What PayPal’s new stablecoin is and isn’t
Last week PayPal announced its new stablecoin PYUSD. Corporate crypto announcements raise eyebrows in 2023: regulators have come down hard, and 5% interest means that everyone is pinching pennies a bit more than in 2021. But it would be a comically late hour to climb on the crypto bandwagon, and PayPal must know this as well as anyone. Some have suggested that PayPal’s imprimatur suggests a path back to respectability for crypto. But it’s hard to imagine the company taking on crypto market-making as a core business.
A more plausible comparison connects the move to Meta’s Libra project, of which PayPal was a part. Libra styled itself as a disrupter of state-backed money, but that effort ultimately foundered. PayPal has been broadcasting much more modest ambitions.
I suggest a different interpretation. PayPal’s move probably shouldn’t be read as having much to do with crypto trading per se: transaction income is way down, and the enterprise remains legally uncertain. PayPal is an incumbent and profitable financial institution looking for improvements to its core business. The PYUSD token is a test case for the use of public blockchains as a payment infrastructure.
A stablecoin is a financial instrument, a moneylike crypto token (examples: Tether, Terra). Like all crypto tokens, they exist on blockchains or other private distributed ledgers, where they can be issued, destroyed, and transferred. Like paper money, money market shares or bank deposits, they are intended to trade at a fixed price of one against a specific currency unit, in this case the US dollar.
PayPal’s offering, PYUSD, follows this design: it is intended to have stable value and to be easily used for transactions. This is easier said than done, as centuries of monetary history can attest. Financially, PayPal will create a fund, operated by Paxos Trust Company, with PYUSD tokens on the liability side, and deposits, Treasuries and other liquid securities on the asset side. These T accounts represent the financial relationships:
For PYUSD to work, PayPal has to solve two classic banking problems. The first is to ensure that PYUSD can be redeemed one-for-one against dollars. The company’s strategy for this is simple, and comparable to that of stablecoin issuer Tether: hold a portfolio of bank deposits and liquid securities whose value is at least equal to the amount of stablecoin tokens it has issued. When a holder of PYUSD wants their money back, they can be paid using bank deposits. When bank deposits run out, the fund’s securities can be sold to raise money.
Creating a fund like this already makes a business case for PayPal. The company is not offering to pay interest to holders of PYUSD tokens, while US Treasury paper pays over 5% these days. So PayPal can pick up some net interest income.
The second classic banking problem for PYUSD is to make the tokens useful, meaning usable to complete payments. PayPal’s approach to this is to issue the tokens on the Ethereum blockchain. Token issuance, and transfers from one user to another, will take place on the public, post-Merge Ethereum distributed ledger.
Here, I think, is the business case for PayPal’s entry into stablecoins. To process transfers for its users, the company constantly interacts with the various existing payment systems: credit cards, ACH and so on. These systems are, arguably, old, slow, and expensive. By issuing a crypto token, PayPal gains access to another set of payment “rails” by which it can execute transactions for its customers. This could allow PayPal to cut other payments providers out of the chain, saving on fees.
I was struck by this language on PayPal’s website, emphasis added: “Currently, PYUSD is built on the Ethereum (ETH) blockchain.” This suggests that the company is thinking of PYUSD as something independent from crypto. It is only opportunistically attached to the Ethereum payment rails on which it has been launched. The door is open to swap out Ethereum, and swap in the RLN or another distributed ledger.
PayPal’s intervention seems like a way for the company to position itself for a future of digital payments, possibly economizing on transaction costs, without strongly committing to a tech paradigm in particular.
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