Can Hong Kong Make Stablecoins Safer?

In less than 18 months, global banks will have to confront a problem almost philosophical in its scope, but with practical cost implications: What is money, and who can say when something is or isn’t? Hong Kong hopes to get the job of helping make that distinction.

From Jan. 1, 2026, lending institutions worldwide will have to disclose their cryptocurrency holdings in line with the final rules announced this month by the Basel Committee on Banking Supervision. A part of that exposure will be in the form of stablecoins, or digital assets that claim to be pegged to national currencies, and hence no riskier than money.

But are all stablecoins equally safe? Not according to the standards-setting body, which has decided to mark out liabilities such as the JPM Coin issued on JPMorgan Chase & Co.’s own private blockchain for preferential regulatory treatment. On the other hand, Tether Holdings Ltd.’s USDT, the dominant player in the $160 billion market, and its rival, Circle Internet Financial Ltd.’s USD Coin, or USDC, may be subject to conservative capital requirements, which might put off banks from holding them.

Or at least that’s how the crypto industry, which is vehemently opposed to differential treatment, is viewing the guidelines. Jumping from a risk weight of 100%, or less, for a stablecoin that passes the safety test, to 1,250% for one that falls slightly short, “is analogous to mandating the death penalty for a parking ticket,” crypto exchange Coinbase Global Inc. told the Basel Committee during consultations ahead of the final rules.

Still, regulators would rather be cautious than sorry. Tether purports to be a digital twin of the US currency, but during the 2022 crypto meltdown, it briefly slipped off its peg and changed hands for as cheaply as 94 cents to the dollar. S&P Global Ratings said in December that Tether’s ability to maintain parity is “constrained,” reflecting a lack of information on “entities that are custodians, counterparties, or bank account providers of USDT's reserves.”

This is where Hong Kong enters the picture. The city has pegged its currency to the US dollar since October 1983, achieving a stable exchange rate over a four-decade period marked by the 1997 Asian crisis, the 2008 global financial contagion, the 2020 Covid-19 pandemic, and the current estrangement in US-China relations. No stablecoin has been able to match this feat even for the 10 years that they have been around.

The Chinese special administrative region must know a thing or two about how to make a credible promise of convertibility, and it’s now encouraging private-sector players to pick up some of that expertise via controlled experimentation. Airstar Bank, part-owned by Xiaomi Corp., announced this week that it has partnered with a JD.com unit to participate in Hong Kong’s “regulatory sandbox” for stablecoins.

To qualify for a license, issuers (or their subsidiaries) will have to be incorporated locally and bring their reserve assets to banks in the financial center. Or they’ll have to convince the Hong Kong Monetary Authority why it’s more prudent to back their liabilities with assets parked elsewhere. Redemption requests — at par value — must be honored within one business day.

Some sort of a label or recognition for virtual assets that reference real-world currencies is also on offer in Singapore, the US, the UK, the European Union, Japan and the United Arab Emirates. Hong Kong, however, is going beyond reserve backing and thinking about day-to-day price stability in secondary markets. If its licensed stablecoins can emulate the Hong Kong dollar and hold their value wherever they trade, regulators globally may eventually allow banks to carry them on their balance sheets without having to set aside too much extra capital.

Back in 2022, the Basel Committee wanted to subject stablecoins to a test for the so-called basis risk. The peg-to-market-value difference, it said, should not exceed 10 basis points more than three times over the prior year. It has decided to drop this requirement for now. But that doesn’t mean such an examination will not be introduced later. Hong Kong has the experience of upholding its currency’s peg within a tight band of 7.75 to 7.85 to the US dollar through multiple crises. By passing some of that aura to the private stablecoins regulated by it, it will convince banks — and their regulators — that their holdings are actually no different from money.

With luck, even the Basel Committee may be persuaded to change its mind about additional capital requirements. Both banks and the crypto industry will be keenly watching Chinese e-commerce giant JD.com’s digital clone of the Hong Kong dollar. According to media reports, it will be offered on a public blockchain. The challenge will be to keep it stable amid all the risks that come from being on an open network — from technical outages and fraud to money laundering and terrorist financing. Hong Kong has its job cut out.

More from Bloomberg Opinion:

• Matt Levine's Money Stuff: Crypto Bros Front-Ran Front-Runners
• Stablecoin Risks Continue to Grow as Congress Dithers: Editorial
• Stablecoins Could Have a Real-World Purpose: Andy Mukherjee

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