Stablecoins are a type of cryptocurrency designed to maintain a stable price over time, pegged to the value of an underlying asset, like the U.S. dollar. They aim to offer all the benefits of crypto while attempting to avoid rampant volatility. Second, because cryptocurrencies are usually more volatile than other assets, these organizations typically hold more in their reserves than the amount in circulation.
Although not to the same extent as TerraUSD, investors worried about the reliability of reserves and whether Tether was fully collateralised. The main feature used by most CBDC proposals is the use of a blockchain or other distributed ledger system (DLT) to keep a single ledger of payments and transactions. For example, for each unit of Tether (the currency) in circulation, there is a corresponding US dollar in Tether’s (the company) account.
How does a stablecoin work?
Experts say the DAI stablecoin is overcollateralized, which means that the value of cryptocurrency assets held in reserves might be greater than the number of DAI stablecoins issued. It’s important to note the risk of depegging may be higher for algorithmic stablecoins than for other types that have sufficient and transparent reserves. During the same time, the broader crypto market was experiencing a sell-off.
For both beginners and seasoned traders, the stable and certain nature of backed stablecoins makes them a good asset to hold on to or invest in, especially during the bear market seasons. But recent events in the stablecoin market – namely, the plunge of TerraUSD – have federal officials looking closely at this area. In this setting, the trust in the custodian of the backing asset is crucial for the stability of the stablecoin’s price. If the issuer of the stablecoin does not actually possess what is a stablecoin the fiat necessary to make exchanges, the stablecoin can quickly lose value and become worthless. Their primary distinction is the strategy of keeping the stablecoin’s value stable by controlling its supply through an algorithm, essentially a computer program running a preset formula. Typical examples include selling governance tokens that allow buyers to gain voting control over the stablecoin’s future or locking up funds into smart contracts on the blockchain to earn interest.
Subscribe to Decode Crypto
So, a stablecoin could hold $100 million in reserve and issue 100 million coins with a fixed value of $1 per coin. If a stablecoin’s owner wants to cash out the coin, the real money can ultimately be taken from the reserve. The value of stablecoins of this type is based on the value of the backing currency, which is held by a third party–regulated financial entity. Fiat-backed stablecoins can be traded on exchanges and are redeemable from the issuer. The stability of the stablecoin is equivalent to the cost of maintaining the backing reserve and the cost of legal compliance, licenses, auditors, and the business infrastructure required by the regulator. Stablecoins can also be collateralized by other cryptocurrencies.
Volatility makes it challenging to use cryptocurrencies for day-to-day payments. For example, merchants may take $5 in BTC for a coffee one day but find that their BTC is worth 50% less the next. This makes it challenging to plan and operate a business that accepts crypto https://www.tokenexus.com/ payments. All of this is possible today, and an entirely new industry based on cryptocurrencies – DeFi, or Decentralised Finance – is quickly gaining momentum partly enabled by stablecoins. Stablecoins are arguably the fastest-growing type of cryptocurrency today.
