1. Blog
  2. Crypto News
  3. Things you should know about Stablecoins

Things you should know about Stablecoins

  1. Types of Stablecoins
  2. Stablecoins backed and collateralized by fiat money
  3. Stablecoins backed and collateralized by crypto assets
  4. Non-collateralized stablecoins or algorithmic stablecoins

Stablecoin is an important financial product that acts as a bridge between digital assets and fiat money. This is a cryptocurrency that strives to provide price stability and is backed by a reserve asset.

Stablecoin has become popular because they provide the features of a digital currency - near-instant transactions, privacy and security of a decentralized system, but still have a stable price that is not volatile.

The price stability of Stablecoin makes it truly a medium of monetary exchange and a mode of storage of monetary value. Along with that, its value must be relatively stable for a long time to ensure constant purchasing power.

Types of Stablecoins

There are several different types of stablecoins, classified by their mechanism of action

Stablecoins backed and collateralized by fiat money

Fiat-collateralized stablecoins typically own and maintain a reserve of fiat currency, such as US dollars, as collateral to issue an appropriate amount of cryptocurrencies.

Other forms of collateral can include precious metals like gold or silver, as well as commodities like oil, but most fiat-collateralized stablecoins today use US dollar reserves.

These reserves are maintained by independent supervisors and are regularly audited for compliance with required regulations.

Tether (USDTUSD) and TrueUSD (TUSDUSD) are popular cryptocurrencies with a value equivalent to a single US dollar and backed by dollar deposits.

Stablecoins backed and collateralized by crypto assets

This type of stablecoin is backed and collateralized by other crypto-assets such as other cryptocurrencies. Since reserve cryptocurrencies can also tend to be highly volatile, such stablecoins are over-collateralized, meaning that the total value of the collateralized cryptocurrencies in the reserve will always be greater than the value of the amount. stablecoins are printed.

For example, $2000 Ethereum could be reserved for the issuance of $1,000 worth of stablecoins. Therefore, Ethereum can fluctuate up to 50% in value without affecting the value of stablecoins. More frequent inspections and monitoring will add to price stability. Backed by Ethereum (ETHUSD), MakerDAO's value of DAI (DAIUSD) is pegged to the US dollar and allows various crypto assets to be used as reserves.

Non-collateralized stablecoins or algorithmic stablecoins

Unsecured stablecoins don't use any reserves, but they do possess a central bank-like mechanism: maintaining a currency's stable value through changes in supply.

Terra USD is the largest algorithmic stablecoin, and also the largest stablecoin by market capitalization, after USDC and USDT. It maintains its value at $1 through a burn and print mechanism that will be performed by traders. Every time 1 UST is generated, $1 LUNA tokens will be burned and vice versa.

When the price of UST falls below $1, traders can burn the UST or remove it from circulation in exchange for $1 in Luna tokens. This reduces the supply of UST and thus increases the price of the token. If the price of UST exceeds $1, traders are incentivized to burn Luna in exchange for $1 UST, which increases the supply and lowers the price.

Currently, the total capitalization of stablecoins has reached more than $180 billion. However, stablecoins are and will always be a concern for law enforcement agencies. Recently, the US Federal Reserve - FED has warned about the risks of Stablecoins in the context that the UST coin has lost its peg and dropped to only $0.6 on May 10.

Published on May 12, 2022

Tagged topics

share iconShare