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"Cars, Excel spreadsheets, vacuum tube-based computers, poorly-implemented recursive programs, and attempts to win at real-time strategy games all break for approximately the same reason: they have lots of moving pieces, and the more moving pieces there are, the easier it is for something to stop working."
In May 2021, Byrne Hobart wrote a fantastic piece titled Stripe and Solid State Economics.
He makes the point that Stripe is a valuable company because it takes the variety of business functions that go into making online payments work and ties them together in a seamless manner.
But! The catch is that Stripe can make e-commerce only so useful. It's limited by the the way the global financial system is setup.
"As it turns out, though, there really isn't "a" global payments system. There are countries, they each have multiple payments systems, some of those systems overlap in some ways, and participating in those systems requires some combination of government approval, banking approval, technical overhead, and ongoing compliance and maintenance costs."
In other words, global payments are tough because the network effects between currencies is not strong. And for anyone in crypto, this is a known problem - it's essentially the primary value prop for defi.
Now, why do I bring this up?
Because right now the timeline is flooded with excitement that Stripe purchased Bridge for $1.1 billion.
And that celebration is well deserved...it's a huge win for the space! Having the Collison brothers double down on their crypto involvement sends a signal to the rest of the fintech industry.
This is the largest acquisition the crypto ecosystem has ever seen. The runner ups being Coinbase buying Bison Trails for $475 million in 2021 and Binance buying Coinmarketcap for $400 million in 2020.
What caught me off guard about the news was not the acquisition itself but the fact that I totally missed how much larger the stablecoin ecosystem is past the usual suspects such as Circle (USDC) and Bitfinex (USDT).
For the most part, Bridge wasn't even on people's radars. For the past 2.5 years, they've been quietly navigating the stablecoin vertical trying to figure out where they can best plug in.
The answer for Zach and Sean, the co-founders of Bridge, ended up being Stablecoin Orchestration which is just a fancy way of saying their API suite makes it easy to convert between stablecoins as well as foreign currencies and vice versa.
So why is this acquisition a no brainer for Stripe?
Because Bridge makes it possible for them to get rid of more moving pieces and consolidate their payments flow!
But what does that mean? And how does this acquisition effect the rest of TradFi and stablecoin startups?
Let's dive in.
The convergence of TradFi
When using Stripe, most people don't realize that the product is handling the flow between a variety of stakeholders - banks, payment networks, SWIFT for global transfers, etc.
But as Byrne mentioned, Stripe simply makes online payments work.
"Stripe is part of an interesting category of value-creating companies whose offering is to make some process work the way you'd imagine it worked if you had never actually tried to do it yourself."
However, these middlemen not only make the process inefficient for Stripe by increasing transfer and settlement latency but also by charging fees for being part of the value chain.
And the problem isn't unique to Stripe. PayPal suffers from the same set of issues. It's the primary reason they jumped to launching their own stablecoin PYUSD last August.
By incorporating stablecoins into their flow, these fintech companies move one step closer to capturing the entire value chain of online payments.
As I mentioned above, payments companies such as PayPal and Stripe partner with existing banks to hold user funds. But by using stablecoins, they're able to have increased autonomy over the value transacted on their network.
This snippet from a Delphi Digital report on moats explains the financial incentive:
"...by getting users to instead hold pyUSD through PayPal’s payment front-ends (e.g. Venmo), PayPal effectively become the bank themselves. PayPal can subsequently take user funds and deposit them into treasuries and earn this spread. This not only would allow PayPal to compress payment fees to zero, but possibly even pay users rebates or some yield on their idle pyUSD balances. This would make it extremely difficult for other Web2 payment apps to compete at scale."
Become the bank themselves.
To me that's the primary motivating factor for the fintech giants. From a business perspective, this point is arguably more important than solving for faster transaction and settlement speeds.
Now, the interesting thing to point out here are the different approaches PayPal and Stripe are taking.
PayPal decided to issue their own stablecoin meaning they are focused on treasury management.
Stripe decided to focus on the conversion layer indicating they're focused on stablecoin infrastructure.
I believe each started with their respective routes because it suits their current tech stack.
At a high level, Stripe is a payments API company. And Bridge plugs right into that. It's a matter of integrating Bridge's stablecoin APIs into their own developer docs.
And PayPal thrives on its large retail base through their frontend services such as Venmo. So naturally, their crypto team is focused on optimizing how they manage user balances and leverage that capital. Issuing their own stablecoin, PYUSD, allows PayPal to handle funds more efficiently.
But the way I see it, both companies will inevitably have to verticalize the entire stablecoin stack. It will be essential to provide internal tooling for stablecoin issuance, orchestration, treasury management, debit cards, crypto wallets, etc.
It seems like a no brainer because having the entire stack in house will enable the companies to provide the optimal user experience and capture an increasing share of the payments value chain.
In other words, don't be surprised to see Stripe launching their own smart wallets and crypto debit cards.
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Additionally, it's worth noting that as of right now, the current cash cow for stablecoins comes from issuance. For example, Tether made more profit than Blackrock in Q4 '22. So as Stripe navigates through the stablecoin idea maze with its users, they'll eventually launch a stablecoin to help their merchants plug in quickly and provide incentives for using their ecosystem's native stablecoin.
The winner in this category will be a large payments company that's brave enough to try the new business model and cannibalize their existing model.
Both Stripe and PayPal have massive global reach and will be looking to plug in stablecoin infrastructure in their existing networks. As Viktor mentioned above, it will be the companies who beat the rest of the market to "cannibalizing their existing model" that will see the benefits in the next 5 years.
Now, you're probably thinking...if Stripe and PayPal are going all in on the stablecoin strategy, isn't this a big threat to payment networks such as Visa and Mastercard?
And that's absolutely correct.
That's why they've already been creating their own playbooks to not miss out on the stablecoin revolution.
For example, in 2020 Visa became the first payments network to accept USDC. And Mastercard launched their own crypto credit card service.
But my guess is that Stripe acquiring bridge has accelerated stablecoin conversation for every crypto strategy team at these large tradfi / fintech companies.
In terms of banks? Well, to be honest, I'm not sure what the playbook will be. It's clear that stablecoins hurts their moat of being facilitators for international payments and vaults for user deposits. But their advantage is being the most aligned to government regulations. It could be that they lean in to the inevitable rise of CBDCs?
For example, BRICS just announced that they're launching their own digital currently to reduce reliance on the USD. It's clear that banks will jump at the chance to form their own CBDC playbooks to compete for this new market share.
Whatever the answer is for these different tradfi stakeholders, the overarching theme remains consistent: stablecoins have entered the chat and there's no option to kick them out.
The question is now which large institutions will embrace the new member of the financial system with open arms and quickly become friends with stablecoins.
To a certain extent, many of the different players in TradFi start looking a lot similar as they all hope to use stablecoins to provide the full stack of financial services (payments, banking, card services, etc.)
This section covered implications for all the fintech players...but what becomes of all the crypto native stablecoin upstarts?
Pick a side...TradFi or Defi?
Based on my research yesterday, it seems to me that founders in the stablecoin vertical will need to pick who they are catering to:
TradFi / web2 fintech
Onchain native / crypto adopters
The first being an obvious nod at Stripe's acquisition of Bridge. And the second hinting at the long tail of defi native stablecoin infrastructure that's yet to come.
But what exactly is the distinction there?
Well, the stablecoin ecosystem is primed to be much larger than just replacing fintech payment services. As I mentioned in my Stablecoin Adoption post, it's a two-pronged approach. One that gears towards improving existing financial rails and the other that uses stablecoins to enhance crypto forward products such as Polymarket, Bountycaster, Uniswap, Aave, etc.
Startups that are looking to be a plug-in service for tradfi players will be looking to make the most of larger, institutional partnerships. Examples include Paxos, Ondo Finance, Brale, Agora, Coinflow, and Sphere (h/t Anna for this list).
And then the other side of startups are those leaning into the fully decentralized stablecoin infra stack. Some examples here are Prerna, Gnosis Pay, Based App, and Picnic. These companies are looking to be somewhat direct competitors to what Stripe, PayPal, etc. offer. And they're catering to an audience that is naturally more crypto native and helping enhance the onchain experience through stablecoins enabled applications.
Note: it's not a hard distinction and the line between both categories is blurred but there does seem to be general categories you can group the stablecoin startups into.
With that being said, it feels like there's a Stablecoin Barbell strategy that founders should consider. Are we catering to the inevitable slew of tradfi companies that will want to plug into the stablecoin space? Or are we building stablecoin infra for defi apps trying new experiments that don't make sense for Stripe and PayPal?
Those trying to double dip will, in my opinion, be crushed by tradfi players who have distribution moats as well as defi players who optimize their product for unique onchain features.
I didn't get much time to dive deeper into each of the startups mentioned above but it's definitely on the docket now.
Today's post was a stream of initial thoughts after hearing about Bridge's acquisition but I've still yet to come up with meaningful answers to the following questions
Where do the moats form in the stablecoin stack?
How will other web2 fintech players get involved?
If there was another acquisition to happen, what would it be?
Over the next few months, as things start to get increasingly interesting in the stablecoin space, I'll make sure to keep you all up to speed on how the framework is changing.
I hope all of you have a great rest of the week!
- YB
