Tether Transitions into Fraction Reserve Banking with a Grievous Troubling Point

Recently, Tether had made changes on its website regarding its 100 percent backed status stating:

“Every tether is always 100% backed by our reserves, which include traditional currency and cash equivalents and, from time to time, may include other assets and receivables from loans made by Tether to third parties, which may include affiliated entities (collectively, “reserves”). Every tether is also 1-to-1 pegged to the dollar, so 1 USD₮ is always valued by Tether at 1 USD.”

Previously, Tether has faced controversy surrounding its lack of transparency and audit of reserved funds. Though the latest update gives a clear picture of these funds which weren't all fiat backed rather also involves assets, it presents another set of issues.

In response to this, Tuur Demeester, the founding partner at Adamant Capital shared that this new revelation had Tether coming out as fractional reserve banking.

This is basically a common practice among the banks worldwide where a commercial bank accepts deposits from savers and then give them as loans to borrowers while holding reserves at least equal to a fraction of their deposit liabilities.

Slippery language by Tether. "100% backed" <=> "may also include receivables from loans issued". Imo this is a clear transition from full to fractional reserve banking. https://t.co/hY26ngZ33U pic.twitter.com/9toOrbVW7c

— Tuur Demeester (@TuurDemeester) March 14, 2019

“Slippery language by Tether. “100% backed” <=> “may also include receivables from loans issued”. Imo this is a clear transition from full to fractional reserve banking.”

Though it may not sound like a big deal as banks operate in a similar manner, regular banks have a lender of last resort which is a usually the central bank of a country that offers loans to banks that experience financial difficulty.

“It basically means that if there's a run on the bank (ppl redeeming USDT for USD), that the system could fail and people could be left with nothing.”

How is Tether Creating liquidity that can Affect Bitcoin Price?

Fernando Ulrich, a chief analyst at XDEX shared an interesting thread on Twitter explaining the situation with utmost clarity.

To start with, Tether receives funds from the customer either as cash or bank wire with a 90 percent likelihood to buy US treasury bills as the reserves.

7/22 3) Tether uses received funds (with 90% likelihood) to buy US T-bills; 4) after a given period, customer asks for redemption, sends tokens back to Tether, which sells T-Bills on the market to raise funds and wire the money back to the customer.

— Fernando Ulrich (@fernandoulrich) March 15, 2019

By 100 percent cash reserves, it doesn’t mean setting aside a pile of actual cash rather T-bills that bank promises to “pay in specie whenever requested.”

So if a customer asks for redemption and sends tokens back to tether, it will sell these bills on the market to raise funds and wire the money back to the customer. This Ulrich notes is:

“pretty much how a standard bank deposit contract should read. Quite remarkable that Tether is much more transparent than banks in this regard.”

From here, tether would use the money received from customers for issued tokens to purchase “whatever asset it may please,” which as Ulrich points out is about the business model of all the stablecoins present out there. Now, Ulrich addresses a crucial point that is:

“Tether may be issuing tokens on credit, that is, creating liquidity that can affect bitcoin (and altcoins) prices. How?”

The ambiguity in the business practices and “may also include other assets” of Tether contact opens the door to as Demeester puts it “backing by virtually anything with fuzzy valuation assumptions.”

So, now the troubling question is whether Tether is financing Bitfinex by creating liquidity through the issuance of tokens that are to be paid at a later date and if yes, how much?