Why Betting on Gold-Backed Stablecoins Is a Losing Game

Published at: March 4, 2020

Gold has been regarded as an eternal value since times immemorial. This shiny metal still acts as a store of value — especially in countries like India. Due to its exclusivity, gold is an essential element of the global financial system, and since this metal is not subject to corrosion, it has many areas of technical application. Unfortunately, the metal is heavy, its transportation is fraught with certain difficulties, and storage costs a lot of money.

The last century, however, has brought more changes within the existing world monetary system than all the previous millenniums. Following the national fiat currency advents, the digital world with electronic money has stepped in over the past 20 years, and we are now close to seeing the establishment of e-money 2.0 with the help of emerging blockchain technology. We are witnessing an asset fusion process taking place, where digital currencies are backed not only by public interest and hype but also by the particular assets or commodities. But the question is, can the past merge with the future to provide better financial solutions?

Related: The Unstoppable Trajectory: Stablecoins Are Evolving Traditional Finances

Choosing the underlying asset for stablecoin

Many stablecoin projects haven’t produced the value and strength anticipated a few years ago when more and more companies concluded that unbacked cryptocurrencies couldn’t lead the future of the digital market. Out of all the projects ever launched, the Stable Report data indicates that more than 150 stablecoins are either inactive or dead. Moreover, more than 40 stablecoin projects that were backed by gold have already closed up shop.

According to Blockdata, it’s vital that fiat-backed stablecoins have some type of centralized entity controlling the security and that gold-backed assets have to be able to prove that the gold reserves exist and are stored somewhere safe. If a stablecoin is backed by gold reserves, it should be solid enough to survive the extreme market movements often experienced by other digital currencies.

However, gold itself is not a stable asset — it’s a public store and a way of accumulating value over the long run. Therefore, how can such an asset be the ultimate measure of value in the future?

Related: Financial Institutions Use Stablecoins to Shake Things Up in 2020

The business model of stablecoins is built around the fact that the issuer receives interest income from money market rates, which allows them to engage in business development as well as pay back the audit and board of directors. Aside from issuing a gold-backed stablecoin, the storage of collateral comes at an additional and mandatory cost, and the stablecoin itself is impossible to audit.

Moreover, gold is a metal that can be faked by using tungsten. The main uses for tungsten fake gold bars are to protect wires from corrosion or for soldering to other metals. Tungsten fake gold is sustainable, saving energy and posing no threat of pollution to the environment.

Maintenance of huge amounts of gold results in a negative carry — a condition where investments cost more than they return over the short-term. Even while tokens maintain the price of gold, gold-backed tokens are doomed to a decaying value per unit.

The rotten foundations of gold-backed stablecoins

While companies jumped on the crypto bandwagon in droves following Bitcoin’s (BTC) meteoric price increase in 2017, the logical choice would have been for these projects to follow suit.

The reality of last year’s market suggests that gold is not the best choice for the currency of the future, as many gold-backed stablecoin projects failed. There are specific reasons behind this outcome:

A gold-backed stablecoin is derivative for an action that changes in price and, therefore, can be classified as a security.Millennials or the new generation do not and will not rely on old-world values such as gold, which is nothing but a relic of the past for them.Current Bitcoin generations rely on crypto to pay for their everyday latte or shopping rather than gold coins.Gold has a potentially unlimited supply, which is not a feature of the Bitcoin or other crypto assets with a fixed amount of coins that could be mined.We don’t know the exact (or even close to exact) numbers of gold assets held by governments, which are likely not audited — even the U.S. bullion depository was never audited.

Choosing solid ground for a stablecoin project

Thus, we can conclude that by using gold as the underlying layer to a stablecoin, its creators increase the chances of a project failure.

However, it’s unlikely that these statistics are reviewed by many of the industry’s finest. Tether (USDT), a controversial but significant platform issuing stablecoin, has recently announced its plans regarding the launch of a digital asset providing exposure to physical gold (XAU₮). There have been reports of other crypto-based platforms also working on similar products such as Coin Shares, which has been exploring the possibility of launching a gold-backed cryptocurrency. While Bitcoin has often been regarded as “digital gold,” only the future will tell whether either Tether Gold or another similar project comes out on top.

Related: Is Bitcoin a Store of Value? Experts on BTC as Digital Gold

Despite the fact that the possible benefits of fusing both physical and digital assets may look lucrative, this is not timely innovation in crypto ecosystems. Tether is infamous for having problems with auditing fiat, which can easily be audited in electronic form. Moreover, as gold can be easily replaced with Tungsten, only more auditing issues arise.

Related: Tether Case, Explained 

Gold represents everything that the new generation stands against. In these circumstances, the new-age global money transfer system can’t be built upon gold since governments across the globe confiscated gold in the 1930s. They still control the majority of this precious metal and are able to influence the market for gold through sales and lending.

We can’t say that gold can be 100% replaced by digital assets, as doing so still represents difficulties. Despite general misconceptions regarding gold, it still offers the most lucrative investment opportunities. Despite some fluctuations, gold constantly increases in price over time.

The world needs a next-generation e-currency designed to provide better options for trading, payments and transfers. In a quickly developing world where digitalization and speed are vital, it is only a matter of time before such an asset can be created. When a new stablecoin is being designed, not only the particular underlying assets matter but also a careful calculation of the steps before the launch to avoid legal and governmental pressure that projects like Libra are experiencing. Ultimately, gold is not the asset that stablecoin-issuing companies should look up to, but there are possibilities to tie cryptocurrency to other assets — such as the United States dollar or the euro.

In fact, the euro is a solution that is already digital-ready. Fiat-backed stablecoins might just be the efficient solution to shortcut payments flow in low competitive markets, like acquiring in tourist-heavy destinations, where merchants are being charged a high, single-digit percentage fee to process foreign credit cards.

Moreover, it can be used to fix the gap between the classical financial industry and steadily maturing digital assets. 

Bicoin may not be the digital currency that can ultimately replace cash. Concerns have recently grown as Elon Musk has recently joined the camp of crypto critics who do not believe in digital money taking over. We cannot be sure whether the day of its dominance over cash payments ever comes, but we can definitely say that gold-backed stablecoins will never have a future.

The views, thoughts and opinions expressed here are the author’s alone and do not necessarily reflect or represent the views and opinions of Cointelegraph.

Gregory Klumov is a stablecoin expert whose insights and opinions appear regularly in numerous international publications. He is the founder and CEO of Stasis, a technology provider that issues the most widely-used euro-backed stablecoins with a high transparency standard in the digital-asset industry.

Tags
Related Posts
Bitcoin as a last resort? Murmurs of crypto as reserve currency abound
Reserve currency is money held by central banks or treasuries usually for international transactions. Argentina is not going to be able to purchase a Boeing 737 MAX passenger jet, for example, with its highly inflationary peso; it will have to pay with U.S. dollars, which is why Argentina keeps dollars on hand — i.e., in “reserve.” A second basic function is to support the value of a national currency. If the Brazilian real, for instance, plummets during an economic contraction, Brazil’s central bank could bid it up again by purchasing reals with dollars that it holds in reserve. Could Bitcoin …
Blockchain / Jan. 22, 2021
BUSD — Binance and Paxos Stablecoin Latest to Get US Regulator Consent
Over the course of the past few weeks, the global cryptocurrency community bore witness to two major announcements related to stablecoins — with the first being the launch of Paxos’s gold-backed Ethereum token, PAX Gold (PAXG), and the other being the release of Binance’s cryptocoin backed by the United States dollar (BUSD). Paxos, a global digital asset trust firm, announced the launch of its PAXG token via a press release a few days back. In the document, the firm claims that its product is the world’s first crypto asset to be fully redeemable in exchange for physical gold. Not only …
Etf / Sept. 18, 2019
Gold Ownership Has Been Difficult, Until the Days of Crypto
Gold’s history as a symbol of value dwarfs that of any other artifact. Used as money in both ancient Greece and the Roman empire, gold was also the preferred method of payment for goods along the Silk Road. When modern banking emerged during the Italian Renaissance, the concept of paper money convertible into gold was invented. This practice ended a half-century ago, but the value of gold remains timeless. Starting with England in 1717, modern nations began anchoring their national systems of money to gold in what became known as the “gold standard.” By the late 1800s, and until World …
Blockchain / May 3, 2020
Blockchain.​Com Now Offers Crypto Lending Service to All Users
Amid the ongoing growth of the cryptocurrency lending industry, major crypto wallet service Blockchain.com launches a new lending product for all users, not just institutions. After first launching an institutional crypto lending desk in August 2019, Blockchain.com is now rolling out its crypto lending service to all users across more than 180 countries, the United Kingdom-based firm announced to Cointelegraph on March 10. Borrow allows users to borrow Paxos Standard against Bitcoin at the launch The new lending product from Blockchain.com, dubbed Borrow, allows to users borrow Paxos Standard stablecoin (PAX) against Bitcoin (BTC) directly from the platform’s native cryptocurrency …
Blockchain / March 10, 2020
What is PAX Gold (PAXG) and how does it work?
In recent years, nonfungible tokens (NFTs), cryptocurrencies and other modern investment options have become trendy. However, physical commodities such as gold are still in high demand. In 2021, the global market capitalization for cryptocurrency surpassed $2 trillion. Now, investors must ask themselves: which option should I choose — crypto or gold? Gold is a commodity that dates back thousands of years as a store of value and as a means of exchange and is still successful today. Even with the invention of decentralized digital cryptocurrency, gold has remained just as prominent. Although, for most individual investors, owning gold can be …
Blockchain / Sept. 11, 2022