Arthur Hayes Blog: What is the Real Battlefield Behind Stablecoins?

Author | Arthur Hayes

Compiled | Deep Tide TechFlow

This article only represents the author’s personal views and does not constitute the basis for investment decisions, nor should it be considered as investment trading advice or recommendations.

Equity investors have been clamoring: “Stablecoin, stablecoin, stablecoin; Circle, Circle, Circle.”

Why are they so optimistic? Because the U.S. Treasury Secretary (BBC) said so:

The result is this chart:

This is a chart comparing the market capitalization of Circle and Coinbase. Keep in mind that Circle must hand over 50% of its net interest income to its “parent” Coinbase. However, Circle’s market capitalization is surprisingly close to 45% of Coinbase’s. This makes one ponder…

Another result is this heartbreaking chart (because I hold Bitcoin instead of $CRCL):

This chart shows the price of Circle divided by the price of Bitcoin, with an index of 100 based on Circle’s listing. Since the IPO, Circle’s performance has outperformed Bitcoin by nearly 472%.

Cryptocurrency enthusiasts should ask themselves: Why is the BBC so optimistic about stablecoins? Why does the “Genius Act” garner bipartisan support? Do American politicians really care about financial freedom? Or is there something else going on?

Perhaps politicians do care about financial freedom on an abstract level, but hollow ideals do not drive real action. There must be other more pragmatic reasons that have caused them to change their stance on stablecoins.

Looking back at 2019, Facebook attempted to integrate the stablecoin Libra into its social media empire but was forced to shelve the idea due to opposition from politicians and the Federal Reserve. To understand the BBC’s enthusiasm for stablecoins, we need to examine the main issues it faces.

The main issue faced by U.S. Treasury Secretary Scott “BBC” Bessent is strikingly similar to the challenges encountered by his predecessor, Janet “bad girl” Yellen. Their bosses (i.e., the U.S. President and Congress members) enjoy spending money but are unwilling to raise taxes. Thus, the heavy burden of raising funds falls on the Treasury Secretary, who needs to provide financing for the government through borrowing at reasonable interest rates.

However, the market soon showed a lack of interest in the long-term government bonds of highly indebted developed economies — especially in the context of high prices/low yields. This is the “fiscal dilemma” that the BBC and Yellen have witnessed in recent years:

The trampoline effect of global government bond yields:

The following is a comparative chart of the 30-year government bond yields: UK (white), Japan (gold), USA (green), Germany (pink), France (red)

If rising yields are bad enough, then the actual value of these bonds is even worse:

Actual Value = Bond Price / Gold Price

TLT US is an ETF that tracks government bonds with a maturity of over 20 years. The following chart shows TLT US divided by the price of gold, using 100 as the base index. Over the past five years, the real value of long-term government bonds has plummeted by 71%.

If past performance is not enough to raise concerns, then Yellen and current Treasury Secretary Bessent also face the following constraints:

The bond sales team at the Treasury Department must design an issuance plan to address the following needs: an annual federal deficit of approximately $2 trillion; $3.1 trillion in debt maturing in 2025.

This is a chart that details the main expenditure items of the U.S. federal government and their year-on-year changes. Please note that the growth rate of each major expenditure item is on par with or even faster than the nominal GDP growth rate of the United States.

The previous two charts show that the weighted average interest rate of outstanding national debt is lower than the points on the yield curve of all national bonds.

· The financial system issues credit using nominally risk-free government bonds as collateral. Therefore, interest must be paid; otherwise, the government will face the nominal risk of default, which would destroy the entire fiat financial system. As the yield curve of government bonds is generally higher than the weighted average interest rate of current debt, interest expenditures will continue to increase as maturing debt is refinanced at higher rates.

The defense budget will not decrease, after all, the United States is currently involved in the wars in Ukraine and the Middle East.

Medical expenditures will continue to rise, especially in the early 2030s when the baby boomer generation enters a peak period that requires a large amount of medical services, with these costs primarily borne by large pharmaceutical companies funded by the U.S. government.

Control the 10-year government bond yield to not exceed 5%

When the 10-year yield approaches 5%, the MOVE index (which measures bond market volatility) spikes, and financial crises often follow.

Issuing debt in a way that stimulates the financial market

The data from the U.S. Congressional Budget Office shows that, although the data only goes up to 2021, the U.S. stock market has continued to rise since the global financial crisis of 2008, and capital gains tax revenue has soared accordingly.

The U.S. government needs to avoid massive budget deficits by taxing the year-on-year gains of the stock market.

The policies of the U.S. government have always favored wealthy asset owners. In the past, only white men who owned property had the right to vote. Although modern America has achieved universal suffrage, power still comes from a minority that controls the wealth of publicly traded companies. Data shows that about 10% of households control over 90% of the stock market wealth.

A notable example is during the 2008 global financial crisis when the Federal Reserve printed money to bail out banks and the financial system, yet banks were still allowed to foreclose on people’s homes and businesses. This phenomenon of “the rich enjoying socialism while the poor endure capitalism” is precisely why New York City mayoral candidate Mamdani is so popular among the poor — the poor also wish to benefit from some of the “socialist” advantages.

When the Federal Reserve implements quantitative easing (QE) policy, the Secretary of the Treasury’s job is relatively simple. The Federal Reserve buys bonds by printing money, which not only allows the U.S. government to borrow at low costs but also boosts the stock market. However, now the Federal Reserve must at least superficially demonstrate a stance against inflation, unable to lower interest rates or continue with QE, leaving the Treasury to bear the burden alone.

In September 2022, the market began to marginally sell off bonds due to concerns about the persistence of the largest peacetime deficit in U.S. history and the Federal Reserve’s hawkish stance. The yield on 10-year Treasury bonds nearly doubled within two months, and the stock market fell nearly 20% from its summer peak. At this time, former Treasury Secretary Yellen introduced a policy referred to by Hudson Bay Capital as “Aggressive Treasury Issuance” (ATI), which reduced the Federal Reserve’s reverse repurchase (RRP) balance by $2.5 trillion by issuing more short-term Treasury securities (T-bills) instead of coupon bonds, injecting liquidity into the financial markets.

This policy has successfully achieved the goals of controlling yields, stabilizing the market, and stimulating the economy. However, the current RRP balance is nearly exhausted, and the issue facing the current Secretary of the Treasury, Bessent, is: how can he find trillions of dollars in funding to purchase government bonds in a high-price, low-yield environment?

The market performance in the third quarter of 2022 was extremely challenging. The following chart shows the comparison between the Nasdaq 100 Index (green) and the 10-year Treasury yield (white). While the yield surged, the stock market experienced a significant decline.

The ATI policy effectively lowered the RRP (red) and drove up financial assets such as the Nasdaq 100 (green) and Bitcoin (magenta). The 10-year Treasury yield (white) has never breached 5%.

Large “Too Big to Fail” (TBTF) banks in the United States have two pools of funds ready to purchase trillions of dollars in government bonds whenever there is sufficient profit potential. These two pools of funds are: demand/time deposits; reserves held by the Federal Reserve.

This article focuses on eight TBTF banks, as their existence and profitability rely on government guarantees of their liabilities, while banking regulatory policies tend to favor these banks over non-TBTF banks. Therefore, as long as they can achieve a certain level of profit, these banks will comply with government requests. If the Treasury Secretary (BBC) asks them to purchase government bonds, he will offer risk-free returns in exchange.

BBC’s enthusiasm for stablecoins may stem from the fact that by issuing stablecoins, TBTF banks can unlock up to $6.8 trillion in Treasury bond purchasing power. These dormant deposits can be re-leveraged in the fiat financial system, thereby driving the market upwards. The following sections will detail how to achieve Treasury bond purchases through the issuance of stablecoins and how to enhance the profitability of TBTF banks.

In addition, it will be briefly explained that if the Federal Reserve stops paying interest on reserves, it could release up to $3.3 trillion for purchasing government bonds. This would become another policy that, although technically not quantitative easing (QE), has a similar positive impact on fixed-supply monetary assets like Bitcoin.

Now, let’s get to know BBC’s new favorite - stablecoins, this “currency heavy artillery.”

Stablecoin liquidity model

My predictions are based on the following key assumptions:

Government bonds receive full or partial exemptions from the Supplementary Leverage Ratio (SLR)

Exemption meaning: Banks are not required to hold equity capital for their government bond investment portfolios. If fully exempted, banks can purchase government bonds with unlimited leverage.

Recent policy changes: The Federal Reserve has just voted to reduce banks’ capital requirements for Treasury securities. This proposal is expected to release up to $5.5 trillion in bank balance sheet capacity for the purchase of Treasury securities in the next three to six months. The market is forward-looking, and this purchasing power may flow into the Treasury market ahead of time, thereby lowering yields under otherwise unchanged conditions.

Banks are profit-oriented organizations that minimize losses.

Lessons from the Risks of Long-term Government Bonds: From 2020 to 2022, the Federal Reserve and the Treasury urged banks to buy large amounts of government bonds, and banks eagerly purchased long-term interest-bearing bonds with higher yields. However, by April 2023, due to the fastest rise in the Federal Reserve’s policy rates since the 1980s, these bonds suffered massive losses, leading to the collapse of three banks in a week.

The Umbrella of TBTF Banks: In the realm of TBTF banks, the “hold to maturity” bond investment portfolio of American banks has incurred losses that exceed their entire equity capital. If forced to mark to market, the bank would face bankruptcy. To resolve the crisis, the Federal Reserve and the Treasury effectively nationalized the entire U.S. banking system through the “Bank Term Funding Program” (BTFP). Non-TBTF banks may still incur losses, and if bankruptcy occurs due to losses on government bonds, their management will be replaced, and the bank may be sold at a low price to Jamie Dimon or other TBTF banks. As a result, the Chief Investment Officers (CIOs) of banks are cautious about large purchases of long-term government bonds, fearing that the Federal Reserve will “pull the rug out” again through interest rate hikes.

The appeal of treasury bonds: Banks purchase treasury bonds because they are essentially high-yield, zero-maturity cash-like instruments.

The net interest margin (NIM) is key: banks will only purchase government bonds with deposits if they can provide a high net interest margin and require little or no capital support.

JP Morgan recently announced plans to launch a stablecoin called JPMD. JPMD will operate on Coinbase’s layer two network Base, which is developed based on Ethereum. As a result, JP Morgan’s deposits will be divided into two types:

1. Regular Deposits

Although it is also a digital deposit, its liquidity in the financial system requires interbank connections using traditional outdated systems and a large amount of manual supervision.

Traditional deposits can only be transferred between 9 AM and 4:30 PM on weekdays (Monday to Friday).

The yield on traditional deposits is extremely low. According to data from the Federal Deposit Insurance Corporation (FDIC), the average yield on regular savings accounts is only 0.07%, while the yield on one-year time deposits is 1.62%.

2. Stablecoin Deposit (JPMD)

JPMD operates on a public blockchain (Base) and is available for customers 24/7 all year round.

According to legal regulations, JPMD cannot pay out returns, but JPMorgan Chase may attract customers to convert traditional deposits into JPMD by offering generous cash back consumer rewards.

It is currently unclear whether staking yield is allowed.

Staking returns: Customers will receive certain returns while locking JPMD with JPMorgan Chase.

The reason customers are transferring funds from traditional deposits to JPMD is that JPMD is more practical, and banks also offer cash back and other consumer rewards. Currently, the total amount of demand and time deposits at TBTF banks is approximately $6.8 trillion. Due to the superiority of stablecoin products, traditional deposits will quickly be converted into JPMD or other similar stablecoins issued by TBTF banks.

If all traditional deposits were converted to JPMD, JPMorgan Chase would be able to significantly reduce costs in its compliance and operations departments. Here are the specific reasons:

The first reason is to reduce costs. If all traditional deposits are converted to JPMD, then JPMorgan can effectively eliminate its compliance and operations departments. Let me explain why Jamie Dimon was so excited when he learned how stablecoins actually work.

From a high-level perspective, compliance work is a set of rules established by regulatory bodies and executed by a group of humans using technology from the 1990s. The structure of these rules is similar to: if a certain situation occurs, then a certain action is taken. This “if/then” relationship can be interpreted by a senior compliance officer and written into a set of rules for AI agents to execute perfectly. Since JPMD provides fully transparent transaction records (all public addresses are disclosed), an AI agent trained in relevant compliance regulations can ensure that certain transactions are never approved. AI can also instantly prepare any reports requested by regulatory bodies. Regulatory bodies can verify the accuracy of the data because all data exists on the public blockchain. Overall, “too big to fail” (TBTF) banks spend $20 billion annually on compliance and the operations and technology needed to adhere to banking regulations. By converting all traditional deposits into stablecoins, this cost can be reduced to nearly zero.

One of the reasons JPMD is being promoted by JPMorgan is that it allows banks to purchase tens of billions of dollars in Treasury bills (T-bills) risk-free using custodial stablecoin assets (AUC). This is because T-bills have almost no interest rate risk, yet their yields are close to the Federal Funds Rate. Keep in mind that under the new Supplemental Leverage Ratio (SLR) requirements, TBTF banks have a purchasing capacity of $5.5 trillion in T-bills. Banks need to find a pool of idle cash reserves to buy this debt, and custodial deposits of stablecoins are the perfect choice.

Some readers might argue that JPMorgan can already purchase treasury bonds with traditional deposits. My response is that stablecoins are the future because they not only create a better customer experience but also allow TBTF banks to save $20 billion in costs. This cost saving alone is enough to motivate banks to adopt stablecoins; the additional net interest margin (NIM) gains are just the icing on the cake.

I know that many readers may want to invest their hard-earned money into Circle ($CRCL) or the next shining stablecoin issuer. But do not underestimate the profit potential of “too big to fail” (TBTF) banks in the stablecoin space. If we base it on the average price-to-earnings (P/E) ratio of TBTF banks, which is 14.41 times, and multiply it by cost savings and the potential net interest margin (NIM) of stablecoins, the result is $3.91 trillion.

Currently, the total market capitalization of the eight TBTF banks is approximately $2.1 trillion, which means that stablecoins could lead to an average increase of 184% in the stock prices of TBTF banks. If there is a non-consensus investment strategy that can be scaled, it would be to go long on an equal-weighted portfolio of TBTF bank stocks based on this stablecoin theory.

How is the competition?

Don’t worry, the Genius Act ensures that non-bank issued stablecoins cannot compete on a large scale. The bill explicitly prohibits technology companies like Meta from issuing their own stablecoins; they must collaborate with banks or fintech companies. Of course, theoretically anyone can obtain a banking license or acquire an existing bank, but all new owners must receive approval from regulators. As for how long this will take, we’ll have to wait and see.

Additionally, there is a provision in the bill that hands the stablecoin market over to banks by prohibiting the payment of interest to stablecoin holders. As they cannot compete with banks by paying interest, fintech companies will be unable to attract deposits away from banks at a low cost. Even successful issuers like Circle will never be able to access the $6.8 trillion TBTF traditional deposit market.

In addition, financial technology companies like Circle and small banks do not have government guarantees for their liabilities, while TBTF banks enjoy this protection. If my mother were to use stablecoins, she would definitely choose the stablecoins issued by TBTF banks. Baby Boomers like her will never trust fintech companies or small banks for this purpose, as they lack government backing.

Trump’s “Crypto Tsar” David Sachs agrees with this. I believe that many corporate cryptocurrency donors will be dissatisfied with the outcome — after donating so much to cryptocurrency campaigns, they are quietly excluded from the lucrative stablecoin market in the United States. Perhaps they should change their strategy to genuinely advocate for financial freedom, rather than just providing a stool for the “toilets” of those TBTF bank CEOs.

In short, TBTF (Too Big To Fail) banks’ adoption of stablecoins not only eliminates competition from fintech companies for their deposit base but also reduces the need for expensive and often poorly performing human compliance officers. Furthermore, this approach does not require paying interest, thereby increasing the net interest margin (NIM), ultimately driving up their stock prices. In return, to express gratitude for the stablecoin gift bestowed by the BBC Act, TBTF banks will purchase up to $6.8 trillion in T-bills.

ATI: Yellen’s Stunt: Stablecoins and the BBC Act

Next, I will discuss how the BBC Act releases another $3.3 trillion in static reserves from the Federal Reserve’s balance sheet.

Reserve Balance Interest (IORB)

After the global financial crisis (GFC) in 2008, the Federal Reserve decided to ensure that banks would not fail due to insufficient reserves. The Federal Reserve created reserves by purchasing Treasury securities and mortgage-backed securities (MBS) from banks, a process known as quantitative easing (QE). These reserves sit quietly on the Federal Reserve’s balance sheet. In theory, banks could convert the reserves held by the Federal Reserve into circulating currency and lend them out, but they choose not to do so because the Federal Reserve pays them enough interest through money printing. In this way, the Federal Reserve “freezes” these reserves to prevent inflation from rising further.

However, the problem the Federal Reserve faces is that when it raises interest rates, the interest on reserve balances (IORB) also increases. This is not favorable, as the unrealized losses in the Federal Reserve’s bond portfolio also increase with the rate hikes. The result is that the Federal Reserve is caught in a situation of being undercapitalized and experiencing negative cash flow. However, this negative cash flow situation is entirely a result of policy choices and can be changed.

U.S. Senator Ted Cruz recently stated that perhaps the Federal Reserve should stop paying Interest on Reserve Balances (IORB). This would compel banks to make up for lost interest income by converting reserves into Treasury bills. Specifically, I believe banks will purchase Treasury bills (T-bills) due to their high yield and cash-like attributes.

According to a report by Reuters, Ted Cruz has been urging his Senate colleagues to eliminate the Federal Reserve’s power to pay interest on reserves to banks, believing that this change will significantly reduce the fiscal deficit.

Why is the Federal Reserve printing money and preventing banks from supporting the “Empire”? There is no reason for politicians to oppose this policy change. Both Democrats and Republicans have a fondness for fiscal deficits; why not release $3.3 trillion in bank purchasing power into the Treasury market so they can spend more? Given the Federal Reserve’s reluctance to assist the “Trump team” in financing with an “America First” goal, I believe Republican lawmakers will use their majority in both chambers to strip the Federal Reserve of this power. Therefore, the next time yields soar, lawmakers will be ready to unleash this torrent of funds to support their extravagant spending.

Before concluding this article, I would like to discuss the cautious strategic layout of Maelstrom during the period of the implementation of the “BBC Act” when dollar liquidity is bound to increase, from the present stage to the third quarter.

Warning Story

Although I have a very optimistic attitude towards the future, I believe that there may be a temporary stagnation in dollar liquidity creation after Trump’s spending bill — known as the “Big Beautiful Bill” — is passed.

According to the current contents of the bill, it will raise the debt ceiling. Although many provisions will become pawns in political games, Trump will not sign a bill that does not raise the debt ceiling. He needs additional borrowing capacity to support his agenda. There are currently no signs that the Republicans will try to force the government to cut spending. So, for traders, the question is: what impact will this have on dollar liquidity when the Treasury resumes net borrowing?

Starting from January 1, the Treasury has primarily funded the government by depleting the balance of its Treasury General Account (TGA). As of June 25, the TGA balance stood at $364 billion. According to the guidance provided by the Treasury in its recent quarterly refinancing announcement, if the debt ceiling is raised today, the TGA balance will be replenished to $850 billion through debt issuance. This will result in a liquidity contraction of $486 billion.

The only major dollar liquidity project that could possibly alleviate this negative impact is the release of funds from the Overnight Reverse Repurchase Agreement (RRP), which currently has a balance of 461 billion dollars.

Due to the Treasury General Account (TGA) supplementary plan, this is not a clear short-selling opportunity for Bitcoin, but rather a market environment that requires cautious operation — a bull market may be temporarily interrupted by short-term fluctuations. I expect that from now until the Jackson Hole meeting in August, before the speech by Federal Reserve Chairman Jerome Powell, the market may consolidate or decline slightly. If the TGA supplement negatively impacts dollar liquidity, Bitcoin could drop to the range of $90,000 to $95,000. If the supplementary plan does not have a substantial impact on the market, Bitcoin may fluctuate within the $100,000 range, but it will be difficult to break through the historical high of $112,000.

I speculate that Powell may announce the end of quantitative tightening (QT) or other seemingly mundane yet impactful adjustments to bank regulatory policies. By early September, the debt ceiling will be raised, and most of the TGA accounts will be replenished, with the Republicans focusing on appealing to voters in the November 2026 elections. At that time, with a surge in money creation, the bulls will counter the bears with strong green candles.

From now until the end of August, Maelstrom will increase its allocation to staking USDe (Ethena USD). We have liquidated all positions in low liquidity altcoins and may reduce our Bitcoin risk exposure based on market performance. Risk positions in altcoins purchased around April 9 of this year have achieved returns of 2 to 4 times within three months. However, without clear liquidity catalysts, the altcoin sector may suffer severe blows.

After the market adjustment, we will have confidence to reposition ourselves, looking for undervalued assets, and perhaps seize the opportunity for returns of 5 to 10 times before the next round of fiat liquidity creation slows down (expected at the end of the fourth quarter of 2025 or the beginning of the first quarter of 2026).

Gradually check

The adoption of systemically important banks (TBTF, Too Big To Fail) for stablecoins could create up to $6.8 trillion of purchasing power in the U.S. Treasury bill (T-bill) market.

The Federal Reserve’s halt on paying Interest on Reserve Balances (IORB) could further unleash up to $3.3 trillion in T-bill purchasing power.

Overall, due to the “BBC” policy, there could be $10.1 trillion flowing into the T-bill market in the future. If my prediction is correct, this $10.1 trillion liquidity injection will have a similar impact on risk assets as the $2.5 trillion liquidity injection by former Treasury Secretary Yellen — driving the market to “skyrocket”!

This adds another liquidity arrow to the “BBC” policy toolbox. With Trump’s “Beautiful Big Deal” passing and raising the debt ceiling, this tool may be forced to be activated. Soon after, investors will be worried again about how the U.S. Treasury market will digest these pressures without collapsing in the face of a large amount of debt set to be issued.

Some people are still waiting for the so-called “monetary Godot” — waiting for Federal Reserve Chairman Powell to announce a new round of unlimited quantitative easing (QE) and interest rate cuts before selling bonds and buying cryptocurrencies. But I have to tell you, this is simply not going to happen, at least not before the U.S. is truly embroiled in a hot war with Russia, China, or Iran, or before some systemically important financial institution is on the brink of collapse. Even an economic recession is not enough to bring “Godot” into view. So stop listening to that “powerless” person and pay attention to those who are really in control of the situation!

The following charts will show the opportunity cost that investors incur while waiting for “currency Godot.”

As the Federal Reserve’s balance sheet (white line) shrinks, the effective federal funds rate (gold line) rises. Logically, Bitcoin and other risk assets should have declined during this period.

But former Treasury Secretary “Bad Gurl Yellen” did not disappoint the rich; she stabilized the market by implementing ATI (possibly referring to asset-backed liquidity tools). During this period, Bitcoin (gold line) increased by 5 times, while the overnight reverse repurchase (RRP) balance decreased by 95%.

Don’t make the same mistake again! Many financial advisors are still advising clients to buy bonds because they predict yields will fall. I agree that central banks will indeed cut interest rates and print money to avoid a collapse in the government bond market. Moreover, even if the central banks do not act, the Treasury will take action.

The core point of this article is that by supporting stablecoin regulation, relaxing SLR (Supplementary Leverage Ratio) limits, and halting IORB payments, the Federal Reserve could potentially unleash up to $10.1 trillion in Treasury purchasing power. But the question is, is holding bonds for a 5% to 10% return really worth it? You might miss the opportunity for Bitcoin to surge 10 times to $1 million or for the Nasdaq 100 index to soar 5 times to 100,000 points, which could happen before 2028.

The real game of stablecoins is not betting on traditional fintech companies like Circle, but rather recognizing that the U.S. government has handed a “liquidity rocket launcher” worth trillions of dollars to systemically important banks (TBTF) and called it “innovation.” This is not decentralized finance (DeFi), nor is it so-called financial freedom, but rather the monetization of debt disguised as Ethereum. If you are still waiting for Powell to whisper “QE infinity” in your ear before daring to take risks in the market, then congratulations — you are the “greater fool” of the market.

On the contrary, you should go long on Bitcoin and go long on JPMorgan, rather than wasting energy on Circle. This stablecoin, this “Trojan horse,” has long infiltrated the financial fortress, but when it opens, what’s inside is not the dreams of liberals, but liquidity filled with funds to purchase short-term Treasury bills (T-bill). This liquidity will be used to maintain high stock market levels, fill fiscal deficits, and soothe the anxieties of the Baby Boomer generation.

Don’t just sit on the sidelines waiting for Powell to “endorse” the bull market. “BBC” (note: possibly a nickname for the Federal Reserve or related policies) is ready to end the preamble and start flooding the global market with liquidity. Seize the opportunity and don’t become a passive observer.