J.P. Koning, a CoinDesk columnist, worked as an equity researcher at a Canadian brokerage firm and a financial writer at a large Canadian bank. He runs the popular Moneyness blog.

With the recent collapse in U.S. interest rates, the stablecoin industry is in for a rough ride. Some stablecoin issuers may have to rejig their business models over the next few months. The weakest of them may have to close shop.

If you’re still not sure what stablecoins are, think of them as a new-fangled version of the classic banknote. Did you know that in Northern Ireland, banks are still allowed to issue their own private banknotes? These notes are 100 percent redeemable for banknotes issued by the U.K.’s central bank, the Bank of England. The Irish love their private notes, and treat them exactly like state-issued cash. They are widely accepted at shops all over Northern Ireland.

See also: Hasu – USD Stablecoins Are Surging, but Zero Interest Rates Complicate Business Model

The obvious difference is that whereas a Northern Irish banknote is a paper replica of government money, a stablecoin is a digital replica issued on a blockchain. But, apart from that, they’re quite similar.

To begin with, stablecoins and banknotes are both bearer instruments. They circulate from hand to hand, or wallet to wallet, without needing a centralized authority to manipulate accounting entries.

They both have an issuer. Northern Irish banknotes are put into circulation by the three note-issuing banks: Bank of Ireland, Danske Bank and Ulster Bank. Stablecoins are put into circulation by financial institutions such as Centre (which issues USD Coin, or USDC), Tether or TrustToken (which issues TrueUSD). These issuers have the task of managing the value of the tokens they issue.

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10 pound note from Danske Bank, one of Northern Ireland's retail banks

Another similarity? Stablecoins and banknotes both yield 0 percent.

This 0 percent feature is important. It’s a big part of how issuers like Ulster Bank and Centre make profits. Anyone who holds either a £50 Irish banknote or $50 in stablecoins is temporarily investing their wealth in the Ulster Bank or Centre. These issuers get to reinvest their customer’s funds, say, by depositing them in ultra-safe government-insured accounts or buying Treasury bills. Since they don’t pay any interest to their customers, Ulster Bank and Centre get to keep the entire flow of interest payments for themselves.

Seigniorage is the word we usually use to describe the profits accruing to issuers of 0 percent-yielding tokens. It’s what helps keep the lights on at the various stablecoin issuers and at Northern Ireland’s banks.

Zero interest, fewer profits

Stablecoin issuers have enjoyed decent seigniorage over the last few years. How much? 

Here’s a quick back-of-the-envelope calculation. Most stablecoins are based on the U.S. dollar. At the end of July 2019, U.S. Treasury bill rates were at 2.5 percent. The total number of stablecoins in existence summed up to around $5 billion at the time. 

Assuming the issuers invested $4 billion of their customers’ funds in T-bills and kept $1 billion in liquid no-interest accounts, that comes out to around $100 million in expected interest income at the end of July ($4 billion x 2.5 percent). But now that $100 million has evaporated to $0. Goodbye seigniorage.

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Dollars held by six stablecoins, via Coin Metrics

We can actually get a snapshot of what it’s like to be a stablecoin issuer in a 0 percent interest rate environment. Stasis, a European stablecoin concern, issues the largest euro-denominated stablecoin, EURS, with about 31 million euros in coins outstanding. Interest rates in Europe have been below zero for years.

In Stasis’s last annual financial statements for the year ending December 2018, it had 0 euros in revenue. But it had to pay 15 million euros in costs. Much of this would have been the fixed costs of setting up an office, paying salaries, and audit fees. The impending collapse in stablecoin profitability is a bit of a killjoy because stablecoins are becoming increasingly popular (as Hasu pointed out in CoinDesk this week). Above is a chart showing the total amount of dollars (billions) held in the form of the six major U.S. dollar-denominated stablecoins. The jump since early February, in the midst of the advancing COVID-19 pandemic, is quite remarkable.

Why the growth? Part of it is due to the huge plunge in the prices of cryptocurrencies like bitcoin (BTC) and ethereum (ETH). People are flocking to stablecoins as a safe haven.

Some issuers may start covering their costs by introducing new fees.

There’s a more subtle reason, too. Traders and large institutions do not typically deploy all of their funds into cryptocurrencies and other investments, preferring to keep some surplus cash on hand. These funds are usually parked in bank accounts and government-issued Treasury bills. That way they can at least earn some interest. 

Stablecoins haven’t been an ideal place for professional investors to lodge spare money since they pay a miserable 0 percent. But with the rates on bank accounts and Treasury bills plunging to zero over the last two months, the 0 percent rate on stablecoins no longer looks so bad. And so professional cryptocurrency traders and investors are more likely to keep their surpluses invested in stablecoins rather than pulling them back into a bank.

The interest rate on U.S. Treasury bills has actually fallen into negative territory, making the 0 percent rate on stablecoins look positively outstanding.

Going forward

What will stablecoin issuers do in future? That depends.

I suspect some issuers may start covering their costs by introducing new fees. Tether already requires users to pay 0.1 percent for converting tether tokens into dollars, or dollars into tokens (they must withdraw at least $100,000, so the minimum fee is $1,000). Centre, Paxos and TrustToken don’t charge these fees. Earlier this week I talked to Centre’s CEO Jeremy Allaire, the largest of these issuers, and he is confident Centre will not be going down this route anytime soon.

Making wallet-to-wallet stablecoin payments is generally free. It’s possible the issuers may start to implement a small transfer fee, just a few cents per transaction. Or perhaps they will set a slightly negative interest rate on stablecoin balances. Think of it as a daily account maintenance fee. However, users are likely to shun any issuer that introduces fees when there are other free options.

See also: The US Should Use Stablecoins for Emergency Coronavirus Payments

Not all stablecoin issuers will face immediate pressure. Issuers with multiple lines of business or a set of well-funded partners can rely on other profit centres to subsidize unprofitable stablecoin operations. As time passes they may be able to draw their stablecoin customers into new higher-fee services.

If none of this works, the weakest stablecoin issuers may be in trouble. With interest rates in the U.K. hovering around 5 percent during the 2000s, Northern Ireland’s banknote issuers were swimming in seigniorage. But then the 2008 credit crisis hit and interest rates spent the next decade moping at 0.5 percent. 

Because traditional banks have multiple lines of business, they can afford to have one line operate without profits. But only for so long. The smallest of Northern Ireland’s four private note-issuing banks, First Trust Bank, recently shut down its cash printing operations. It just didn’t make sense to issue banknotes anymore.

We may see a few stablecoins issuers trying to push new fees on their customers. And we may also see the smallest of them doing the same as First Trust Bank. The surviving Northern Irish banknote issuers were lucky enough to fill the void left by the weakest. The same principle applies to the lucky stablecoin issuers that make it through this challenge. 

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