Every day we see another mainstream financial institution scrambling to figure out their crypto strategy, and the reason is clear. Crypto has passed the tipping point of mainstream consciousness, and use cases like cross-border payments are decidedly outside the sandbox stage.
Cross-border payments are one of the first use cases for crypto for obvious reasons. Qualitatively, public blockchains and their native cryptocurrencies are global in nature and designed to be secure, censorship-resistant, cheap for transactions (depending on the token), and (perhaps most importantly) can settle transactions instantly. 24/7/365.
However, it took a few years for crypto to make a significant dent in this $ 130 trillion per year industry over which incumbents – like money transfer companies and big banks – have a monopoly. For example, the vast majority of Western Union’s revenue comes from individual transaction fees for cross-border payments.
It all comes down to the fact that crypto has a level of global liquidity equal to or greater than fixed and readily available ramps. Good news: these two lines are evolving positively.
Archaic systems favor big banks
The traditional foreign exchange (FX) world has been fairly stagnant for years – you can only make payments during normal banking hours, and although messages are sent via SWIFT, payments aren’t actually settled until a few days later. .
This outdated correspondent banking system has at least two distinct stages, and as we all painfully know, transactions are slow, error-prone, costly, and inefficient. While there are larger payment flows in corridors such as the United States to Mexico, there are still costs to consumers.
When you move to non-G-20 currencies, anyone can guess when your money will arrive from country to country, and you will be paying a fee ranging from 5% to 10%. This system has long served the big central banks who have monopolized access to liquidity between them, amassing trillions of dollars over the years.
For years (before 2017) crypto liquidity was limited to a handful of exchanges with a few million dollars in volume on all assets. This has changed dramatically over the past few years.
Ripple very early on focused on the thesis that it will become cheaper to find liquidity for cross-border payments with crypto compared to traditional fiat if (1) crypto increases in volume around the world (measured by the level of liquidity on exchanges) and (2) you can make larger payments with (measured by the size of the order book). What was a noble vision in 2015 is now a reality.
Access and exit ramps are required to access crypto liquidity
A key factor required to use crypto for cross-border payments is the ease of entry and exit to switch from fiat to crypto and vice versa to access crypto liquidity. I could once rely on one hand the methods available, and today the various venues, such as stablecoins and exchanges, for entering and exiting crypto are developing rapidly. Everyone from major money transfer companies and card networks to global crypto exchanges are taking advantage of tokenization to overcome this first hurdle.
Fiat-backed stablecoins have become one of the most popular on-and-off ramps, as they ensure a relatively easy way to access crypto without having to immediately convert money into fiat when trading. a payment and, therefore, eliminating the headache of conversion fees and high volatility in crypto.
This is evident in the growing market capitalization of stablecoins, which reached well over $ 100 billion in July 2021, up from $ 4 billion in 2019. They provide access and liquidity to crypto exchanges, decentralized funding platforms and less liquid fiat-to-fiat lanes. showing the power of what tokenized assets can do. As the world moves towards tokenization of all kinds of values (fiat, crypto, identity, loans, NFT, etc.), the more liquidity there is in the system to support the move from one asset to another.
Enter the data
Now on to the quantitative reasons – the data shows that supplying cash from crypto becomes more profitable than fiat over time. The fundamental question is at what point of data does crypto sourcing consistently become cheaper than traditional fiat exchange (FX)?
Using the chart below, we can see how the volume of crypto, an indicator of liquidity, has grown over the past five years using five of the major cryptocurrencies by market cap (Bitcoin, Ether, XRP, Litecoin and Bitcoin Cash) on Bitstamp as a proxy for the largest crypto market. These combined assets consistently accounted for around 85% of all crypto volume (excluding stablecoins) from 2016 to 2021.
We specifically looked at the monthly USD and EUR volume for the five tokens versus the average difference between spot and implicit USD and EUR exchange rates, as well as the size of the USD and EUR order book. EUR from April 2016 to June 2021. The spot rate shows the immediate The exchange rate at that precise moment, while the implicit rate indicates the exchange rate obtained by connecting the sending currency to the destination currency with an intermediary (such as using a crypto asset as a bridge).
Over the years, the difference between the spot exchange rate and the implied rate gets closer to zero, which is evident from the middle trendline, which means it becomes comparable or cheaper to send. payments via crypto only with fiat.
By extrapolating the trendline further, we could predict that the trendline will cross zero at a negative difference over the next two years (provided the crypto volume continues to double at the current rate). It’s also worth noting other factors at play here, such as payment providers like PayPal or Western Union charge a fee per fiat transaction (between 0.2% and 1% margin).
Over the same period, the chart above shows how the size of the order book is growing rapidly, meaning that there is enough liquidity to support payments of up to $ 4 million in total in 2021. with these five cryptocurrencies.
Revenue from traditional transaction-based payments will become obsolete
For all money transfer companies that derive a large portion of their income from foreign exchange transaction fees, there should be a wake-up call seeing this data.
Here’s the reason why companies are pushing to use crypto for cross-border payments – it’s not just about the qualities of blockchain and crypto that make it useful for this use case anymore, but also about global liquidity. can really support these large-scale payments. As more options are available to consumers, traditional businesses will need to reduce transaction fees to maintain market share, which will partially alleviate the problems.
To all consumers who have ever used PayPal or similar to make a cross-border payment: why stick with them when it is cheaper, faster and just as – if not safer – to use crypto?
These companies will need to change their revenue models, which currently rely heavily on transaction fees, or risk becoming obsolete. While some are moving in the opposite direction (i.e. PayPal has already increased its transaction fees for cross-border payments from merchants in Europe, and Western Union is pushing digital payments further to keep competitors away), the proverbial wave is already breaking down. The other services they provide (compliance, addressing, etc.) won’t save them either – many crypto companies already implement robust anti-money laundering programs and know your customers (AML / KYC ).
While this data using BTC, ETH, XRP, LTC, and BCH in a few lanes is a proxy for the entire market, the trend lines are directional obvious. Crypto is above a market cap of $ 2,000 billion today – imagine what could be possible when it is at $ 5,000 billion or $ 10,000 billion.
Crypto liquidity is a game changer. We are past the “if” – now is the “when”.