Foreword

Confidence in money is fundamental to UK financial and economic stability. Two forms of money are currently available in the economy.

• The first, fiat or ‘outside money’, is backed by a promise of the state, and includes both cash that is available to the public and central bank reserves that are only available to commercial banks and certain other financial institutions.
• The second, known as ‘inside money’, is issued by the private sector, predominantly commercial banks, and its value is preserved through a combination of strict regulation and issuers’ access to central bank deposits.

Stablecoins used in systemic payment systems would fall into this ‘inside money’ category and would be subject to the Bank’s regulatory regime set out in this discussion paper, including the requirement that they are backed by central bank deposits.

Apart from these forms of money, other assets may be ‘money-like’ in that they are used for payments. Some of these are regulated to support a stable value, but issuers do not have access to central bank deposits and are subject to lighter regulation. These assets include e‐money and stablecoins issued by firms outside the Bank’s remit.

There are also assets that incorrectly purport to be money. These are not suitable for use in payments as they do not have a stable value – they include unbacked cryptoassets.

Rapid innovation over the past few decades has changed the way we pay for goods and services. While cash continues to be available for all, its use has been steadily declining and new technologies are generating new forms of digital assets, some of which take the form of money. Households and businesses already have more choice as to how they make or receive payments. Further innovation could contribute to faster, cheaper and more efficient payments with greater functionality, both domestically and for cross border use. However, for these benefits to be realised, any new forms of digital assets need to be safe.

Ensuring that these innovations meet the evolving needs of households and businesses, while maintaining financial stability, are fundamental responsibilities of the Government and the Bank. There are new digital forms of both public (‘outside’) and private (‘inside’) money. The Bank published a consultation paper on the digital pound in February 2023, in which we discussed the possibility of the Bank issuing a digital currency. We will shortly publish a response to that consultation. This discussion paper focuses on one emerging form of privately-issued digital assets – so called ‘stablecoins’.

Stablecoins are a form of digital assets that purport to maintain a stable value relative to a fiat currency by holding assets (which may be of variable value) as backing. As they operate today, existing stablecoins are mainly used as the asset to settle transactions in the crypto world, and do not meet the standards that we would expect, were they to be used for payments more widely. But, as stablecoins purport to have a stable value, and may offer advantages in terms of cost, convenience and functionality, many people in the UK could quickly start to use stablecoins for everyday payments. It is therefore sensible for regulators to set out the regulatory framework that would be needed were stablecoins to become widely used as money for payments in the economy.

The safety of payments and confidence in money are fundamental to financial and economic stability. The Government has introduced legislation that gives the Bank the power to introduce a new regulatory framework to ensure that stablecoins can be used as a safe means of payment. Setting out a framework within which this type of innovation can flourish in a sustainable way will ensure that the stability of the financial system is safeguarded and the provision of payments services upon which people depend is safe and reliable.

This discussion paper sets out the Bank’s emerging thoughts on the regulatory framework for systemic payment systems using stablecoins, ie those used for everyday payments in the UK. It builds on the Bank’s previous discussion paper on new forms of digital money published in June 2021, and the Financial Policy Committee’s expectations for stablecoins set out in the December 2019 Financial Stability Report.

My hope is that this paper will encourage further research and dialogue between the Bank, the payments industry, technology providers, payments users, financial institutions, academics, other central banks and public authorities, and broader society. I encourage anyone with an interest in the issues covered in this discussion paper to respond.

Andrew Bailey

Part 1: The Bank’s proposed regulatory framework

1: Innovation in payments and money, and the role of the Bank

The Bank’s regulatory regime for systemic payment systems using stablecoins aims to support innovation in money and payments, while safeguarding risks to financial stability.^{footnote [1]}

The financial system is a diverse set of institutions, markets and activities that people and businesses rely on to support their economic activity. Innovation, including in money and payments, plays an important role in improving the provision of the financial services on which people and businesses depend. The past few decades of innovation have transformed the way we use money to make payments and more recent technological developments are likely to transform this even further. This creates exciting new opportunities both for those that innovate and those that will benefit from new financial products. However, to ensure that innovation is safe and supports, rather than poses a risk to, economic activity, it is important that both new and existing financial activities are regulated appropriately.

Stablecoins aim to maintain a stable value relative to a fiat currency. Stablecoin issuers generally maintain the value of the stablecoins by holding a pool of backing assets, which can be sold in order to return customers’ funds to them. As a practical example, if a coinholder paid £100 to the stablecoin issuer, the coinholder would receive an equivalent value of stablecoins in return, ie £100 (minus any potential fees). The stablecoin issuer would then hold the £100 (or remaining amount if fees are deducted) in the form of backing assets. If the coinholder later chose to redeem their stablecoins, the issuer would need to return that amount to the coinholder (minus any potential fees) and take the stablecoins out of circulation.

At present, stablecoins are primarily used to settle transactions, or to store value, in cryptoasset markets. But there are proposals for them to be more widely used for payments in everyday life, competing with cash and commercial bank money, which are the forms of money that are available today.

The Bank’s regulation of firms that operate payments at a systemic scale in the economy is rooted in the risks those firms, and the activities they undertake, pose to UK financial stability. To understand how systemic payment systems using stablecoins should be regulated, it is therefore important to understand the financial stability risks they pose, particularly to the robustness of money and payments and the confidence people and businesses have in them.

1.1: Stablecoins as an innovative means of payment

There has been rapid innovation in payments over recent decades, and the ways we pay for goods and services and what forms of money we use are changing.

Openness to financial innovation and a competitive environment have long been hallmarks of the UK’s success in providing financial services to people and businesses. The UK has one of the largest international banking sectors in the world and is home to a thriving ecosystem of financial services provided by non-banks. These services range from traditional insurance and fund management services to trading activities and derivatives clearing to specialist financial services such as Islamic finance.^{footnote [2]} For this ecosystem to continue to thrive, it is important that the UK continues to welcome and support innovation that can safely improve the efficiency, accessibility, and resilience with which financial services are provided to households and companies, thereby boosting sustainable economic growth.

Making and receiving payments plays a vital role in our everyday lives and is crucial for the economy. We have seen rapid innovation in payments in the UK (and globally) over recent decades. While cash continues to be available for all to use, and the Bank is committed to providing cash as a viable means of payment, its use has been steadily declining. As technology has transformed the way we live and interact, it has changed the way we pay for goods and services and what forms of money we use to do so. Many of us now make digital payments at the tap of a card, mobile phone or other electronic devices for the majority of our day-to-day payments and rely on virtual rather than physical wallets.

New technologies, such as ‘distributed ledger technology’ (DLT), including ‘blockchain’, have enabled the emergence of new forms of digital assets, and digital money.^{footnote [3]} Competition is increasing, as firms other than traditional providers, such as technology companies, are moving into the provision of payment services.^{footnote [4]}

Commercial banks are exploring whether they could issue a tokenised form of bank deposits, while a range of central banks, including the Bank, are exploring how new technologies could be used to issue a digital version of central bank money. In February 2023, the Bank and HM Treasury (HMT) published a consultation paper in which they assessed the case for issuing a ‘digital pound’ and consulted on design choices. This would be digital money for use by households and businesses for their everyday payments, issued by the Bank with digital wallets provided to customers by the private sector.

While these plans by commercial and central banks are still in their early stages, new technologies have already led to the emergence of new non-bank private providers of digital assets that could be used for payments. These are known today as stablecoins. The Bank set out its emerging thoughts on new forms of digital money, including stablecoins, in its 2021 discussion paper.^{footnote [5]}

Stablecoins could be used as a new form of digital money transferring value in new payment systems. They could offer benefits as an innovative way of settling transactions that enables new services and functionality in payments.

Payment systems using stablecoins are a new type of system for transferring value – the essence of any type of payment – which is built on innovative technology. They facilitate payments and the settlement of transactions independently of existing payment systems (albeit with existing payment platforms being used to purchase and redeem the stablecoins – so called on-ramps and off-ramps).

Payment systems using stablecoins might be able to offer significant benefits to users (Box A). For example, the technology means that they could contribute to faster, cheaper and more efficient payments, both domestically and for cross-border use. And they may offer greater functionality and programmability – the ability to automate the transfer of value more extensively and more efficiently via ‘smart contracts’. They could provide greater choice by competing with existing forms of money and payment systems. And they could open the door to future innovations that meet evolving transaction needs. The technology is as yet unproven at the scale and resilience level needed if they were widely used for everyday payments. Nevertheless, payment systems using stablecoin technologies have the potential to be used at greater scale and become a systemic element of payments in the UK economy.

1.2: The new regulatory regime for systemic payment systems using stablecoins

Figure 1.2: Scope of the Bank’s proposed regime

What type of stablecoin is the regime intended for?

For innovation in payments to thrive, regulation is needed to ensure it is safe and sustainable.

For the potential benefits of payment systems using stablecoins to be realised, it is necessary to have clarity about the regulatory framework within which they would need to operate. This will enable innovation to flourish in a sustainable way. Safety of sterling payments and confidence in money are fundamental to UK financial and economic stability. Having a clear regulatory framework will help to ensure that the stability of the financial system is safeguarded and the provision of payment services on which people depend are safe and reliable, even as issuers of new forms of money and operators of payment systems exploit new opportunities made possible by technological change. And it will allow those who want to use innovation to provide better products and services to understand the risks that need to be managed in line with the framework as they develop those products. It also ensures that new, innovative products are not simply gaining a competitive advantage over existing products by taking higher risks.

New technologies may be exploited by existing or new commercial banks by the tokenisation of the bank deposits that constitute the great majority of the ‘money’ used to make payments in the UK today. Equally they might be used by new non-bank entrants to the payments market whose business models are focussed more tightly on the provision of payment services as opposed to wider banking services.

The roadmap paper that accompanies this discussion paper explains how the regimes for these different models fit together, as summarised in Figure 1.3. For banks, the current regulatory regime for banking will need to be applied and tokenised deposits and other new forms of digital money will be subject to the approach set out in the accompanying letter to bank CEOs from the PRA. For non-banks, the Bank of England’s current regulatory regime for systemic payment systems and service providers will need to be extended to capture new technologies and risks, as will the Financial Conduct Authority (FCA) regime for payment providers.

The Government has enacted legislation that will allow the Bank to regulate systemic payment systems using stablecoins, to ensure they can be used as a safe means of payment and store of value.

Figure 1.3: Regulatory landscape for stablecoins issued by non-banks and banks

Footnotes

• Note that banks could issue other forms of money besides deposits, but deposits can only be issued by banks.

Ensuring that modern forms of money and payments meet the evolving needs of individuals and businesses, while maintaining financial stability, are fundamental responsibilities of the Government and the Bank. Reflecting this, under the Financial Services and Markets Act 2023 (FSMA 2023), Parliament^{footnote [6]} has expanded the regulatory remits of the Bank, the FCA, and the Payments Systems Regulator (PSR), to include stablecoins and payment systems using stablecoins.

The Bank’s implementation of its expanded remit is intended for stablecoins that are widely used for payments in the UK and that may pose risks to financial stability – which we refer to as ‘systemic payment systems using stablecoins’. The FCA’s remit will cover all ‘fiat-backed stablecoins’^{footnote [7]} issued in the UK. Stablecoins issued outside the UK will need to be approved for use in payments chains in the UK. This will allow the FCA to set rules to protect consumers and protect and enhance the integrity of the UK financial system, including where UK-issued stablecoins are used for activities other than payments. Further details as to the legislation and the regulators’ expanded remits, including for the PSR, are given in Section 2.

The Bank’s remit will cover systemic payment systems using stablecoins, systemic service providers to payment systems using stablecoins and related service providers. In existing payment systems, payments are made by transferring money that has been issued by central banks or commercial banks. When a stablecoin is used to make a payment, the stablecoin itself is transferred. Hence, an important element of the Bank’s regulatory regime will be to ensure systemic payment systems using stablecoins meet minimum standards in relation to the settlement asset being transferred – the stablecoin – itself. The key terms used in this discussion paper to describe the Bank’s proposed regulatory regime are provided in Table 1.1.

The regulatory standards proposed in this paper focus on sterling-denominated stablecoins used in systemic payment systems for retail payments.^{footnote [8]}

As noted previously, existing stablecoins are primarily used to settle transactions and to store value in cryptoasset markets. These markets have been growing rapidly and have already experienced a number of failures (Box B). However, they remain relatively small and have limited interconnections with the wider financial system. Consequently, the Financial Policy Committee (FPC) of the Bank has judged that, at present, direct risks to the stability of the UK financial system from cryptoassets and decentralised finance (DeFi) are limited, and hence stablecoins used primarily in cryptoasset markets or DeFi would not currently be considered as systemically important. In contrast, sterling-denominated stablecoins that are intended to be used widely for everyday payments by households and businesses in the UK would likely be recognised as systemically important. As such, they would need to be prepared to meet the regulatory standards proposed in this paper.

The Bank is considering the risks and benefits from innovations in wholesale settlement and will set out its views on this in due course.

For stablecoins that could be used for wholesale payments,^{footnote [9]} the Bank noted in its 2021 discussion paper that these raise different risks and issues that go beyond those addressed by the regulatory regime focused on in this paper. The Bank recognises that innovation may have potential benefits for wholesale market transactions. In this vein, Box C sets out the approaches to innovation in wholesale settlement that the Bank is currently pursuing, including the renewal of the RTGS service and a Roadmap for RTGS beyond 2024. The Bank is considering the risks and benefits of further innovations in wholesale settlement, including the use of stablecoins for wholesale purposes, and will set out its views in due course.

1.3: Safeguarding financial stability and the singleness of money

Systemic payment systems using stablecoins may pose risks to financial stability that differ and go beyond those associated with other payment systems and with money issued by commercial banks in the form of bank deposits.

In its 2021 discussion paper on digital money, the Bank examined the implications of new forms of digital money, including stablecoins, which have the potential to scale up and grow rapidly, and to become widely used as a trusted form of sterling-denominated payments.^{footnote [10]} It outlined the potential opportunities and risks presented by such stablecoins for monetary and financial stability (Box A). It noted that the most significant risk to financial stability arises from the potential for stablecoins to undermine public confidence in money and payments, and hence in the wider financial system. The analysis in the 2021 discussion paper and the responses to it, have informed both the Bank’s proposal set out in this paper and the legislation underpinning it.^{footnote [11]}

To maintain confidence in money and payments, all forms of money should have the same value, be generally accepted as a means of payment and be interchangeable without loss of value with all other forms of money used in the economy. This is called the singleness of money.

The ‘singleness’ of money refers to the principle that all forms of money should have the same value, be generally accepted as a means of payment and be interchangeable without loss of value with all other forms of money used in the economy. The stability of the UK economy and monetary system relies on this principle.

In the case of stablecoins, singleness of money could be compromised by frictions (eg delays, costs) in the ability to exchange the stablecoins for other forms of money, disruption to the ability to make payments, or a lack of confidence in the issuer’s ability to fulfil requests for redemption in full. In particularly adverse scenarios, a lack of confidence could cause a run on the stablecoin, involving redemption requests from a large number of coinholders. This, in turn, could overwhelm the issuer’s capacity to redeem the stablecoins, thereby leading to its failure. If this happened to a systemic payment system using stablecoins, it could disrupt the ability of users to make payments and lead to a loss of confidence in money and payments, and in the financial system more broadly.

Following a decline in the use of cash for payments over time, commercial bank money, which is issued by commercial banks in the form of bank deposits, now constitutes the majority of money used to make payments in the economy. For systemic payment stablecoins to be used alongside commercial bank money, the Bank must be satisfied that they provide an equivalent level of protection against loss of value and loss of confidence, in order to safeguard financial stability. This means that they must be regulated to an outcome equivalent to that which applies for commercial bank money in terms of resilience against risks – in other words, ‘same risk, same regulatory outcome’. This does not mean that issuers of stablecoins have to be regulated in exactly the same way as commercial banks. But it does mean they must be regulated in a way that ensures that stablecoins would maintain the same value as, and would always be fully interchangeable with, other forms of money. This speaks to the singleness of money.

To preserve the singleness of money, systemic payment stablecoins must be fully interchangeable with other forms of money.

Today, stablecoins are commonly traded in secondary markets. Their prices frequently deviate from par value and in times of stress these deviations can be significant. Were these stablecoins to be widely used for payments in the economy, such deviations would be a departure from the singleness of money and compromise confidence in them and their general acceptance in payments.

The Bank is not minded at present to prohibit systemic payment stablecoins from being traded on secondary markets. Rather, its proposed regulatory regime seeks to remove incentives for market participants to exchange systemic payment stablecoins at rates that depart from par. In particular, our approach is to require all issuers of sterling-denominated systemic payment stablecoins to ensure that they can be exchanged at par – that is, without loss of value – for other forms of money, including a digital pound (if introduced), on demand. This is consistent with the international standards published in July 2022 by CPMI-IOSCO for payment systems, which state that stablecoins should be convertible into other liquid assets as soon as possible, at a minimum by the end of the day, and ideally intraday.

The Bank recognises, however, that in future further requirements might be needed to maintain the singleness of money. This might include arrangements to ensure that, when coinholders move between stablecoins and commercial bank deposits, or other forms of money, these transactions are settled between the relevant institutions via accounts held at the Bank. This ensures that transactions are settled in central bank money (at par, and with no risk of change in value), which some argue is key to maintaining the singleness of money. The Bank welcomes views on this topic and will outline any further requirements in due course.

1.4: The FPC’s principles and expectations

The FPC has set two expectations for systemic payment stablecoins. These are consistent with a ‘same risk, same regulatory outcome’ approach to regulation.

In 2019 Q4, the FPC considered the risks of stablecoins that could have the potential to become widely used as a means of payments. These were assessed alongside other payment chains and existing forms of private money (ie commercial bank money). In the light of this assessment, the FPC set out two expectations around the regulation of systemic payment stablecoins:

• Payment chains that use stablecoins should be regulated to standards equivalent to those applied to traditional payment systems using commercial bank money. Firms in stablecoin-based systemic payment chains that are critical to the functioning of the chain should be regulated accordingly.
• Where stablecoins are used in systemic payment chains as money-like instruments they should meet standards equivalent to those expected of commercial bank money in relation to stability of value, robustness of legal claim and the ability to redeem at par in fiat.^{footnote [12]}

The FPC has subsequently clarified that systemic payment stablecoins issued by non-banks, which do not benefit from deposit protection or resolution arrangements, could nonetheless meet its expectations as long as regulation is designed to mitigate risks to financial stability to the same degree.

Under the banking regime, the safety of commercial bank money benefits from a backstop deposit guarantee scheme and resolution regime. A similar arrangement would be challenging to develop for systemic payment systems using stablecoins. The UK’s deposit guarantee scheme is funded by the financial services industry with firms paying an annual levy to fund the running of the scheme. At least in the short term, it is likely there will at most be a small number of systemic payment stablecoins in the market, which could limit the ability to pool risks to provide a sufficient guarantee at reasonable cost. And while, in principle, the risks of stablecoins could be pooled together with those of banks, this may not be appropriate given their different business models (both financial and operational), technology and regulatory frameworks. Meanwhile, a resolution regime for systemic payment stablecoins, if required, may take a number of years to design and implement.

In order to meet the FPC’s expectations in the absence of backstop arrangements that are available for banks, other elements of the regulatory regime, such as backing and capital requirements, would need to be more robust than for banks to ensure the necessary overall level of protections. These protections seek to ensure that stablecoin issuers are able to meet redemption requests promptly and in full, in normal times or in stress, so as to mitigate the risk of losses to coinholders.

The figure below summarises the key elements of the proposed regulatory framework, which is described in the remainder of this discussion paper.

Figure 1.4: Key elements of the regulatory framework for systemic payment systems using stablecoins and related service providers