally, the cryptographic principles underlying blockchain technology provide a more secure infrastructure for conducting forex transactions.

The integration of smart contracts enables the creation of customizable, automated financial services, such as specialized forex automated market makers (AMMs), lending protocols, and yield farming opportunities. This can unlock new revenue streams for fintechs and traditional businesses. By integrating traditional forex markets with DeFi applications, Pendulum aims to create a shared financial infrastructure that bridges the gap between centralized and decentralized finance.

(BCN): Despite boasting advantages over conventional finance, the defi ecosystem is still not as connected to fiat rails as some would have liked. What do you think are some of the reasons for this state of affairs?

TS: Connecting fiat rails to Defi presents several challenges, which have limited the widespread adoption of a decentralized forex. One of the most important challenges is regulatory and compliance issues: Defi platforms typically operate in a decentralized, permissionless manner, which can create uncertainty in terms of regulatory compliance. As traditional financial institutions are subject to strict regulations, bridging the gap between fiat and Defi ecosystems requires addressing these concerns and ensuring adherence to applicable laws and regulations, such as AML/KYC requirements.

Furthermore, there are liquidity concerns. On-chain forex requires a substantial amount of liquidity to facilitate efficient trading and reduce price slippage. However, attracting liquidity from traditional forex markets to Defi platforms remains a challenge, as many institutional investors are still hesitant to venture into the crypto space.

The complexity of Defi platforms and the lack of understanding around their potential benefits may deter traditional businesses from engaging in on-chain forex activities. Increased education and awareness are needed to promote its adoption.

To overcome these obstacles, Pendulum aims to build a blockchain platform that combines traditional finance with Defi. By addressing regulatory concerns, enhancing liquidity, improving technological capabilities, and promoting education, Pendulum can help to establish a shared financial infrastructure for on-chain forex.

BCN: It can be argued that one of the main challenges that traditional finance companies face when trying to adopt or incorporate defi is the perceived lack of regulation. In your opinion, is it possible for traditional financial institutions to be able to interact with defi platforms without finding themselves on the wrong side of regulations?

TS: Traditional financial institutions can adopt Defi while maintaining compliance with regulations by focusing on a few strategies. One of the most important activities is to proactively collaborate with regulators: engaging in open dialogue with regulatory bodies can help to better understand the evolving regulatory landscape and ensure that any interaction with Defi platforms complies with applicable laws. Proactively working with regulators can also help shape future policies that facilitate a smooth integration of Defi into the traditional financial ecosystem.

Additionally, Tradfi [traditional finance] companies should adopt strict anti-money laundering (AML) and know-your-customer (KYC) procedures when dealing with Defi platforms. Another strategy is to collaborate with established and compliant Defi providers – these partnerships can help develop compliant Defi solutions tailored to the needs of traditional finance companies.

I would also recommend that institutions invest in training programs to educate their employees about Defi, its potential benefits, and associated regulatory challenges. This knowledge can help organizations make informed decisions and navigate the regulatory landscape more effectively.

BCN: On the topic of central bank digital currencies (CBDCs), proponents of the assets have often touted such digital currencies as better alternatives to privately created or issued coins. Some of these advantages are the ability to trace funds which allows authorities to target criminals that move funds via the traditional financial system. However, the same CBDCs come with risks that are not palatable to defi users. In your opinion, what do you think are some of the biggest risks associated with CBDCs for defi users and what degree of anonymity or traceability should these central bank-issued digital currencies ideally offer?

TS: Central Bank Digital Currencies (CBDCs) present both opportunities and risks for DeFi users. The main difference from decentralized assets is that they are issued and controlled by central banks. For that reason, they are subject to strict regulatory oversight and may involve extensive monitoring and data collection. DeFi users may face new regulatory requirements or restrictions when using CBDCs on DeFi platforms, or they may face the potential loss of privacy compared to using cryptocurrencies. CBDCs, by nature, are centralized currencies. The integration of CBDCs into DeFi systems could introduce centralized points of control and potentially weaken the decentralized nature of these platforms, impacting the core principles of DeFi.

Regarding the degree of anonymity or traceability of CBDCs, a balance must be struck between ensuring user privacy and enabling sufficient traceability to prevent illicit activities such as money laundering and tax evasion. Central banks may choose to implement varying degrees of anonymity or pseudonymity for CBDCs, offering privacy for users up to a certain transaction limit or implementing tiered identity verification requirements based on transaction size or risk.

BCN: We recently had a few episodes of stablecoins depegging or disappearing totally and this has raised a lot of questions. As many have learned, extreme events often cause tokens that are pegged against local fiat currencies to lose their value. How would you ensure that the tokens pegged to local fiat currencies don’t depeg in extreme events?

TS: This very much depends on the pegging mechanism. We particularly support one-to-one fiat-backed tokens that can be freely on-ramped and off-ramped anytime and in a compliant manner by exchanging one unit of the fiat currency for one token and vice versa. For such tokens, the risk of de-pegging can be lowered by guaranteeing a frictionless and highly efficient off-ramping and on-ramping mechanism and creating user trust that such a mechanism will always be available (e.g., by proving that sufficient reserves are available).

For more complex stablecoin constructs, one should adopt a mix of strategies to mitigate risk. Stablecoins pegged to local fiat currencies should be adequately backed by a basket of diversified assets, such as cash or short-term government bonds. In the case of crypto-collateralized stablecoins, requiring over-collateralization can help mitigate the risk of de-pegging. By holding more collateral than the value of the issued stablecoins, the system can better absorb fluctuations in the collateral’s value and maintain the peg during extreme market conditions.

As a general principle, ensuring transparency and conducting regular audits can help build trust and credibility in the stablecoin’s backing assets and stabilization mechanisms. This transparency can help users monitor the token’s stability and make informed decisions, contributing to overall market stability.

BCN: Your firm is reported to have teamed up with Getpaid Africa to enable on and off-ramp connections between Pendulum’s defi network and East African currencies. Why did you choose the East African markets for this sort of initiative?

TS: African and particularly East African markets present a unique opportunity for such a partnership. East Africa has experienced rapid growth in mobile money services. This widespread adoption of digital financial services provides a solid foundation for introducing Defi solutions that can seamlessly integrate with existing mobile money platforms, making it easier for users to access and adopt Defi products. In addition, some East African countries have shown a relatively progressive and forward-looking approach to digital financial services and cryptocurrencies – this favourable regulatory environment can facilitate the adoption of Defi solutions.

There is high demand for innovative financial services. A significant portion of the population in East Africa remains unbanked or underbanked. By offering accessible Defi solutions, Pendulum and Getpaid.Africa can help promote financial inclusion for these underserved communities.

The East African region receives a substantial amount of remittances. Pendulum can help streamline remittance processes, reduce transaction fees, and provide faster, more secure cross-border transactions.

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🤔 What’s Changing?

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Musk Turns On Starlink to Save Iranians from Regime’s Internet Crackdown

Elon Musk, the world’s richest man and a visionary behind SpaceX, has flipped the switch on Starlink, delivering internet to Iranians amid a brutal regime crackdown.

This move comes on the heels of Israeli strikes targeting Iran’s nuclear facilities, as the Islamic Republic cuts off online access.

The former Department of Government Efficiency chief activated Starlink satellite internet service for Iranians on Saturday following the Islamic Republic's decision to impose nationwide internet restrictions.

As the Jerusalem Post reports, that the Islamic Republic’s Communications Ministry announced the move, stating, "In view of the special conditions of the country, temporary restrictions have been imposed on the country’s internet."

This action followed a series of Israeli attacks on Iranian targets.

Starlink, a SpaceX-developed satellite constellation, provides high-speed internet to regions with limited connectivity, such as remote areas or conflict zones.

Elizabeth MacDonald, a Fox News contributor, highlighted its impact, noting, "Elon Musk turning on Starlink for Iran in 2022 was a game changer. Starlink connects directly to SpaceX satellites, bypassing Iran’s ground infrastructure. That means even during government-imposed shutdowns or censorship, users can still get online, and reportedly more than 100,000 inside Iran are doing that."

During the 2022 "Woman, Life, Freedom" protests, Starlink enabled Iranians to communicate and share footage globally despite network blackouts," she added.

MacDonald also mentioned ongoing tests of "direct-to-cell" capabilities, which could allow smartphone connections without a dish, potentially expanding access and supporting free expression and protest coordination.

Musk confirmed the activation, noting on Saturday, "The beams are on."

This follows the regime’s internet shutdowns, which were triggered by Israeli military actions.

Adding to the tension, Israeli Prime Minister Benjamin Netanyahu addressed the Iranian people on Friday, urging resistance against the regime.

"Israel's fight is not against the Iranian people. Our fight is against the murderous Islamic regime that oppresses and impoverishes you,” he said.

Meanwhile, Reza Pahlavi, the exiled son of Iran’s last monarch, called on military and security forces to abandon the regime, accusing Supreme Leader Ayatollah Ali Khamenei in a Persian-language social media post of forcing Iranians into an unwanted war.

Starlink has been a beacon in other crises. Beyond Iran, Musk has leveraged Starlink to assist people during natural disasters and conflicts.

In the wake of hurricanes and earthquakes, Starlink has provided critical internet access to affected communities, enabling emergency communications and coordination.

Similarly, during the Ukraine-Russia conflict, Musk activated Starlink to support Ukrainian forces and civilians, ensuring they could maintain contact and access vital information under dire circumstances.

The genius entrepreneur, is throwing a lifeline to the oppressed in Iran, and the libs can’t stand it.

Conservative talk show host Mark Levin praised Musk’s action, reposting a message stating that Starlink would "reconnect the Iranian people with the internet and put the final nail in the coffin of the Iranian regime."

"God bless you, Elon. The Starlink beams are on in Iran!" Levin wrote.

Musk, who recently stepped down from leading the DOGE in the Trump administration, has apologized to President Trump for past criticisms, including his stance on the One Big Beautiful Bill.

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GENIUS Act lets State banks conduct some business nationwide. Regulators object

The Senate passed the GENIUS Act for stablecoins last week, but significant work remains before it becomes law. The House has a different bill, the STABLE Act, with notable differences that must be reconciled. State banking regulators have raised strong objections to a provision in the GENIUS Act that would allow state banks to operate nationwide without authorization from host states or a federal regulator.

The controversial clause permits a state bank with a regulated stablecoin subsidiary to provide money transmitter and custodial services in any other state. While host states can impose consumer protection laws, they cannot require the usual authorization and oversight typically needed for out-of-state banking operations.

The Conference of State Bank Supervisors welcomed some changes in the GENIUS Act but remains adamantly opposed to this particular provision. In a statement, CSBS said:

“Critical changes must be made during House consideration of the legislation to prevent unintended consequences and further mitigate financial stability risks. CSBS remains concerned with the dramatic and unsupported expansion of the authority of uninsured banks to conduct money transmission or custody activities nationwide without the approval or oversight of host state supervisors (Sec. 16(d)).”

The National Conference of State Legislatures expressed similar concerns in early June, stating:

“We urge you to oppose Section 16(d) and support state authority to regulate financial services in a manner that reflects local conditions, priorities and risk tolerances. Preserving the dual banking system and respecting state autonomy is essential to the safety, soundness and diversity of our nation’s financial sector.”

Evolution of nationwide authorization

Section 16 addresses several issues beyond stablecoins, including preventing a recurrence of the SEC’s SAB 121, which forced crypto assets held in custody onto balance sheets. However, the nationwide authorization subsection was added after the legislation cleared the Senate Banking Committee, with two significant modifications since then.

Originally, the provision applied only to special bank charters like Wyoming’s Special Purpose Depository Institutions or Connecticut’s Innovation Banks. Examples include crypto-focused Custodia Bank and crypto exchange Kraken in Wyoming, plus traditional finance player Fnality US in Connecticut. Recently the scope was expanded to cover most state chartered banks with stablecoin subsidiaries, possibly due to concerns about competitive advantages.

Simultaneously, the clause was substantially tightened. The initial version allowed state chartered banks to provide money transmission and custody services nationwide for any type of asset, which would include cryptocurrencies. Now these activities can only be conducted by the stablecoin subsidiary, and while Section 16(d) doesn’t explicitly limit services to stablecoins, the GENIUS Act currently restricts issuers to stablecoin related activities.

However, the House STABLE Act takes a more permissive approach, allowing regulators to decide which non-stablecoin activities are permitted. If the House version prevails in reconciliation, it could result in a significant expansion of allowed nationwide banking activities beyond stablecoins.

Is it that bad?

As originally drafted, the clause seemed overly permissive.

The amended clause makes sense for stablecoin issuers. They want to have a single regulator and be able to provide the stablecoin services throughout the United States. But it also leans into the perception outside of crypto that this is just another form of regulatory arbitrage.

The controversy over Section 16(d) reflects concerns about creating a regulatory gap that allows banks to operate interstate without the oversight typically required from either federal or state authorities. As the two Congressional chambers work toward reconciliation, lawmakers must decide whether stablecoin legislation should include provisions that effectively reduce traditional banking oversight requirements.

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Dubai regulator VARA classifies RWA issuance as licensed activity
Virtual Asset Regulatory Authority (VARA) leads global regulatory framework - makes RWA issuance licensed activity in Dubai.

Real-world assets (RWAs) issuance is now licensed activity in Dubai.

~ Actual law.
~ Not a legal gray zone.
~ Not a whitepaper fantasy.

RWA issuance and listing on secondary markets is defined under binding crypto regulation.

It’s execution by Dubai.

Irina Heaver explained:

“RWA issuance is no longer theoretical. It’s now a regulatory reality.”

VARA defined:

- RWAs are classified as Asset-Referenced Virtual Assets (ARVAs)

- Secondary market trading is permitted under VARA license

- Issuers need capital, audits, and legal disclosures

- Regulated broker-dealers and exchanges can now onboard and trade them

This closes the gap that killed STOs in 2018.

No more tokenization without venues.
No more assets without liquidity.

UAE is doing what Switzerland, Singapore, and Europe still haven’t:

Creating enforceable frameworks for RWA tokenization that actually work.

Matthew White, CEO of VARA, said it perfectly:

“Tokenization will redefine global finance in 2025.”

He’s not exaggerating.

$500B+ market predicted next year.

And the UAE just gave it legal rails.

~Real estate.
~Private credit.
~Shariah-compliant products.

Everything is in play.

This is how you turn hype into infrastructure.

What Dubai is doing now is 3 years ahead of everyone else.

Founders, investors, ecosystem builders:

You want to build real-world assets onchain.

Don’t waste another year waiting for clarity.

Come to Dubai.

It’s already here.

 

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If you find value in my content, consider showing your support via:

💳 PayPal: 
1) Simply scan the QR code below 📲
2) or visit https://www.paypal.me/thedinarian

🔗 Crypto – Support via Coinbase Wallet to: [email protected]

Or Buy me a coffee: https://buymeacoffee.com/thedinarian

Your generosity keeps this mission alive, for all! Namasté 🙏 Crypto Michael ⚡  The Dinarian

 

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