Some cryptocurrencies have always been quite volatile, with values rising or falling within a short period of time. So for the more cautious investor, “stablecoins” were considered the sensible place to go. As the name implies, they are designed to be a stable and safe bet.
However at the moment, finding that consistency is proving difficult. One of the most popular stablecoins, Tera (also known as UST), has fluctuated wildly over the past few days – and is yet to recover – before falling dramatically in value.
Before the crash, Terra was in the top 10 cryptocurrencies, with a value of over US$18.7 billion. At the time of writing, this had fallen to less than US$7 billion.
Investors have taken to social media to lament this development. Some spoke of lost life savings and the devastating impact of the currency’s collapse.
And they are right to be worried. The impact of volatility in the stablecoin sector should not be underestimated and could destabilize the entire sector.
In theory, stablecoins should offer the transactional benefits of more traditional cryptocurrencies (such as bitcoin), but with a predictably stable value.
Many stablecoins are backed by other assets (usually US dollars) or commodities (often gold) and involve the stablecoin provider buying – and then holding – their chosen one to ensure that the coin remains stable. an amount equal to the property. So while the value of the underlying asset may increase or decrease, the value of the stablecoin must remain at least in a consistent ratio, whatever the basis of it.
But “algorithmic stablecoins” like Terra work differently. Terra has no reserve assets or commodities, and instead maintains its value using an algorithm designed to maintain a balance between a stablecoin and a partner coin (a more traditional cryptocurrency). has gone.
In this case a participant named Terra Luna is tied to the coin – and the value of Luna has crashed. It is now trading below US$0.06 and trading around US$82.00 just seven days ago. In an environment where both Terra and Luna are falling drastically in value, the algorithm cannot solve the issue of dwindling trust in paired currencies – and the stabilization feature simply doesn’t work.
As a result, fear builds and more people sell, just like traditional banks run with massive withdrawals and sudden huge losses in value. Because of the long-term stable value of their peg, which builds consumer confidence, asset-backed stablecoins avoid this.
But they also have their issues. Tether, a coin pegged to the US dollar, has exploded in the street amid questions about whether the coin issuing company has the reserves it claims to have. And Tether has also seen its value drop in recent days.
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All this undermines the fundamental premise of these coins – that they will remain stable. Customers choose to buy them to shield against volatility in traditional crypto markets until they rise again, or use them as a more traditional account (like a regular bank account) and speed, Take advantage of the benefits they provide with respect to cost. and ease of international transactions.
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But investors with their own funds in Terra have seen their savings drop by almost half. The fact that it still hasn’t stabilized does little to ease concerns. Simply put, the potential for a cryptocurrency crisis is very real.
This is why there is a need to change the approach of governments across the world. While much has been said about regulation in the UK and US, there has been little meaningful action.
If they fail to act, advocating for the use of stablecoins will be difficult if they continue to expose consumers to the very volatility and risk they should avoid.
It seems that the time has passed to give the sector the freedom to innovate. Regulation is essential if the potential of stablecoins is to be realized – to provide consumer protection and to ban excessively risky practices. That potential is something that many think could revolutionize the global economy, speed up transactions, reduce costs and increase transparency.
But giving the sector a chance to innovate should not come at the cost of people’s savings. If withdrawals continue, it will test both the stability of a particular stablecoin and, more broadly, whether or not the sector as a whole holds its future. A stablecoin struggle is bad news. But having two or more can be disastrous for customers’ trust.
