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Algorithmic Stablecoins In Regulatory Fog After Basis Folds

There is currently no legal framework, making compliance a matter of guesswork.

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The head of an algorithmic stablecoin project has admitted to Crypto Briefing that legal uncertainty in the United States is an “enormous” burden, both financially and developmentally. The absence of a legal framework has made it difficult for the project to remain in compliance with existing financial regulation.

Eiland Glover, CEO and co-founder of Kowala (kUSD), says that algorithmic stablecoin projects like his own are still struggling to determine how to operate legally in the US.

“Compliance issues have affected Kowala and its investors and token holders significantly,” said Glover, in an email to Crypto Briefing. “First, the direct costs of compliance have been enormous. The indirect costs are probably bigger, however, because regulatory compliance decisions impact the design of the protocol itself, making an already complex platform even more complex to build. Complexity leads to delays and greater development expense.”

“Like Basis, Kowala also remains in regulatory limbo,” Glover added.


Algorithmic Stablecoins

Today’s news has been filled with reports that the Basis Protocol – a US-based stablecoin provider which raised over $130M in funding – will be closing down and reimbursing investors, apparently due to regulatory uncertainty.

“It is not clear exactly what regulatory agency is putting pressure on Basis,” admitted The Block. “Nor is it clear the exact reason why regulators have a problem with their business model or token project.”

Sources suggest that the project had to close over concerns that the coin would not effectively be able to maintain its 1:1 peg with the US dollar. The Basis whitepaper says bonds would be issued to boost the price if it ever fell below $1. The problem is there is no way to compel potential buyers to take up the bonds, therefore making the system vulnerable and the peg broken.

Both Basis and Kowala are algorithmic stablecoins. Unlike Tether (USDT) or TrueUSD (TUSD), which both issue tokens backed by actual dollars, Basis and Kowala rely on a series of algorithms to automatically regulate supply and maintain a stable price.

In Kowala, for instance, kUSD are minted as a mining reward on an Ethereum-based blockchain. If the value begins to rise above the $1 mark, the network increases the mining reward, which increases supply. It ensures a stable price by maintaining an equilibrium between demand and supply. When the price sags, it burns surplus tokens as a transaction fee. This makes it different from the Basis model because coins can be removed from circulation, as well as added.

Kowala believes kUSD gives users security and control, as well as price stability; it is designed as an “alternative” to fiat currencies. That said, it’s efforts to distribute kUSD tokens to potential users has been stymied by regulatory uncertainty, which may place restrictions on the tokens.

“Regulatory uncertainty also makes it harder to raise non-institutional money since sales of ‘pre-functionality security tokens’ to qualified investors only limits the market for such tokens,” Glover said. “It also makes the purchase process long and a bit scary.”

Kowala Keeps Going

Regulatory clarity is unlikely to happen overnight. Although securities and commodities are recognized and regulated financial assets, there is currently no such framework applicable to assets that are controlled by algorithms. The SEC has no plans in the near future to offer guidance for algorithmic stablecoins, and it’s also not clear how such tokens would be affected by banking and money-transmission regulations.

Glover believes that the regulatory uncertainty alone would be enough for Basis to shut down. As for the other algorithmic stablecoins, they will have limited guidance until such times as the authorities become proactive. As Glover puts it, they “will have to feel their way through the regulatory fog.”

 

Disclaimer: The author is not invested in any cryptocurrency or token mentioned in this article, but holds investments in other digital assets. 

 

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