Stablecoins have a market capitalization of around $170 billion.
London:
Most cryptocurrencies have major problems with price volatility, but one small coin is designed to maintain a constant value: stablecoins.
As crypto prices plummet this week, with bitcoin losing around a third of its value in just eight days, stablecoins are supposed to be isolated from the chaos.
But the sudden collapse of the fourth-largest stablecoin TerraUSD, which broke from its 1:1 peg, has brought the asset class back to life.
Here’s what you need to know:
What are stablecoins?
Stablecoins are cryptocurrencies designed to be protected from intense volatility that makes it difficult to use digital assets for payments or as a store of value.
They strive to maintain a constant exchange rate with fiat currencies, for example through a 1:1 rate of the US dollar.
How important are they?
Stablecoins have a market capitalization of around $170 billion, making them a relatively small part of the overall crypto market, currently valued at around $1.2 trillion, according to CoinMarketCap data.
But they have grown in popularity in recent years. The largest stablecoin, Tether, which has a market capitalization of around $80 billion, has grown from just $4.1 billion in early 2020.
The #2 stablecoin, USD Coin, has a market cap of $49 billion, according to CoinMarketCap data.
While data on the specific uses of stablecoins are difficult to come by, they do play an important role for crypto traders, allowing them to hedge against spikes in the price of bitcoin or save money. store idle coins without converting them back into fiat currency.
In its 6-month financial stability report on Tuesday, the US Federal Reserve https://www.federalreserve.gov/publications/files/financial-stability-report-20220509.pdf warned that stablecoins are increasingly used to facilitate leveraged trading in other cryptocurrencies.
From 2018 onwards, stablecoins were increasingly used in international trade and as a way to avoid capital controls, said Joseph Edwards, head of financial strategy at crypto firm Solrise. The stablecoin Tether is used to transact in and around China and South America, he said.
How do they work?
There are two main types of stablecoins: those backed by reserves that include assets, such as fiat currencies, bonds, commercial paper, or even other crypto tokens, and those that are algorithmic or “decentralized”.
Major stablecoins like Tether, USD Coin, and Binance USD are backed by reserves: they say they hold enough dollar assets to maintain a 1:1 exchange rate.
The companies say that one of their stablecoins is always redeemable for a dollar.
In recent years, asset-backed stablecoins have come under pressure to be transparent about what’s in their reserves and whether they have enough dollars to back all the cryptocurrencies. in circulation or not.
Whereas TerraUSD is an algorithmic stablecoin. This means it has no reserves. Instead, its value is said to be maintained by a complex mechanism that involves swapping TerraUSD coins with a free-floating cryptocurrency called Luna to control the supply.
What could go wrong?
TerraUSD’s stabilization mechanism shut down this week as investors lost confidence in Luna, amid a growing crypto market downturn. The price of TerraUSD has dropped to as low as 30 cents.
In theory, asset-backed stablecoins should hold up despite this.
But Tether also bounced off its dollar rate for the first time since 2020 on Thursday, dropping to as low as 95 cents.
Tether sought to reassure investors, saying on its website that holders can still redeem their tokens at a 1:1 ratio.
What does the regulator say?
While regulators globally are trying to establish rules for the crypto market, some have highlighted stablecoins as a particular risk to financial stability – for example, if there is an over many people try to withdraw their stable money at the same time.
In its stability report, the Fed warned that stablecoins are highly vulnerable to investors because they are backed by assets that can depreciate or become illiquid during market times. stress. As a result, a run on stablecoins could spill over into the traditional financial system by creating stress on these underlying assets, it said.
(Except for the title, this story has not been edited by NDTV staff and is published from an aggregated feed.)
