## Why Non-USD Stablecoins Are Stuck in Growth Limbo? Regulatory Pressure, Not Market Demand, Is the True Culprit

Many believe that the stagnation of non-USD stablecoins stems from insufficient demand, but this judgment is actually misplaced.

Historical data shows that daily foreign exchange trading volume for non-major currencies exceeds $3.2 trillion, indicating a huge demand for cross-border settlements. So, where is the real bottleneck? The key lies on the supply side—the global banking system's incentive mechanisms have completely failed.

Since the implementation of Basel III after 2008, coupled with a series of strict regulatory requirements, banks' balance sheet structures have been subjected to extremely stringent capital constraints. These rules directly destroy the profit margins for banks participating in non-USD liquidity activities.

**How Basel III Kills Non-USD Trading**

Liquidity Coverage Ratio (LCR) rules require banks to hold sufficient "High-Quality Liquid Assets" (HQLA) to withstand a 30-day stress scenario. It sounds reasonable, but the problem is: the definition of Level 1 HQLA is extremely strict, mainly including safe assets in reserve currencies like USD, JPY, EUR, etc.

This means that reserve currencies like USD, JPY, and EUR are naturally favored—they have deep global repo markets and reliable liquidity during stress periods. In contrast, trading pairs like BRL/USD or MXN/USD, even if seemingly liquid during normal times, will be excluded from liquidity buffers under stress scenarios by regulators.

If banks want to support channels like BRL/MXN, they must hold inventories of these currencies. But under the LCR framework, these inventories are considered "substandard assets," forcing banks to hold additional USD assets as compensation. The result: the cost of maintaining non-USD channels is artificially inflated.

Worse, if this liquidity is legally or operationally "trapped" (e.g., capital controls), banks cannot include these assets at the group level. It’s like being forced into "dual financing"—holding trapped liquidity locally while also maintaining redundant liquidity at the center. The entire system rewards a triangle arbitrage model centered on USD—radiating outwards.

**Capital Penalties Imposed by Market Risk Rules**

Even if banks can handle inventory issues, they face a second line of defense: market risk capital. Under Basel's FRTB rules, banks must hold capital buffers for potential losses from market volatility.

However, these rules do not treat all currencies equally. The regulatory framework explicitly distinguishes between "designated currency pairs" and other currency pairs:
- 10-day liquidity horizon: applies to USD/EUR, USD/JPY, and other major pairs
- 20-day liquidity horizon: applies to other non-major currency pairs

When banks calculate risk for non-designated pairs like BRL/MXN, the model is forced to assume it takes 20 days to exit risk under stress, whereas major pairs only require 10 days. This creates an invisible capital surcharge for non-USD inventories.

More critically, 20 days is just the minimum. If regulators deem a channel's liquidity poor, they can arbitrarily extend the horizon to 40 or even 60 days. This uncertainty exposes banks to unquantifiable risks in capital planning, ultimately making them prefer to participate only in designated currency pairs with predictable regulatory treatment.

Another deadly vicious cycle: if a trading channel is sparse, it cannot pass the risk factor eligibility test (RFET), and is classified as an "unmodelable risk factor." This is catastrophic at the capital level—banks must then use more severe stress scenarios to calculate capital, causing capital requirements to skyrocket. Low trading volume → unmodelable → capital requirements surge → banks exit → further volume decline. Before a channel is sufficiently liquid, banks simply cannot afford to market-make for it.

**The Hidden Killers in G-SIB Penalty Systems**

Global Systemically Important Banks (G-SIBs) face additional capital charges based on their potential systemic impact if they fail. But this scoring system creates an abnormal incentive: banks are actively encouraged to reduce complexity and global footprint.

The G-SIB scorecard uses a five-factor model, where non-USD channels pose a "triple threat" in three metrics: cross-jurisdiction activity, substitutability, and complexity. Supporting channels like BRL/MXN requires holding local balances and settling locally in Brazil and Mexico, directly increasing the cross-jurisdiction activity score.

Ironically, if a bank becomes the sole liquidity provider for the BRL-MXN channel, it becomes a "critical infrastructure." Should it fail, trade between Brazil and Mexico would be frozen. Regulators then give higher scores, effectively penalizing the provision of niche settlement channels.

These scores directly translate into CET1 (Common Equity Tier 1) capital requirements. Moving from a lower tier to a higher tier can increase the bank’s capital buffer requirement by 0.5% of risk-weighted assets. For a bank with $1 trillion in RWA, that’s an extra $5 billion in capital. Even a trading desk earning $50 million annually, if pushed into a higher tier, faces opportunity costs of billions, enough to make the bank abandon that business.

**Why Traditional Solutions Are Doomed to Fail**

The global FX market outside G7 countries has already become structurally broken. There is almost no direct bilateral liquidity between emerging market currencies, creating a "liquidity gap" in non-USD cross-border settlements. The real problem with non-USD stablecoins isn’t demand deficiency, but the infrastructure costs needed to connect these demands—taxed out of existence by regulatory rules.

Correspondent banking networks used to be the backbone of cross-border settlement, but under the pressure of G-SIB penalties, they are retreating. Banks are asked to act as bridges, but the tolls are now prohibitively high. As long as global trade relies on balance sheet-constrained institutions to hold inventories, non-USD channels will remain fragmented, costly, and inefficient.

Relying on old, mimetic systems will never succeed, especially for financial innovations like non-USD stablecoins. We need DeFi-native liquidity bootstrap methods. Any on-chain FX solution that depends on traditional foreign exchange markets is doomed to hit regulatory and market reality walls.