Although cryptocurrencies can serve as a legitimate means of trade, they are far too volatile to be utilized as a unit of account or a store of wealth. The unreliability of popular cryptocurrencies is why crypto has yet to enter mainstream trade. Most platforms ask for cash, even to play live online casino real money games. Crypto investors may become wealthy overnight and then lose it all in a matter of weeks.
Here is where stablecoins enter the equation. They allow investors to get the benefits of bitcoin without the significant volatility that comes with it. Stablecoins are tied at a 1:1 ratio to other commodities and intended to have a more stable value than conventional digital currencies. As a result, demand for stablecoins is increasing. The market valuation of stable coins increased from US$0.02 billion in January 2017 to US$181.73 billion in April 2022.
Understanding Stablecoins
Stablecoins provide the best of both worlds. They combine the security of cryptocurrencies with the stability of fiat money. A stablecoin is a virtual currency backed by the price of fiat currency, gold, or other currencies. Most stablecoins have a 1:1 ratio to fiat currencies like the US dollar.
Another cryptocurrency serves as the underlying collateral for crypto-collateralized stablecoins. Due to the significant volatility of the reserve cryptocurrency, such stablecoins are over-collateralized. This means that a higher number of digital currencies are retained as a reserve for releasing a smaller number of stablecoins. Stablecoins provide price stability by collateralization or algorithmic market modules.
Collateralization
Collateralized stablecoins keep a fiat money reserve as collateral in order to issue enough amount of crypto coins. Other types of collateral include bitcoin, gold, and commodities such as oil.
Such reserves are kept and audited on a regular basis by impartial custodians and corporations. Stablecoins supported by fiat money is secured at a 1:1 ratio. This means that actual fiat currency is maintained in a bank account to support each stablecoin. If a person needs to exchange cash for stablecoins, the company that maintains the stablecoin will withdraw the amount of money. They’ll take it from their reserve and deposit it into the individual’s bank account. The comparable stablecoins are then “burned” or withdrawn fiction permanently.
Nevertheless, most stablecoins tied to fiat currencies are not wholly backed by money. Stablecoins can also be backed in part by secured loans, bond funds, gold and silver, and other assets. The concept is that their entire worth equals the total amount of stablecoin units generated thus far. Tether’s reserves are mostly cash, treasury bills, commercial paper, and fiduciary deposits. Other stablecoins, like Terra (UST) or Dai, are supported by crypto stored in Maker vaults and use algorithms to maintain stability.
Algorithmic Market Modules
Instead of employing cash reserves, you may use an algorithm and accompanying reserve token to anchor a stablecoin to USD. By design, algorithmic stablecoins lack collateral. The collateral is their governance token, which may be created or burnt to maintain the price.
A part of the LUNA is burnt during the switching procedure, and the remaining is placed into a communal treasury. Burning a part of LUNA tokens decreases the total quantity of tokens in circulation. This renders them scarcer and hence more valuable. The total price is lowered back down to $1 by minting more UST tokens.
If UST demand is minimal and the price goes below $1, UST holders can trade their UST tokens for LUNA at a 1:1 ratio. Other currencies use a rebasing mechanism in which the software changes the volume of its AMPL crypto every 24 hours. If there is a great demand for AMPL tokens and each AMPL token is worth more than $1, the supply will grow. When demand is low, supply falls. Other tokens, such as BASED and RMPL, seek to improve on this concept.
