Sarah Oh Lam: Hello and welcome back to Two Think Minimum. Today is Friday, November 22, 2024. I’m Sarah O. Lam, a senior fellow at the Technology Policy Institute.
Sarah Oh Lam: I’m here with my co-hosts. TPI President and Senior Fellow, Scott Walston and Senior Fellow and TPI President Emeritus, Tom Lenard.
Sarah Oh Lam: Today, we’re delighted to have as our guest Christian Catalini.
Sarah Oh Lam: Christian Catalini is the founder of the MIT Crypto Economics Lab and a research scientist at the MIT Sloan School.
Sarah Oh Lam: He was previously the Theodore T. Miller Career Development Professor at MIT and an associate professor of technological Innovation, entrepreneurship, and strategic management at the MIT Sloan School.
Sarah Oh Lam: He holds a PhD. from the University of Toronto, Rotman School of Management, and has other accomplishments, that a very long list, and has presented his work at a variety of institutions like Harvard, MIT, Yale, London School of Business.
Sarah Oh Lam: The Federal Reserve banks, US Treasury, etc.
Sarah Oh Lam: He’s also co-creator of DM, formerly Libra and
Sarah Oh Lam: is currently co-founder and chief strategy officer at Lightspark, a startup that is building a Bitcoin L. 2. Lightning-compatible infrastructure for stablecoins and self-custody wallets.
Sarah Oh Lam: So thank you, Christian, for joining us today.
Christian Catalini: Thank you. It’s a pleasure to be here with all of you.
Sarah Oh Lam: Great, and thank you for coming back to our podcast. So, we last hosted you here for a discussion in 2020, which was before crypto winter and before this current season of pro-crypto policy with the new Presidential administration. Back then, we talked about the stablecoin policy, but since then
Sarah Oh Lam: it’s become a lot more mature. There are news headlines like Stripe recently acquired a stablecoin company. Other financial companies are releasing their own stablecoins, like Paypal has one. There’s Circle that has a big one. And
Sarah Oh Lam: other, other, you know, competitors are coming into play. It could even be the credit cards and banks that issue their own proprietary stablecoins.
Sarah Oh Lam: So, I just thought we could ask you your thoughts. You have a few good pieces out about stablecoin policy. So, I thought we could ask you about what you think.
Christian Catalini: Yes, ironically, to some extent, a lot has happened in crypto and in stablecoins since we last talked, and on other dimensions, not much has changed and has happened. Stablecoins, I think, were always quite promising in terms of modernizing payments and financial services, infrastructure,
Christian Catalini: delivering services to segments that are either unbanked or underbanked in novel and creative ways. Allowing for more entry and competition, I would say, in sectors of the economy that haven’t seen much over the last decades. There’s been a lot of innovation on the surface. Think about the UI/UX of a neobank.
Christian Catalini: A lot of that is still powered by, kind of the same pipes and the same services, and it’s still dominated by the same players.
Christian Catalini: At the same time, when we last talked, I think there was a lot of discussion around stablecoin ecosystem, like the one that we were designing with Libra, and then DM. Becoming mainstream and really meeting kind of regulatory expectations when it comes to critical dimensions like reserve, design, consumer protection, AML and CFD concerns essentially fighting, financial crime and terrorism, and all the things that
Christian Catalini: that keep our payment system secure. But if you look at the space, there hasn’t been as much evolution on those dimensions, and I do still think that those are kind of pre-requirements for these new types of assets and payment methods to really go mainstream.
Christian Catalini: That said I, I feel like we’re a little bit in a in a hype phase. For sure. The stripe acquisition of the startup called Bridge, really signaled to the market that a large player in the payments ecosystem is not ready to make stablecoins, a key part of their strategy. And I think that’s definitely validation.
Christian Catalini: But I think we still need to remember that it’s very early days. A lot of the numbers that you see publicly are mostly driven by dollarization. Of course, there’s a massive demand for dollars abroad, especially by segments or individuals or actors that are excluded from having access to a dollar bank account.
Christian Catalini: But it is also somewhat naive to think of these stablecoin balances as somewhat, you know, dollar-denominated bank accounts that now everybody can open up across the globe.
Christian Catalini: The reality is a lot more complex, and I think by the time regulation and everything else catches up with kind of some of the technological developments, the landscape may look very different. That said, I think it’s exciting. And I think part of this will be a lot more hybrid between the kind of traditional players coming in and new players trying to gain market share.
Scott Wallsten: So let me let me ask the naive question, which I probably asked before, and still don’t know the answer to. But you know what?
Scott Wallsten: What problem is it solving? And what has changed in the last 4 years that allow it to solve that problem better?
Christian Catalini: Yes, I would say, you know, having access to low-friction, low-cost payments. That that are truly interoperable between different participants is a problem that hasn’t been really solved in many countries, even domestically. Now, there are exceptions. Right? So, if you think about pics in Brazil, UPI in India, Spain, Mexico. There’s a number of these upgraded real-time, gross settlement systems that do deliver, I think, a lot of the value proposition of stablecoins, but none of that exists cross-border.
Christian Catalini: So if you’re trying to send money between competing players in different countries, you simply can’t do that. Because stablecoins are built on top of crypto rails. They come with interoperability, sort of out of the box. There’s no proprietary API that you need to, you know, adhere to. Everyone can really build.
Christian Catalini: And if I’m sending one stablecoin from the United States to Mexico, we can do that in real-time, with final settlement between 2 different wallets. Imagine, you know, something like the PayPal wallet on one side and the equivalent on the Mexican side by a different player.
Christian Catalini: That simply doesn’t exist in the world of traditional payments, for good reasons. Most Fintech and digital wallets love cultivating a “wallet garden”, and the technology has allowed them to do that.
Christian Catalini: But I think what we’re seeing with stablecoins is all of these walls are going to come down, and people will be able to move value in a compliance-safe and fast fashion, not only across borders but also between, say, an user and a merchant in a way that doesn’t require the entire credit card stack, for example.
Sarah Oh Lam: So as we think about stablecoins more, I think, right now. The dollarization, you know. They’re all pegged to the dollar, but the different stablecoins have different levels of reserve, or reliability. or trustworthiness. Circle is like very regulated or robust, or they are transparent on the reserves that are backing USDC versus Tether, which is USDT, and they’ve had questions about their reserve backing. Is it really backed by assets? Then, Paypal PYUSD presumably has backing.
Sarah Oh Lam: Do you see that the market right now adjusts for the quality of the coins? Like, I would think that there would be a discount on Tether or that it would break its peg, the dollar peg. Why not? Why is it? Why hasn’t the market disciplined stablecoins?
Christian Catalini: There have been moments in time where the market, of course, has reacted to this. Ironically. The relevant example is actually the Silicon Valley Bank Run when Circle de pegged by more than 8%, which, you know, if you were to compare that to the money market funds during the financial crisis. That’s a much larger gap than the breaking of the buck for the money market funds, right? Which was like probably a rounding error relative to 8%.
Christian Catalini: The reality is that most stablecoins that are used at scale have today some level of transparency and accountability. It is still not the right framework, right? So these setups, in many cases, are not bank, like in the United States, they fall under the State by State money transmission licenses, which were definitely not developed or conceived for a world where, you know, you could run a multi-billion dollar ecosystem on top of it. I think, we need Congress to pass new laws. And hopefully, that’s coming with the new administration. It’s been kind of in the works for a very long time.
Christian Catalini: Mostly because we need to ensure that if you’re holding a certain amount of stablecoin dollars, they do act, pretty much like the on-demand deposits of a bank. You should be able to turn to the issuer and convert them to dollars at any point in time that requires proper reserve design. So you need high-quality, liquid assets that can be liquidated even in a market crisis, and really reflect dollars on the other side.
Christian Catalini: It also requires a legal claim. So today, if there were an issue, even with the US-regulated stablecoins, consumers would have to wait for that process to resolve itself. It’s not the same as an FDNC-insured balance in a bank account.
Christian Catalini: And then these ecosystems also need to close the gap on compliance. Right? So today, many of these issuers cannot prove that, for example, some of their digital dollars, backed by, say, a global custodian or a global money market fund in the United States, are not held by North Korea, and clearly that that is not a sustainable
Christian Catalini: equilibrium. But maybe to answer your part of like, why consumers don’t care if you live in countries or you’re using these digital dollars for use cases, that would be problematic. And you don’t have alternatives. Then. Yes, I mean, some of these assets are globally available…
Christian Catalini: are extremely liquid. You mentioned Tether, at least, you know, from what people can tell from the current disclosures, has made a lot of progress in terms of its own reserve design. It has also stepped up its work on the compliance front, So,
Christian Catalini: although it may have started with more question marks, I wouldn’t be surprised if it will become a much more legitimate and credible player over the next years. The ecosystem is just so big that now they can use all those revenues, I think, to become a properly regulated institution. So it’s going to be quite interesting. In fact, they may have an ally as Treasury Secretary, or definitely the Department of Commerce in the future administration.
Tom Lenard: So, what would be the most important things for a legislation to include.
Christian Catalini: There are a number of dimensions, right? Some are broader than just stablecoins and affect crypto in general, but when it comes to stablecoins, I think we need Congress to define how is a reserve is operated? What kind of assets are permitted? What are the controls from auditing to monitoring to everything else that needs to be in place for these assets to be safe? Is there even a level of insurance, like FDIC below a certain amount? At which point these assets become deposit stablecoins?
Christian Catalini: Really, they’re just tokenized versions of dollars in your bank account. The second big dimension is, again, what rights do I have if the issuer of such a stablecoin runs into financial trouble? Where am I in the creditor line? Am I protected? Am I not? Is this bankruptcy remote? And then the 3rd one is.
Christian Catalini: If we want these ecosystems to be mainstream and people to use them for regular day-to-day payments, what are the KYC requirements? How do we ensure that you know these stablecoin dollars are used for good purposes, and not to perpetrate financial crime? I think those are the three big pillars, there’s probably more dimensions. And I think there’s been a number of proposed Bills that have, you know, traveled through Congress in different versions, and of course, there was never full support for something to happen.
Christian Catalini: I think when that happens, the landscape is gonna change quite a bit. The traditional top five firms and banks will want to issue, too. So right now, I think players like Circle and others don’t have a lot of competition, but the landscape would look very, very different after new rules are passed.
Tom Lenard: So would they be?
Sarah Oh Lam: Let me!
Tom Lenard: Supervised by the existing bank regulatory agencies or new agency, or doesn’t…
Christian Catalini: I don’t. Yeah, I know that’s a really good question. I don’t really see a future where the Fed will not want to play a role in stablecoin regulation or monitoring, at least above a certain size. So you could imagine some framework where, if the ecosystem is small enough, maybe it can be State legislated or something else, like a Trust Bank. New York, DFS. Has been doing a lot of work on this for for many years, but above a certain size, of course, there’s going to be supervision.
Christian Catalini: The other angle could be a special OCC charter, that is designed for what are essentially narrow bank-like structures in some designs. There’s also the open question of, how stablecoins that are narrow-bank like, so fully backed reserve, going to compete and coexist with deposit tokens? What if I’m a commercial Bank and I want to issue something that looks and behaves like a stablecoin, but is essentially a tokenized deposit? Now, the good news on a tokenized deposit is that it’s very easy to imagine what the consumer protection framework would be like.
Christian Catalini: I mean, the same way as my deposit issue comes with FDIC insurance. But then, when these deposits interoperate or move out of the ecosystem of the bank, we don’t really have a framework in mind from a KYC and compliance perspective, right? So you can only hold your Bank of America or Chase dollars with each respective institution, and then, of course, the Fed works its magic to make them fungible behind the scenes.
Sarah Oh Lam: For money market accounts, I mean, can they just issue tokens on money? So, money market funds are dollarized instruments. So how is it different from that?
Christian Catalini: I think you’ll see an array of different instruments. Of course, you know, once you go into the land of securities and other assets. Things get more complex from a usability perspective. But yes, people will be using tokenized money, market funds, and tokenized treasuries. All of these financial assets will be eventually tokenized. And, in fact, large financial institutions and banks are really interested in that part. The question is always, How do you make these assets truly fungible and interoperable?
Christian Catalini: Today, we have different processes for going from one asset to the other, and it’s not always a bare instrument. So, once an asset is tokenized, there are a lot of other legal and regulatory frameworks that will need to adapt for some of those use cases to be unlocked. I think people have been thinking about this for a long time. I think it was actually one of the early ideas of Elon Musk, the original version of Paypal, where he was thinking not just payments but also kind of your full financial services app. And a money market fund being kind of the savings vehicle in that you can imagine a future where we can pay each other with fractions of a money market fund. But there are a lot of challenges on the UI/UX to be solved for that to be really the case.
Tom Lenard: So where would the stablecoins fit in the various definitions of the money of the money supply that that we have?
Christian Catalini: I think it really depends on how they’re ultimately regulated. I would say an important role for stablecoins would be as a pure, high-velocity medium of exchange and for applications that require really a high level of interoperability. So you could imagine some of these financial institutions really deploying them in a way where, when I bring my funds back essentially when they’re in the mode of a checking account, they auto-convert to something else, right? Because, in a sense, if it’s a balance, it’s a balance. They don’t need to be in stablecoin form, but when I want to use it.
Christian Catalini: maybe I need to send money, cross border, or something else. That’s when I really jumped on the open, fast, interoperable rails. And I’m using maybe a different asset, depending on what the purpose of the transaction is same with a merchant. Right? So, a merchant will not want to hold a balance in stablecoins, even if they get paid in stablecoins. They’ll need this to be in whatever safest and most fungible form it can be, or maybe the one that generates the best yield right.
Scott Wallsten: What do you think about the various Trump proposals? Maybe they’re not official enough to be proposals. But you know, Bitcoin reserves to note, capital gains taxes on crypto gains. What are your thoughts on their general approach to the crypto market?
Christian Catalini: It’s difficult to know what what was kind of a a campaign. You know, proposal versus what will be actually more practical and and programmatically implemented after.
Christian Catalini: I hope that there will be regulatory clarity. I think this space has been asking for regulatory clarity, especially the good actors in this space have been asking for regulatory clarity for a very long time, and FTX. And many other problems that we’ve seen over the last few years are really the result of the lack of regulatory frameworks, from everything, from financial market infrastructure to stable points to, you know, disclosures around the release of a new token. The Pickle Reserve is kind of an interesting proposal the let’s start with the positive.
Christian Catalini: I think the United States showing that we really want to lead on this new wave of technological infrastructure. I do think Crypto will play an important role at the level of AI and and other foundational technologies over the next 10 years, and so sending the signal that you know, the United States is ready to be really that important country for development and startups and everything else.
Christian Catalini: I think that’s extremely important. And the last years have been actually kind of the opposite. We have had developers leave, and many good projects really set up shop elsewhere, probably the worst offender being the SEC chair, which has waged a whole direct war on a lot of the innovation in this space.
Christian Catalini: But it’s not clear to me, from a practical perspective, that a Bitcoin reserve is the most impactful thing that the US Government could do. I see it mostly as symbolic.
Christian Catalini: People often say, “but we all gold. So why wouldn’t we? All those digital gold.” So, first of all, our gold holdings are mostly legacy. As we all know, they haven’t been changed in decades. Yes, they’re there, but it’s not the same way as other central banks buying gold, maybe because they’re not so friendly to the dollar, and they want to send a different signal to other central banks.
Christian Catalini: So the United States has this very special position of being the issuer of the reserve global currency. And so that exorbitant privilege really means that. Yes, we fund our own debt with our own currency, and we really don’t need Bitcoin on the balance sheet for that.
Christian Catalini: We’re also not in the business of investing as a country in that shape or form. Right? So, we don’t have a sovereign wealth fund. We invest through our own vibrant startup and tech ecosystem. That’s what drives our growth. And, by the way, that’s what pays our debt, right? Which is like, yes, we did accumulate a lot more through COVID, like many other developed nations. Our levels are actually not out of some of our peers, I would say, and they’re clearly comparable. I do think that more government efficiency and cutting off spending, especially if it’s wasteful, is going to be a positive for sure.
Christian Catalini: But, I don’t think we’re going to pay our debt with a Bitcoin reserve. There’s also, and this is a little bit more speculative. But you know, what signal are we sending if we believe that Bitcoin needs to be on the balance sheet? Does that undermine our own confidence in the dollar? Yeah. So, those are kind of some reactions again, to summarize really positive signaling value of saying the US. Is open for business in crypto and we want to lead.
Christian Catalini: Because I think that that’s gonna drive a lot of prosperity the same way we let with the Internet, right? So, we regulated it in the right way. And all of the tech giants are US-based companies, right? With some exceptions of what happened much later in Mobile, and and AI. In other fields we reap the benefits of those regulatory decisions for decades. We could do the same here with crypto again beyond the headlines. I don’t think a Bitcoin reserve is the right choice for the United States.
Christian Catalini: That might be a different conclusion, by the way, for a different kind of country. And so for countries that struggle to to kind of show credibility from a monetary policy perspective. Maybe maybe a bit reserve is a good way to save.
Sarah Oh Lam: So there was a news article recently. Yeah, China’s been buying more gold and selling Bitcoin. So I mean, I would consider them to be our number one rival, I guess, for a reserve currency. And but I think it’s still US dollars that takes the majority of global transactions. So, if folks want Bitcoin to be part of that calculus. I mean I it sounds it makes sense to me. Why would you undermine the dollar?
Sarah Oh Lam: But there have been experiments like El Salvador. I think they bought Bitcoin, and then well, I don’t know. Did they sell it, or now are they happier that the price is up?
Christian Catalini: Look, I think you’ll see more countries doing this and I think it’s important to put it into the context of its classic technological S-curve. If we believe that Bitcoin and and crypto networks in general are a new form of critical infrastructure for financial services, then, of course, if you adopt early, and the value of that asset appreciates, you can have a return.
Christian Catalini: It worked out for El Salvador today. I think it’s gonna work out for some of the other countries. That will do it over the next few years. I would think of it again, more in the in the perspective of like, what a sovereign wealth fund would do, or what a country trying to really make an investment bet if they cannot put that capital to work more productively within their economy.
Christian Catalini: And I do think that yeah, there’s a good chance that because it is a neutral asset, because this ledger is not really controlled by any individual nation, it could land being an important piece of of the global standard. Now, whether it makes it into reserve currency status or not? That’s a much more complex question. But will it be something that central banks across the world will have on their balance sheet? I think the answer to that is probably yes, in 10 years.
Scott Wallsten: So from the perspective of the United States. Given the special status of the of the dollar when thinking about what the right policies are going forward. Is it better to think of?
Think along the lines of what is the most sensible crypto policies, or what are the most sensible Fintech, or even more broadly, financial policies, and where crypto may or may not be a part of them?
Christian Catalini: I think regulation always needs to be tech neutral right? And so I think it’s more about leveling the playing field and allowing crypto-based solutions to compete. To date, it has not been the case. You know, sub. 121 is a good example where the SEC unilaterally decided to exclude traditional financial institutions from, you know, really accessing these new types of assets. I don’t think the banks were happy about that because they’re eager to play.
Christian Catalini: And again, it didn’t create a transparent regime, which is probably what we should strive forward, which is like, you know, if you want to participate. There are clear rules of engagement. I would say that the main piece of crypto that matters for Fintech is that it builds solutions in an interoperable and permissionless fashion. That’s the main difference. Right? So most systems in Fintech today are Wally Gardens. And the solutions being built here, although they present new challenges are open systems.
Christian Catalini: It’s kind of fascinating. I was trying to think through historically right? What are examples of permissionless networks that succeeded and won? I mean, of course, everybody uses the example of the Internet. That is a very obvious one. And I think there are really clear parallels between Crypto and the Internet. In the same way it emerged, how it organically kind of got connected together, how it builds on open protocols. How it allows anyone to connect. Right? So we give that for granted.
Christian Catalini: And yes, some countries have try to control the Internet and they firewall it. They surveil their citizens and and more. But in the end, you know, there’s VPNs, there’s a store. It’s a leaky perimeter. So the Internet has done a lot. And and I think now, with satellites beaming connectivity all over the globe that’s only going to accelerate. But if you look further back, it’s harder to think about what is an example of a permissionless network that was extremely important?
Christian Catalini: The best example I could come up with is actually the Silk Roads. We think of the Silk Roads as kind of like something that was executed from China out. But the reality is a lot more complex. And here you have a network of trade that really emerged organically across different regions, people connecting with each other really bottom up.
Christian Catalini: And yes, you had, you know, Emperor Wu of China, send a diplomat to expand those trading relationships. But the network was honestly very similar to the Internet. It emerged in different regions. It connected, it was through the, you know, search for profit from different merchants and different ventures, that it became what it was. And so, if you think about the historical wave, Silk Roads were connecting trade of physical goods.
Christian Catalini: the Internet connected trade of information and digital content and and really crypto connects the trade of digital assets. Some of those assets are financial. We talked a lot about stablecoins and money market funds and securities, but others are not. So. If you think about non-fungible tokens decentralized infrastructure.
Christian Catalini: So it’s very clear to me that these permissionless networks have won over the long haul. It takes decades, right? They’re general-purpose technologies. And yeah. So in that sense, you know, Fintech is just an Internet-based version of finance and and payments and crypto is going to be more like the the permissionless and and more decentralized version of it.
Sarah Oh Lam: Great! Well, there’s so much that we can discuss. But I think that’s a good place to maybe ask a last question like, where do you think we’ll be in like a year or 2 for crypto?
Sarah Oh Lam: It takes time for these systems to mature and for institutions to ramp up, but it seems like right now there’s a lot of hype and momentum. What do you have in mind?
Christian Catalini: I think it will take more than a year or 2 when I, you know, started studying this in 2013, I thought things would happen much faster. I was being very naive. Here we are, you know, 11 years into my journey into Crypto and and some of the technology and some of the changes is barely starting.
Christian Catalini: But I would say, you know, if there’s new regulation in Congress, including stablecoins and other aspects, I think you can start to expect consumers and businesses to see some of these applications and experience them firsthand. They won’t even know that Crypto is involved. And I think that’s great news, right? So they will be sending money cross-border and see it as zero-cost.
Christian Catalini: You’re very close to zero-cost real-time, instant settlement. A merchant will be able to accept, you know, payment in in cheaper forms. I think all of that is coming, and it’s really the first layer for this to change today, approximately, 10% of the US to Mexico, remittance flows are powered by Crypto rails.
Christian Catalini: this is data from Bitso, one of the leading exchanges in the region. And it’s probably a mix of retail and and B2B, but it’s still, you know, meaningful. It’s billions of dollars moving faster and at a lower cost. I think once things start happening, they will happen very fast. And so with regulation, I think many more players will be comfortable using these assets, and then, you know, we’ll just open the same apps that we’re opening today.
Christian Catalini: But things will be will be better. So I think that that’s probably the 1st thing to look forward to. Everything else will take more time, right decentralized finance, non-fungible tokens, decentralized autonomous organizations. AI bots ,I think there are a lot of conversations around AI and Crypto that that’s another 10-year journey. So yes.
Sarah Oh Lam: Great. Well, we’ll be talking again 5 years, 10 years from now, too. So, thank you. So much. Christian, for joining our program today.
Christian Catalini: Thank you.
