Yesterday the consultancy Oliver Wyman published a report in conjunction with JP Morgan’s Onyx on blockchain and tokenized bank deposits as a form of payment. The report delves into the differences between stablecoins and deposit tokens, making the case for regulated deposit tokens and exploring their use cases.

“We believe deposit tokens will become a widely used form of money within the digital asset ecosystem alongside central bank digital currencies,” said Basak Toprak, global product head for deposit tokens at Onyx by JP Morgan.

JPM Coin is one of the higher profile tokenized repositories, but smaller banks like Signature also have blockchain-based payment networks that support 24/7 payments. Both JPM Coin and Signature’s Signet support payments between existing bank customers only. Signet recently said that freight forwarding companies are the biggest users of its blockchain payment network because it supports instant payments outside of banking hours.

Other use cases for deposit tokens include:

• programmable money
• Settlement of financial transactions
• Participation in DeFi
• Use of bank tokens as collateral.

While JPM Coin and Signet operate distributed ledgers from a single bank, for interbank payments, JPMorgan-backed Partior has a shared ledger, as does Tassat’s digital interbank network. Oliver Wyman identified a third group, universal tokens that operate on permissionless blockchains as planned by the USDF Consortium of community banks. JP Morgan is also participating in public blockchain experiments in Singapore.

Digital currency competition

The report focuses on three types of tokenized money: stablecoins, depository tokens, and central bank digital currency (CBDC), but there is actually a spectrum. For example, somewhere between depository tokens and CBDCs, there is a synthetic CBDC, where institutions issue tokens backed by bank deposits at the central bank. One example is Fnality, backed by 17 major financial institutions.

Oliver Wyman argues that once stablecoins become more significant, a run on a stablecoin could affect money markets if there are sudden large sales of government bonds. That’s something the European Central Bank highlighted years ago when discussing Libra, Meta’s proposed stablecoin.

Banks already have rigid capital and risk management requirements, so the argument is that they are more stable. The strongest thing in favor of deposit tokens is the tendency to be more decentralized compared to stablecoins. There are only three large stablecoin issuers compared to 30 systemic banks globally and around 10,000 banks overall.

However, Silvergate Bank, which focuses on the digital asset sector, was almost brought to its knees after the FTX collapse when it experienced a breakout-like situation. The digital asset companies had large deposits in the bank that were withdrawn. He only saved himself by taking an ultra-conservative balance sheet approach, but he lost money because he had to sell bonds quickly.

Other benefits of deposit tokens include interoperability with the existing financial system.

As for securities transactions, the paper argues that deposit tokens allow for atomic settlement, which means that money and securities are exchanged simultaneously, eliminating counterparty risk. That is true, but during turbulent economic times, money from commercial banks is not considered risk free, hence the desire for a CBDC.

In fact, the Bank of England has stated that most stablecoins will likely be backed by central bank money.

Regulators and tokenization

Regulators are pleased that the cryptocurrency crash and the FTX crash have had limited impact on the mainstream financial system. Currently, there is a challenging dynamic between embracing blockchain innovation and resistance from regulators to the volatility of cryptocurrencies spilling out of their ecosystem.

That’s hinted at in the conclusion of Oliver Wyman’s article. It argues that deposit tokens “merit separate consideration by banks seeking to innovate, regulators seeking to establish proper regulation that shapes this evolving space, and the broader set of financial system participants seeking to interact.” with digital money.

Meanwhile, in late 2021, Oliver Wyman and Onyx released a report estimating that cross-border CBDCs could save $100 billion a year.