Ryan Chan-Wei
Few provisions in the Clarity Act have been the subject of as much debate as Section 404, which sets out the circumstances under which stablecoin intermediaries may pay rewards to their customers. Section 404 is known as the Tillis-Alsobrooks compromise, after the two Senate Banking Committee members, Thom Tillis (R‑NC) and Angela Alsobrooks (D‑MD), who brokered it. After months of talks with banks, the White House, and the crypto industry, they reached a bipartisan deal that overcame an impasse over whether stablecoin players could pay rewards at all.
Section 404 aims to ban passive, deposit-like yield while preserving activity-based rewards. To distinguish between the two concepts, almost everything turns on a single phrase: a reward that is “economically or functionally equivalent” to interest on a bank deposit is banned, while one that is not is allowed. The trouble is that the latest draft of the Clarity Act does not clearly define how such equivalence should be understood.
Unpacking Section 404
Rather than specifying the standard by which equivalence should be measured, Section 404 leaves that determination to rulemaking by the Department of the Treasury (Treasury), the Securities and Exchange Commission (SEC), and the Commodity Futures Trading Commission (CFTC). The non-exhaustive list of permissible rewards it does supply settles little, because each example still defaults back to the same undefined test. Loyalty programs, for instance, can be both permitted and prohibited [404(c)(3)(A)(iii), 404(c)(2)(B)], depending on whether they are equivalent.
The text is so broadly drafted that it could support a wide range of interpretations. On a broad reading, one could argue that interest is what makes it attractive to hold a balance at a bank, and almost any incentive that makes holding a stablecoin more appealing can be characterized as performing the same function. On a narrow reading, one could argue that what should be prohibited is compensation that passively accrues on an idle balance, as is the case for interest on bank deposits, and that any nexus to an activity would suffice to allow compensation to be paid. The statute seems to be aiming for a middle ground where activity-based payments can also be “calculated by reference to a balance, duration, tenure, or any combination of the foregoing” [404(c)(3)(B)], but much more clarity is needed.
False Equivalence
We recognize that the current approach represents a pragmatic, if imperfect, compromise reached to advance the Clarity Act. However, as a matter of principle, and as we have argued before, Section 404’s ill-defined position on stablecoin rewards is too restrictive. The very act of attempting to limit stablecoin rewards is a policy misstep. After all, such rewards are essentially price competition for customer funds, not unlike credit card cash back or yield on money market funds.
Competition is inherently healthy and should be promoted because competitive pressure from stablecoins will, at the very least, incentivize banks to provide greater value to their customers. Even the draft text of the Clarity Act acknowledges, albeit in the context of activity-based rewards, that stablecoin rewards can catalyze “innovation, competition, and consumer adoption” [404(b)(2)].
Furthermore, even if, for the sake of argument, we compare stablecoins and bank deposits on a like-for-like basis, they are fundamentally not equivalent. In a fractional-reserve banking model, banks engage in the transformation of credit, liquidity, and maturity. By contrast, an issuer regulated under the GENIUS Act is subject to stricter rules and engages in none of these transformation activities. It backs each stablecoin on a one-for-one basis with high-quality liquid assets, such as cash and short-dated Treasuries, which means it is not susceptible to the same asset-liability mismatch risks that banking regulation seeks to address.
Functionally, such stablecoins share more similarities with narrow banks and government money market funds than with traditional commercial banks. Because stablecoins (as regulated by the GENIUS Act) are materially different from bank deposits, it is inappropriate to use an equivalence test to constrain stablecoin players from paying rewards on them.
A Matter of Perspective
Until the rulemaking process brings more clarity, Section 404 functions almost like a regulatory Rorschach test. It is so broadly drafted that two parties can look at the same words and arrive at divergent interpretations. The crypto sector probably sees the provision as a livable compromise, a price worth paying to get the Clarity Act across the finish line, especially since activity-based rewards are preserved, and stablecoin players retain some latitude to calculate rewards with reference to “a balance, duration, tenure, or any combination of the foregoing” [404(c)(3)(B)].
The banking sector, by contrast, appears to see a different picture. It insists that Section 404 does not go far enough and should be tightened further. This is a hard case to make. The GENIUS Act already bars stablecoin issuers from paying yield, which was itself a meaningful concession, and Section 404 adds further restrictions on top of that. If anything, banks now have less to worry about, not more.
With this version of the legislation, the meaning of Section 404 rests with the agencies. Until the Treasury, the SEC, and the CFTC complete their rulemaking, stablecoin players will navigate an uncertain regulatory path without a clear understanding of the standard that will ultimately apply. Our view is straightforward: stablecoins are not bank deposits, rewards on them are a healthy form of price competition, and an equivalence test is the wrong yardstick to apply.