Stablecoin crash drags crypto ideals back to earth By Liam Proud
May 11, 2022 11:20 AM CDT
Last Updated 4 days ago
3 minute read
Bitcoin Conference 2022 in Miami Beach
An attendee wears a t-shirt with the logo of bitcoin that reads "hodl", slang in the cryptocurrency community for holding a cryptocurrency rather than selling it, during the Bitcoin Conference 2022 in Miami Beach, Florida, U.S. April 6, 2022. REUTERS/Marco Bello
LONDON, May 11 (Reuters Breakingviews) - Do Kwon had one job. The self- titled “master of stablecoin” designed a popular digital token, TerraUSD, that was supposedly pegged to the dollar. On Wednesday its value slumped below 30 cents. The collapse brings highfalutin cryptocurrency ideals back to earth.
So-called stablecoins play a pivotal role in crypto markets. Traders use them to store idle cash and avoid the cost and inconvenience of moving dollars into and out of exchanges. Holders can also earn interest by lending out their tokens. The two biggest stablecoins, Tether and USDC, are worth about $130 billion and say they’re fully backed by mostly cash and cash-like assets.
Terra is different. Kwon designed the peg using a parallel cryptocurrency, Luna. By design, traders can swap $1 worth of Luna for one Terra. So if the value of Terra falls below $1, traders have an incentive to swap it for $1 worth of Luna, banking a profit and reducing the supply of Terra until the price recovers. The appeal of this approach for diehards is that this eschews real-world financial assets like bank deposits which are subject to government oversight. The crypto crowd loved the idea: Terra and Luna had a combined value of almost $50 billion in early May.
The risk, however, was that investors lose faith in Luna, which is exactly what happened. A broader rout saw Terra’s sister coin fall 95% in a week. Its total value in circulation is now about $3.9 billion - nowhere near enough to support roughly 15 billion of outstanding Terra coins, hence the latter’s slump. A foundation set up to protect the peg seems to have exhausted most of its fallback reserves, which were mostly in bitcoin and worth $4 billion in early May.
Though the saga has shaken broader faith in crypto projects, rival stablecoins like USDC or Tether seem unlikely to suffer a similar fate. Tether has traded between $0.99 and $1.01 95% of the time since its 2015 launch, according to a Breakingviews analysis of CoinGecko data. That’s because its value is mostly backed by relatively steady assets held outside the crypto world, though Tether has been less than transparent about the composition of its reserves.
Kwon’s fans, known as Lunatics, considered such an approach heresy. Their aim was to build a permissionless, decentralised financial world free from intermediaries like banks and custodians. Wednesday’s plunge is a reminder that they can have ideological purity or stability, but not both.