The cryptocurrency industry has come under attack, as financial regulators set their gaze on stablecoins. Earlier this week, regulators halted the issuance of the third-largest stablecoin in the market, the dollar-pegged Binance USD (BUSD).
This latest move has sparked a lot of volatility in the market, with investors panicking. What really happened? And how will this move affect the wider stablecoins market? Let's find out.
NYDFS Forces Paxos to Stop Issuing BUSD
On Feb. 13th, the New York Department of Financial Services (NYDFS) ordered blockchain company, Paxos Trust, to stop issuing BUSD due to several unresolved issues related to Paxos’ oversight of its relationship with Binance. While BUSD is a Binance-branded stablecoin, it is not issued by the crypto exchange.
According to a blog post published last year, Binance clarified that BUSD is a US dollar-backed stablecoin issued by Paxos with branding support from Binance. The company pointed out that it allows Paxos to mint new BUSD tokens on the Ethereum blockchain while providing it with licensing support.
In response to the NYDFS's order, Paxos announced that it would cease the issuance of new BUSD tokens from Feb. 21st and end its relationship with Binance. Paxos further assured investors that their BUSD holdings are backed 1:1 with US dollar-denominated reserves.
Additionally, Paxos will continue supporting BUSD and managing redemptions of the stablecoin until February 2024. Customers can choose to redeem their holdings in either USD or convert them into Pax Dollar (USDP), which is another stablecoin issued by Paxos. The firm assured investors that the regulatory actions will not harm its balance sheet, long-term objectives, or ability to serve customers.
The NYDFS said in a statement, "The Department is monitoring Paxos closely to verify that the company can facilitate redemptions in an orderly fashion subject to enhanced, risk-based, compliance protocols."
BUSD's Regulatory Woes Continue
The directive to stop minting new BUSD tokens came just a few days after the U.S. Securities and Exchange Commission (SEC) sent Paxos a Wells notice. The notice, which is used to warn of pending enforcement action, claimed that BUSD is an unregistered security.
The company, however, maintains that it "categorically disagrees" with the SEC, adding that BUSD is not a security under the federal securities laws. Paxos argued that it has always prioritized the safety of investors' assets, pointing out that BUSD "is always backed 1:1 with U.S. dollar-denominated reserves, fully segregated and held in bankruptcy remote accounts." The firm further stated that it is "prepared to vigorously litigate if necessary."
Investors Flock Out of BUSD Amid Regulatory Crackdown
Following the latest regulatory crackdown on BUSD, holders began moving their assets, with BUSD redemptions reaching new monthly highs. Less than 24 hours after the news broke, Binance recorded over $800 million of net outflows, indicating dwindling investor interest in holding BUSD.
Since the price of stablecoins is fixed to an external asset, such as the U.S. dollar in the case of BUSD, if demand falls, issuers decrease the supply by removing tokens from circulation via a practice called burning, to keep the price peg. According to data from the crypto intelligence firm, Nansen, Paxos has burned more than $1.3 billion worth of BUSD since Feb. 14th.
The stablecoin's market cap has since fallen by over 14% in less than a week, currently at $13.3 billion at the time of writing. In a tweet on Monday, Binance CEO, Changpeng Zhao, said that "BUSD market cap will only decrease over time."
While BUSD was recording massive outflows, industry leaders USDT and USDC captured the digital asset's market share as investors were mostly moving their BUSD holdings to these other stablecoins. USDT’s market cap experienced a surge around the same time that BUSD’s market cap crashed, gaining over $1.4 billion in the past few days. USDC's market cap also increased by a significant margin.
What BUSD's Woes Mean For The Stablecoin Market
Several market analysts are convinced that the latest regulatory crackdown on the BUSD stablecoin would mark an extended interpretation of how stablecoins are viewed. Ever since the collapse of Terra's algorithmic stablecoin, UST, regulators have clamped down on the crypto industry with renewed aggression, especially with the lack of regulatory clarity.
Speaking on the effect of the latest regulatory action, CZ pointed out that the crypto industry will probably turn to non-USD-pegged stablecoins. During a Twitter Spaces AMA on Feb. 14th, CZ explained that USD-pegged stablecoins are widely used because "most people’s costs are still in fiat currencies and so when they calculate returns, ROI… most people use US dollar prices for crypto because US dollar stablecoins are the most popular and the largest."
However, with the U.S. government clamping down on these assets, the industry will start using stablecoins pegged to other fiat currencies, reducing dependence on the USD.
With the stablecoins market still unregulated, this presents a remarkable opportunity for the UK government to push its plans of becoming a global crypto hub by providing regulatory clarity on the market. Earlier this month, the UK government proposed robust standards to regulate the crypto market. The proposal came after ex-chancellor Phillip Hammond criticized the government's cautious approach to crypto regulation.