Everything you need to know about stablecoins

On May 11, there was an incident that sent shockwaves throughout the crypto community? – the rapid collapse of the TerraUSD (UST) stablecoin. We wrote about this news on our Instagram profile. Against the backdrop of this event, we've decided to talk more about what stablecoins are and what their value is tied to.

Let's start with looking at the main difference between stablecoins and other cryptocurrencies. It is a digital currency whose value is tied to "stable" assets. Stablecoins provide an alternative to the high price volatility that has been characteristic of major cryptocurrencies like bitcoin (BTC).

Depending on pegging, stablecoins can be divided into three groups: fiat-collateralized, crypto-collateralized and algorithmic stablecoins.

Fiat-collateralized stablecoins

Examples of fiat-collateralized stablecoins are TetherUSD (USDT), TrueUSD (TUSD) and USD Coin (USDC).

These are the most popular stablecoins on the market. They are backed by an existing fiat currency, such as the U.S. dollar, with a 1:1 ratio to guarantee a stable value.?

Let's look at how such collateral works using as an example Tether, the world's third-largest cryptocurrency by market capitalization (over $83 billion). The exchange that trades Tether has a bank account. For every Tether purchased on the exchange, $1 is deposited into that bank account.?

Crypto-collateralized stablecoins

Examples of crypto-collateralized stablecoins are DAI and Havven.

The value of crypto-collateralized stablecoins is pegged to that of other cryptocurrencies. Such collateral, unlike fiat, runs on a blockchain and employs smart contracts and decentralization, and is more transparent.?

Since crypto prices are very volatile, these stablecoins are backed by a reserve in such a ratio that it exceeds the value of the stablecoin in circulation to maintain stability. For example, MakerDAO Dai (DAI) is pegged to the U.S. dollar but is backed by Ethereum (ETH) and other cryptocurrencies that are worth 150% of DAI in circulation.

Algorithmic stablecoins

Examples of algorithmic stablecoins are Terra USD, Magic Internet Money (MIM), frax (FRAX) and Neutrino USD (USDN)

The price stability of algorithmic stablecoins results from the use of a computer algorithm that manages the demand and supply of tokens in circulation. For example, if the price of a coin exceeds $1, this indicates that demand is too high. In this case, the algorithm increases supply by creating new coins. Similarly, it will burn coins when demand is lower than supply. This mechanism is similar to the printing and destruction of a currency by a central bank. The difference, however, is that banks publicly set monetary policy based on well-understood parameters.?

This difference is what ruined TerraUSD (UST). Instead of being backed by dollars, UST was designed to be pegged through a complex system linked to another Terra network token (LUNA). In May, UST plummeted to 10 cents, causing LUNA to sink to virtually zero from an all-time high of $119.51 in April 2022. This collapse wiped out nearly $45 billion in market capitalization in just a week.

So far, there are no countries in the world that have established rules for the regulation and acceptance of stablecoins as a normal currency. The first country to move in this direction was the United States. In April 2022, a leading member of the Senate Banking Committee introduced a bill, the Stablecoin Transparency of Reserves and Uniform Safe Transactions Act of 2022, also called the Stablecoin TRUST Act. The proposal, which was released as a discussion draft, presents broad rules for current and future stablecoin issuers. It clarifies that? stablecoins are not securities but digital assets that can be "convertible directly to fiat currency by the issuer" and that have a "stable value relative to a fiat currency or currencies." So far, no one knows how this would affect the future of stablecoins.?

However, OQTACORE experts believe that the establishment and enforcement of rules for the regulation of this digital currency will have a positive impact on the transparency and stability of the crypto industry as a whole. It’s likely that in the near future, stablecoins will be used as a full-fledged and recognized means of exchange.