An Act of GENIUS?

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On Friday, July 18, 2025, the President signed into law the Senate Bill 1582, the “Guiding and Establishing National Innovation for U.S. Stablecoins Act” or “GENIUS Act,” which provides for the regulation of stablecoins. The law is part of a series of initiatives to define a regulatory framework for cryptocurrencies in the United States. At this point, it is important to discern the trees from the forest. Well-received as it was for bringing legal clarity, there is one feature of the new law that is extremely concerning: how much the stablecoins that come to be issued under its rules incorporate the most damaging economic attributes of a “Central Bank Digital Currency” (CBDC).

The regulatory scheme for cryptocurrencies has been a point of contention since Bitcoin was first launched in 2008. Unlike state-issued currency, Bitcoin is issued privately according to the rules of its own system, and the transactions are registered in a decentralized ledger kept by a myriad of computers owned by different individuals around the globe who are paid to do that essentially by the issuance of new Bitcoins according to a decreasing scale.

Volatility has always been an issue with cryptocurrencies, which has prompted the issuance of “stablecoins”: a kind of cryptocurrency that aims to keep its value stable.

The majority of the stablecoins in existence today are privately issued digital tokens, something akin to a prepaid credit card. In other words, an instrument that promises its holders that their value will be pegged au pair to the US Dollar in the same way as other private money substitutes do, like checking accounts and credit cards.

There are different mechanisms issuers of the stablecoins use to achieve that goal. One is to link the issuance of stablecoins to an algorithm regulating their amount in order to keep their value stable, as was the strategy pursued by Terra/LUNA, which failed miserably. Another strategy followed by the two main issuers of stablecoins today, Circle and Tether, is to hold reserves of the currency they peg their coins to, that is, the US Dollar.

Following this method, issuers are supposed to have “full reserves,” that is, 1 USD in assets for each 1 USD worth of their coin they issue. Furthermore, the assets are supposed to be limited to cash, cash equivalents, and short-term investment-grade bonds.

Because, until now, there was no regulation about the issuance of stablecoins, the decisions about the composition of the reserves and the transparency of what they actually have are issues that were left to issuers to decide.

But their basic business model is simple. It works like a bank. Commercial banks issue money equivalents such as bank deposits, debit, and credit cards that people perceive as substitutes for money proper. But note, when you hold a checking account and you pay using it, you are giving a private credit to the person from whom you are buying, a promise made by the bank that it will pay back that promise with proper money.

In this sense, the issuers of the stablecoins give you a token that they promise to redeem, on demand, by paying the promised amount in money proper, that is, in US Dollars.

How do they make money? They make money like a bank. The bank takes your deposit, invests in giving credit to people that offer them profitable opportunities for lending by showing that they will invest the money in some enterprise or other that likely will give them a higher return than the interest charged by the bank, and the bank will charge interest sufficient to cover their costs of keeping your deposits.

Likewise, the stablecoin issuers presumably buy liquid assets of excellent quality that will pay them interest, and since the stablecoins pay no interest, they keep for themselves the difference to cover their expenses and to make a profit.

There is one caveat, however. Commercial banking is operated all around the world under a fractional reserve arrangement. That is, they hold cash and cash equivalents of just a fraction of their deposits, lending the rest in the market.

The stablecoin issuance has been, until now, supposedly, conducted under a 100 percent reserve regime.

That, however, is not different from institutions operating in the “shadow banking” market, like investment banks and other financial institutions that operate Money Market Mutual Funds (MMMFs) under a full reserve arrangement. That is, they hold short-term investment-grade assets aside from cash and cash equivalents, dollar for dollar, of what they issue in units of their funds.

They are not commercial banks; they do not operate under fractional reserve arrangements, and still, they are able to make a profit by arbitrating the difference between the return they give to the owners of the units of their funds and what they make in interest over their assets.

The fact is that there are institutions doing exactly what the stablecoin issuers arguably are doing.

So far, so good. Let us talk now about the GENIUS Act.

The bone of contention is that, according to the law, Section 4(a)(1)(A), it does not allow as collateral for the issuance of “payment stablecoins” anything that ultimately does not have as collateral a liability issued either by the US Treasury or the Fed.

Under Section 4(a)(1)(A) of the Act, stablecoin reserves must consist of categories, all of which are ultimately backed by either the US Treasury or the Federal Reserve, including US coins and currency, demand deposits, Treasury bills, and Central Bank reserve deposits. In other words, everything must be backed by either Treasury liabilities or Federal Reserve liabilities.

In short, the GENIUS Act will increase financial repression.

No other forms of collateral—like corporate bonds, equities, crypto assets, mortgages, or foreign government debt—are permitted.

This makes the GENIUS Act highly conservative in its reserve requirements, limiting permissible collateral to instruments with the lowest credit and liquidity risk available in the US financial system. That seems to be a good thing, but it also makes the GENIUS Act an instrument of financial repression.

The main advantage of fractional reserve banking is to optimize the allocation of credit to the most profitable credit opportunities. Although commercial banking is somewhat repressed in the US, companies in the private sector rely on credit provided by commercial banks to fund their activities.

Commercial banks give credit with funds they attract by providing demand deposits to their customers. For decades now, a process of disintermediation has taken place in the US. Some of the liquid savings of the public are invested in the shadow banking system (MMMFs that invest predominantly, but not exclusively, in short-term public debt instruments), and the share of the assets held by commercial banks in treasuries has increased significantly, especially by the accumulation of bank reserves with the Fed above the minimum required reserves.

The GENIUS Act will only exacerbate this problem of financial repression. That is, if more people hold stablecoins instead of leaving their cash balances at their checking accounts, less credit will become available to the private sector, and a higher percentage of the liquid funds in the economy will be diverted from productive investments to fund the floating of the federal debt.

The GENIUS Act, by requiring payment stablecoins to be backed almost exclusively by ultra-safe, public-sector liabilities (US Treasuries, central bank reserves, etc.), will reinforce and institutionalize the trend toward disintermediation and financial repression in key ways.

Fundamentally, it will accelerate the siphoning of liquid funds away from private credit creation. As mentioned above, payment stablecoins under the GENIUS Act must hold reserves in public instruments only, with no ability to finance private-sector loans or even hold corporate commercial paper. That means billions (or eventually trillions) in liquid balances could be locked into non-lending, non-private risk-bearing uses—functionally equivalent to shadow central bank liabilities. This crowds out banks’ balance sheets, whose traditional business is precisely to transform liquid liabilities into credit extended to private actors. The net effect is easy to perceive: More savings are diverted from entrepreneurial activity to government debt service.

It may also reinforce the segmentation between “safe money” and productive intermediation. Under the GENIUS Act, stablecoin issuers cannot lend, while commercial banks are constrained by liquidity coverage ratios (LCR), capital requirements, and often regulatory discouragement from maturity transformation. As a result of that, financial flows bifurcate: One system (stablecoins + mutual funds investing in treasuries) preserves nominal value at all costs but doesn’t extend credit to productive enterprises, while the other (commercial banks + mutual funds investing also in commercial papers) bear credit risk but are structurally disadvantaged by the simple fact that investors in stablecoins will have the conveniences of digital transactions while holding money proper instead of money substitutes such as checking accounts.

This is not efficient financial intermediation. It’s fragmentation, driven by policy and regulation. The basic fact is that the GENIUS Act implicitly expands demand for US public debt. Every dollar of stablecoin issued must be backed 1:1 with Treasuries or Fed liabilities. If stablecoins become widely adopted, this creates a structural, possibly massive source of demand for short-term US debt—akin to an indirect form of government financing via financial repression. Think of it as a hidden tax on liquidity preference: savers can only hold “safe” liquid assets if those assets ultimately fund the state. As a consequence of that, it worsens the decline in the private-credit multiplier. Let us remind ourselves what has been historically the dynamic of modern finances: Cash balances → bank deposits → loans → productive investments → growth.

Now think about what the dynamic under this new rule will be: Cash balances → MMMFs and stablecoins → T-bills and Fed reserves → no new credit creation for productive investments.

The result is a lower velocity of credit and weaker capital formation, particularly for small and medium-sized businesses that don’t access capital markets directly. In short, the GENIUS Act will increase financial repression, reduce the share of private credit in the economy, and divert more of the public’s liquid savings into financing the federal debt—whether through reserves, short-term Treasuries, or repo markets dominated by public collateral.

Most of the discussions nowadays about the future of cryptocurrencies have been between proponents of CBDCs and proponents of Stablecoins. Usually, it has been understood that CBDCs, when offered to retail consumers, are instruments of financial repression for increasing the share of liquid funds carried to the funding of public debt. Contrarywise, stablecoins have been understood as simply an evolution of private money substitutes. If the commercial banks of old used to issue banknotes, later checking accounts, later credit cards, and now credit cards in digital form, they, along with other institutions that came to be authorized, would issue stablecoins and keep liquid funds mostly available to fund credit in the private market.

That is not what the GENIUS Act determines. According to the law, there will be no difference in terms of capital allocation between a CBDC and the stablecoins that the act allows to be issued.

So was this really an act of genius?

The only reason that crosses my mind for such a blunder is that the “Treasury View” dominated the discussions that preceded the law, but about that I can only speculate.

Any opinions expressed are the author’s and do not necessarily reflect those of Liberty Fund.

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