Why Coinbase’s USDC Interest Rate Offer is Confusing and Perhaps Illegal (Pt. 1)

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In an interesting turn of events, Coinbase announced on October 2nd, 2019, that USDC holders [U.S. citizens only] on Coinbase would receive interest on their deposits.

That’s right, interest.

This offer is particularly interesting for a few reasons, namely because:

  1. It puts a LOT of pressure on other commonly traded stablecoins, since none of USDC’s competitors/alternatives provide the opportunity for users to receive any interest from them
  2. This makes Coinbase even more of a quasi-banking institution (shadowbank, perhaps, is the right word here?). They were already fulfilling this function to some extent via their custodial and crypto exchange services — but by granting USDC holders the ability to receive an interest rate, Coinbase has essentially provided strong incentive for users to park their funds in USDC
  3. USDC now becomes an even stronger alternative to USDT (the leading stablecoin by volume & quantity), in specific, especially in light of the regulatory uncertainty looming over the latter
  4. This move exemplifies Coinbase’s desire to ascend ever upward in the financial sphere in terms of status, offerings, and perceived ‘legitimacy’. By offering interest for USDC holders, Coinbase once again puts themselves in the best position to be the industry’s leader in providing a comfortable and familiar bridge for those transitioning from the legacy financial sphere to digital currencies. Lest we forget, Coinbase was ranked #1 in the app store during the 2017 Christmas holiday season — which is no small feat for any company in any industry.

The official announcement from Coinbase announcing their new offer of interest for those holding USDC on their platforms can be found here: https://blog.coinbase.com/start-earning-crypto-rewards-on-coinbase-today-d54d12e9aac [archived = http://archive.is/4DLAr ]

Slightly Deeper Dive Into the Facts

So far, we’ve explained the general gist of what it is that Coinbase is offering its customers for USDC — now, let’s take a look at the specifics behind this notable amendment to USDC’s structure as outlined in Coinbase’s press release.

Below are some of the important takeaways (not all, make sure to read it):

  • Only U.S. customers are eligible
  • Specifically, eligible U.S. customers will “begin earning 1.25% APY* rewards on every USD Coin (USDC) they hold on Coinbase.”
  • Note that in that last bullet point, it specifically states ‘Coinbase’, and not ‘Coinbase Pro’ (their official exchange). This distinction is meaningful here
  • USDC is a stablecoin, which offers price stability by being backed by a reserve asset.” This is also important to note, because it means that the coin is backed by assets, not 1:1 with literal USD. Notably, when USDC was first announced as a stablecoin in October 2018 (almost exactly a year to this date), Circle (partnered with Coinbase in the release of USDC) stated that, “When Circle tokenizes U.S. Dollars for USDC it will always do so at a rate of one U.S. Dollar ($1) per one (1) USDC” and, “For each USDC that is issued by Circle and remains in circulation, Circle will maintain the equivalent of one U.S. Dollar ($1) with its banking partners in Segregated Accounts, on behalf of, and for the benefit of, Users.”
  • “You can always redeem one USD Coin for one US dollar” ; this is another critical statement because, unlike USDT, Coinbase is explicitly stating that you can always redeem these coins for one USD. That’s a huge deal
  • CENTRE, the consortium co-founded by Coinbase and the creator of USD Coin, recently announced it has issued over one billion USD Coins” ; their website could be worth checking out for folks that would like to do further probing into what they are
  • “Eligible customers will begin earning rewards on any USD Coins they currently hold on Coinbase, with rewards being distributed on a monthly basis”
  • “USD Coin rewards accrue daily, and customers will maintain complete control over their USD Coins at all times” ; this is interesting — how will customers maintain control over their coins at all times? To our knowledge, Coinbase is a custodial exchange (i.e., they own the privatge private keys)
  • “It’s also free to buy USD Coins with a bank account” ; another major bonus
  • “Coinbase customers can convert their USD Coins into any supported cryptocurrencies available on Coinbase.com or withdraw in US dollars anytime”
  • Not available to customers in New York State!

If you want the gritty details, here are two links that outline the ‘FAQ’ and Terms and Conditions as well as the ‘Legal’ side of things_:_

  1. Support Center = https://support.coinbase.com/customer/portal/articles/2980181
  2. Rewards Terms = https://www.coinbase.com/legal/user_agreement

Points of Confusion/Concern

There are a few points of confusion that should be pointed out in this press release and the subsequent terms provided.

First, let’s check out the excerpt at the end of their USDC interest rate press release on their blog where it states:

“ USDC is not legal tender. USDC is a digital currency and Coinbase has no right to use any USDC you hold on Coinbase. Coinbase is not a depository institution, and your USDC is not a deposit account — savings, checking or otherwise. Your USDC wallet is not insured by the Federal Deposit Insurance Corporation (FDIC) or the Securities Investor Protection Corporation (SIPC).”

The most confusing part about this is the idea that, “USDC is a digital currency and Coinbase has no right to use any USDC you hold on Coinbase.”

in conjunction with,

Coinbase is not a depository institution, and your USDC is not a deposit account — savings, checking or otherwise.”

Why This is Confusing

As most people know, just about every regular, commercial bank offers its customers APY/interest on deposited cash in a savings/interest/checking account. This is standard.

More importantly, the logic behind why banks do this is pretty well understood too.

As the crypto space has aptly pointed out (especially in defense of USDT’s failure to retain full backing of their stablecoin), banks in the United States, specifically, operate on a fractional reserve.

This means that banks generally only keep a certain percentage of their customer’s deposited cash on hand.

This is because, “Banks use the money deposited on savings accounts to lend to borrowers, who pay interest on their loans. After paying for various costs, the banks pay money on savings deposits to attract new savers and keep the ones they have. The difference between the money earned as interest on loans, any operating expenses, and the money paid as interest to savings accounts is profit to the banks.” — source

Simple, right?

The process is as follows for the traditional banking system:

  1. You deposit a certain amount
  2. Banks keep a certain percentage of it (let’s say 25%, for example; the specific amount is mandated/regulated by the U.S. federal gov’t and banks are regularly audited to ensure that they do at least have this amount) on-hand in case you want to make a withdrawal at any time in the future
  3. The banks use the other hypothetical 75% of your deposited funds to lend to others, make investments, etc.
  4. In order to gain more customers/entice already existing ones to deposit more of their funds at their respective financial institutions, banks offer competitive interest rates — which basically amounts to “free money” for customers that decide to park their funds

Conclusion (Intermittent)

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