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Everything about Stablecoins

Everything about Stablecoins

  • 14 February 2022
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After Bitcoin’s launch 10 years ago, we started to see many altcoins on the market, including Ethereum. The number of these coins is 2224 considering those currently registered at Coinmarketcap. Many of us would have at some point imagined how much money we would have if we bought $1,000 worth of bitcoin at the right time. This is because Bitcoin, like Ethereum, fluctuates with the price of assets that are left entirely to the supply and demand of the market. In this article, we will talk about everything about stablecoins.

These unstable coins can see ups and downs in price as they are not governed by any central authority and are not official government money. So is there a safe escape ramp to prevent this volatility and how does it work?

Everything about stablecoins: What are Stablecoins?

Stablecoins are cryptocurrencies which often express in dollars. Thanks to these dollar-indexed coins, you have the opportunity to maximize your chances of protecting yourself against market fluctuations or risks.

Let’s quickly look at some popular stablecoins:

Tether (USDT)

Exchanges: Binance, OKex, Huobi

Market Cap: $1,884,587,370

TrueUSD (TUSD)

Exchange: Binance, DigiFinex, Bit-Z

Market Cap: $213,749,697

MakerDAO (DAI)

Exchange: HItBTC, KuCoin, OasisDEX

Market Cap: $56,801,526

Paxos Standard (PAX)

Exchange: DigiFinex, OKex, Binance

Market Cap: $167,241,364

Gemini Dollar (GUSD)

Exchange: HitBTC, BCEX, DigiFinex

Market Cap: $86,072,734

Everything about stablecoins: How Do Stablecoins Affect Cryptocurrency Prices?

Cryptocurrencies are not affiliated with any government or company. They are also not tied to political, social, and other economic indicators. These currencies, which are entirely dependent on supply and demand in the market, can therefore be very volatile.

This volatility is both a driver and a result of the public’s (whether institutional or individual) lack of confidence in cryptocurrency as a reliable and balanced currency option. Poor and undefined regulation also plays a role and contributes to this distrust. People are concerned about the lack of a structured framework to adopt crypto and thus view it as a speculative investment.

Given the high distrust in cryptocurrencies, investors tend to resort to safer options like stablecoins.

Unfortunately, half of the world’s wealth is now in the hands of one percent of the population. The situation in the cryptocurrency world is not much different – 20% of all bitcoins are owned by 448 people. These people, called whales, play an active role in influencing cryptocurrency prices. When these people want to exchange their crypto assets into stablecoins, the price of cryptocurrencies goes into a downtrend or vice versa. Because of this, the price of cryptocurrencies is heavily dependent on whales and therefore stablecoins.

Everything about stablecoins: How Do Stablecoins Work?

Stablecoin is a cryptocurrency with a fixed value. This means that the value of cryptocurrency should not fluctuate frequently like regular crypto assets. Although this fixed price range is often tied to the US dollar, some currencies are tied to different price indices. Some stablecoins currently preparing for the market aim to be tied to some countries’ consumer price index or similar indices. Because stablecoins can theoretically be tied to almost anything, some stablecoins are tied to multiple fiat coins and even valuable items like gold or silver.

Crucial to stablecoins is how the latch is maintained and what the whole system is based on. In other words, how does the coin organizer get the value of the currency?

Some core stablecoins, like Tether, require a custodian to regulate the currency and then reserve a certain amount of collateral. Tether holds the US dollar in a bank account and the amount held must match what they spend to keep the system in order. In this way, it prevents price fluctuations.

However, there are other stable decentralized cryptocurrencies like Dai that achieve this goal without a central authority figure. They use smart contracts in the Ethereum blockchain to manage collateral and maintain order.

Why Are Stablecoins Popular in Crypto Trading?

Stablecoins solve one of the main problems faced by many mainstream cryptocurrencies, which is that their dramatic fluctuations make them difficult, if not impossible, to use for real transactions.

“Digital currencies like Bitcoin and Ethereum are extremely volatile, which makes it very difficult to value things on their terms,” ​​said Anthony Citrano, founder of Acquicent, a marketplace for NFTs. Stablecoins prevent this problem by linking their prices to a known reserve currency.

Additionally, their stability allows many stablecoins to be used as a functional currency within a crypto brokerage. For example, traders could convert bitcoin into a stablecoin like a tether instead of dollars. Stable coins are available 24 hours a day and are more accessible than cash earned through the banking system, which is closed on nights and weekends.

Stablecoins can also be used with smart contracts, which are a type of electronic contract that executes automatically when its conditions are met. The stability of the digital currency also helps bypass disagreements that might arise when dealing with more volatile cryptocurrencies.

Three types of stablecoins

Based on the design, we can divide stablecoins into 3 main types:

  • Fiat-backed
  • Crypto-collateralized
  • Unsecured
  • Fiat-backed

This is the simplest version where each stablecoin currency is produced in that currency. The production and liquidation of the coin are done by the issuer of the coin. This system is similar to the old method of “storing the amount of gold consumed in the safe of the central bank per printed dollar.”

The price remains stable because if you can buy the coin for less than $1, you can exchange it with the issuer for $1 and vice versa. The only problem is that it relies on the issuing party to be properly regulated and honor deposits and withdrawals as they should.

Well-known fiat-collateralized stablecoins

  • Tether  –  USDT
  • Trust Token
  • TUSD Gemini
  • GUSD Paxos
  • PAX circle
  • USDC

Crypto Collateralized

As the name suggests, this version uses other cryptocurrencies (e.g. ETH) as collateral for the stablecoins. However, since the crypto-assets themselves are not stable, these stablecoins have to use several protocols to ensure that the price of the issued stablecoins stays at $1.

Let’s say we deposit $200 ETH to get $100 stablecoins. Also, the stablecoins are now 200% collateralized. This means if the price of Ether falls by 25%, the stablecoins can still keep their price stable as there is still $150 worth of ETH collateral supporting the stablecoin’s value.

Well-known crypto-collateralized stablecoin

  • MakerDAO
  • Haven
Uncollateralized stablecoins:

This is a very different design from stablecoins as it is not backed by collateral. It works the way fiat currencies work, in that it is governed by a sovereign such as a country’s central bank.

If we talk about the USD, since the collapse of the Bretton Woods Agreement in 1973, the USD is also unpegged and managed by the US Federal Reserve. It essentially creates a system that mints more coins when demand pushes them above $1 and buys them back when it falls below $1.

Well-known non-collateralized stablecoins
  • Base
  • Carbon
Everything about stablecoins: Are Stablecoins worth Considering?

If you don’t know much about Blockchain technology and don’t know what to do with changes in market conditions, you may need to hold your digital assets in stablecoins since cryptocurrencies are often quite volatile. Cryptocurrency volatility is sometimes so high that you can lose a lot if you don’t trade properly. So if you can’t keep a close eye on market conditions or changes, or are simply unfamiliar with all of these, it may be wise to keep your digital assets in stablecoins. Additionally, cryptocurrencies may enter a recessionary phase referred to as “bearish” where the value of all crypto coins falls significantly. During these periods, you can avoid potential risks by converting your digital assets into stablecoins.

However, if you have been a trader in the market for a long time, stablecoins may not be for you at all. This is because traders track daily fluctuations of cryptocurrencies, arbitrage, usage charts, and many other auxiliary data to generate income from cryptocurrency price increases or decreases. Therefore, traders usually stay away from stablecoins.

In the following section I have listed some pros and cons of stablecoins:

Everything about stablecoins: stablecoin advantages
  • Advantages of the crypto economy. Low fees. Secure Transactions. Partially or fully anonymous.
  • Asset-backed.
  • Adoption Assistance. Acceptable (or easier) bridge from using fiat to cryptocurrency.
  • Fiat-related regulatory processes involved.
Disadvantages of Stablecoin
  • The Third-party required. Requires trust from an entity.
  • External audits are required. To ensure assets are accounted for.
  • Lower return on investment. Traders and investors usually want higher returns and can turn to other means to achieve financial gains.
  • Fiat-related lawsuits involved.
Importance of Stablecoin
  • Rise in blockchain development companies due to alignment between fiat and digital world.
  • Greater access to the global financial system: anyone using the internet will be able to obtain stablecoins.
  • The intersection of tokenized securities and stablecoins will make dividends and investing viable.
What Are the Risks of Stablecoins?

At first glance, stable coins may seem low risk. Compared to popular cryptocurrencies (which nothing back them), they are. But stablecoins carry some typical crypto risks and at least one risk of their own:

  • Security: Like other cryptocurrencies, stablecoins need to store somewhere, be it in your digital wallet or with a broker or exchange. And that comes with risks as a given trading platform might not be secure enough or have some vulnerabilities.
  • Counterparty Risk: While cryptocurrency may appear to be highly decentralized, in reality, in a transaction you are dealing with multiple parties, including the bank holding the reserves and the organization issuing the stablecoin. You have to do the right things (security, proper reservation, etc.) for the currency to hold its value.
  • Reserve Risk: A key element of the stablecoin ecosystem is the reserves that back a stablecoin. These reserves are the ultimate hedge of a stablecoin’s value. Without them, the coin issuer cannot guarantee the value of a stable coin with complete confidence.

“The main risk for stable coins is that they will not fully support by the reserve currencies they claim,” Citrano said. Ideally, the StableCoin exporter will have sufficient reserves of currencies (in cash or other high-liquidity, secure investments) to fully support StableCoin. At less than 100 percent, the risk will introduce.”

Conclusion

While stablecoins appear to be a haven for many, the damage to cryptocurrencies also needs to consider. This is because, especially when large whales move the market lower, they can deal a significant blow to the price of cryptocurrencies while locking into stablecoin. Therefore, we cannot say that there is a definitive consensus on the existence of stablecoins.


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