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Can someone explain stablecoins to me? Most online explanations talk about how the currencies are "pegged" to various assets/real world currencies/physical obje

by xmprt 4y ago

Can someone explain stablecoins to me? Most online explanations talk about how the currencies are "pegged" to various assets/real world currencies/physical objects/algorithms/cryptocurrencies, however they never explain how the pegging is done. What is happening right now that is causing the price to fall, what prevented it from falling over the last few years, and why isn't that thing preventing it from falling now?

tcharlton 4y ago
Matt Levine did a great write up of algorithmic stablecoins here: https://www.bloomberg.com/opinion/articles/2022-05-11/terra-flops https://www.bloomberg.com/opinion/articles/2022-05-11/terra-... "1. You wake up one morning and invent two crypto tokens. 2. One of them is the stablecoin, which I will call “Terra,” for reasons that will become apparent. 3. The other one is not the stablecoin. I will call it “Luna.” 4. To be clear, they are both just things you made up, just numbers on a ledger. (Probably the ledger is maintained on a decentralized blockchain, though in theory you could do this on your computer in Excel.) 5. You try to find people to buy them. 6. Luna will trade at some price determined by supply and demand. If you make it up on your computer and keep the list in Excel and smirk when you tell people about this, that price will be zero, and none of this will work. 7. But if you do a good job of marketing Luna, that price will not be zero. If the price is not zero then you’re in business. 8. You promise that people can always exchange one Terra for $1 worth of Luna. If Luna trades at $0.10, then one Terra will get you 10 Luna. If Luna trades at $20, then one Terra will get you 0.05 Luna. Doesn’t matter. The price of Luna is arbitrary, but one Terra always gets you $1 worth of Luna. (And vice versa: People can always exchange $1 worth of Luna for one Terra.) 9. You set up an automated smart contract — the “algorithm” in “algorithmic stablecoin” — to let people exchange their Terras for Lunas and Lunas for Terras. 10. Terra should trade at $1. If it trades above $1, people — arbitrageurs — can buy $1 worth of Luna for $1 and exchange them for one Terra worth more than a dollar, for an instant profit. If it trades below $1, people can buy one Terra for less than a dollar and exchange it for $1 worth of Luna, for an instant profit. These arbitrage trades push the price of Terra back to $1 if it ever goes higher or lower. 11. The price of Luna will fluctuate. Over time, as trust in this ecosystem grows, it will probably mostly go up. But that is not essential to the stablecoin concept. As long as Luna robustly has a non-zero value, you can exchange one Terra for some quantity of Luna that is worth $1, which means Terra should be worth $1, which means that its value should be stable. All of this is, I think, quite straightforward and correct, except for Point 7, which is insane. If you overcome that — if you can find a way to make Luna worth some nonzero amount of money — then everything works fine. "
- ezzaf 4y ago
  An important distinction between Terra (what is being described there) and Tether (what this thread is discussing), is that Tether claims to be backed by real assets.
  - robocat 4y ago
    There is no strong distinction in backing: USDT just has a slightly more believable story. Also the price of a stablecoin can shift from it's peg, even if it has 100% backing, when there is latency/congestion/spread/volume for the arbitrage trade. That said, there is a whole heap of plenty of evidence that USDT is not backed by dollars 1:1.
- prox 4y ago
  So why would one want to have Luna when you got Terra? I know Terra is backed, I know Luna is speculation, not any different from doing a roulette game.
  - charcircuit 4y ago
    >So why would one want to have Luna when you got Terra? There are 3 different things: Governance related, market module related, and staking related. You can spend 50 LUNA to submit a governance proposal. The second is to stake your LUNA. When your LUNA is staked the first benefit is that you can vote on governance proposals. Proposals can be onchain changes such as modifying a parameter or an offchain change which people should respect even if there is nothing technically forcing them to follow it. There is a limited amount of UST that exists so what happens if more people want UST? You can burn LUNA to mint new UST. In times where the demand for UST is strong enough to make UST go above $1 it may be profitable for someone to burn their LUNA to mint UST. Every transaction has gas fees. Any swaps between stable coins have a tobin tax. Using the market module to exchange UST for LUNA has a spread fee. All of these fees are collected and then distributed to the stakers. To help protect against times when the protocol is less active the fees are actually spread out over time. Right now every 5 blocks 5/9400000 of the reward pool is paid out to people staking. 9400000 is how many blocks there are in 2 years.
can16358p 4y ago
They are backed by real dollars that they have in cash reserve in a bank. At least in theory. What is currently happening is because of too much volume they have hard time putting more money back into the ecosystem (which is the good scenario, it means they have money but things are going just a bit slow), or they are running out of money (which is a bad scenario that would cause many things to go down with it).
bspammer 4y ago
Tether the company guarantees it will buy all tether for $1 each. The drop in price reflects people suddenly realizing they can’t do that if everyone tries to turn in their tether at once.
- randomsearch 4y ago
  Surely it is very difficult for a company to "guarantee" anything about the price of a commodity sold in a large open market. There are all sorts of reasons prices go up and down, it seems hubris to imagine you can tether anything. Even national governments struggle to do this. https://en.wikipedia.org/wiki/Black_Wednesday https://en.wikipedia.org/wiki/Black_Wednesday
  - FeepingCreature 4y ago
    Theoretically, they could guarantee it by just holding all dollars they are given originally. A price is just an abstraction for the willingness to buy and sell. If you know there are 1000 of some token in the world, and you have 1000 of some item, you can guarantee that people will always be able to buy one item for one token - by selling your items to them at that price. But of course, just holding the dollars makes it hard to profit.
    - lupire 4y ago
      Credit cards do it by charging transaction fees.
  - mcintyre1994 4y ago
    In theory you should be able to do it if you always have reserves worth more than the total number of outstanding tether. If you distribute 40b tether and have $50b in liquid cash, you can guarantee that you will pay exactly $1 for each tether. Obviously everyone holding your coin is exposed to changes to the value of your dollars, but you can always give them $1 for 1 tether. The problem is of course that you can make a great deal more money for yourself if you invest in riskier ways than holding liquid cash. I don't think the Black Wednesday situation is similar, because the UK was never going to be able to hold enough of the currencies it was supposedly pegged to to make that same promise. Definitely not my expertise there though!
ryanSrich 4y ago
You give me a dollar, I give you a digital currency equivalent. When you need your real USD back, you tell me and I give it to you. That means in an ideal world, you have your stable coins backed 1:1 with real USD. Of course, this isn’t always the case, and with Tether, there has been much scrutiny over the years that they do not have the USD collateral to back their stablecoin. Ok, but let’s assume Tether has the USD. Why is it depegging? This is most likely due to sell pressure and Tether’s ability to liquidate their USD holdings. I think Tether has more than enough real USD to deal with the sell pressure we’re seeing now, but the system is having a hard time keeping up.
- gadnuk 4y ago
  This is an amazing explanation. Thank you!
  - usednet 4y ago
    That explanation is not correct. Algorithmic stablecoins rely on a pairing with another crypto, in UST’s case LUNA. 1 UST can always be swapped to $1 US dollar of LUNA. It is interchangable, so $1 US dollar’s worth of LUNA can also be swapped for 1 UST. Hence, the “algorithmic” in the name. This way traders are always incentivized to keep the price of UST at $1. There is no collateral requirement. In UST/LUNA’s case they had collateral, mostly in Bitcoin, in the Luna Reserve Guard but their collateral proved insufficient. Some algorithmic stablecoins are entirely uncollateralized.
    - thematrixturtle 4y ago
      That's all irrelevant, since Tether is not an algorithmic stablecoin, and they claim to have 1:1 reserves for every USDT.
      - usednet 4y ago
        The parent comment was edited to remove the section on UST after my comment.
BbzzbB 4y ago
Market pricing and arbitrage pegs it, is how I understand it. It's "worth" whatever price the bid-ask spread meets at. It's exchangeable for USD to the company. As long as there isn't a bank run where they'd stop fulfilling exchanges, when the price drops below $1 anyone can arbitrage it. It reached like 95 cents earlier, anyone could've bought millions of it and got USD for it at like 6% profit. It creates buy pressure/price support as the price falls.

by xmprt 4y ago

tcharlton 4y ago

Matt Levine did a great write up of algorithmic stablecoins here: https://www.bloomberg.com/opinion/articles/2022-05-11/terra-flops https://www.bloomberg.com/opinion/articles/2022-05-11/terra-... "1. You wake up one morning and invent two crypto tokens. 2. One of them is the stablecoin, which I will call “Terra,” for reasons that will become apparent. 3. The other one is not the stablecoin. I will call it “Luna.” 4. To be clear, they are both just things you made up, just numbers on a ledger. (Probably the ledger is maintained on a decentralized blockchain, though in theory you could do this on your computer in Excel.) 5. You try to find people to buy them. 6. Luna will trade at some price determined by supply and demand. If you make it up on your computer and keep the list in Excel and smirk when you tell people about this, that price will be zero, and none of this will work. 7. But if you do a good job of marketing Luna, that price will not be zero. If the price is not zero then you’re in business. 8. You promise that people can always exchange one Terra for $1 worth of Luna. If Luna trades at $0.10, then one Terra will get you 10 Luna. If Luna trades at $20, then one Terra will get you 0.05 Luna. Doesn’t matter. The price of Luna is arbitrary, but one Terra always gets you $1 worth of Luna. (And vice versa: People can always exchange $1 worth of Luna for one Terra.) 9. You set up an automated smart contract — the “algorithm” in “algorithmic stablecoin” — to let people exchange their Terras for Lunas and Lunas for Terras. 10. Terra should trade at $1. If it trades above $1, people — arbitrageurs — can buy $1 worth of Luna for $1 and exchange them for one Terra worth more than a dollar, for an instant profit. If it trades below $1, people can buy one Terra for less than a dollar and exchange it for $1 worth of Luna, for an instant profit. These arbitrage trades push the price of Terra back to $1 if it ever goes higher or lower. 11. The price of Luna will fluctuate. Over time, as trust in this ecosystem grows, it will probably mostly go up. But that is not essential to the stablecoin concept. As long as Luna robustly has a non-zero value, you can exchange one Terra for some quantity of Luna that is worth $1, which means Terra should be worth $1, which means that its value should be stable. All of this is, I think, quite straightforward and correct, except for Point 7, which is insane. If you overcome that — if you can find a way to make Luna worth some nonzero amount of money — then everything works fine. "

ezzaf 4y ago
An important distinction between Terra (what is being described there) and Tether (what this thread is discussing), is that Tether claims to be backed by real assets.
- robocat 4y ago
  There is no strong distinction in backing: USDT just has a slightly more believable story. Also the price of a stablecoin can shift from it's peg, even if it has 100% backing, when there is latency/congestion/spread/volume for the arbitrage trade. That said, there is a whole heap of plenty of evidence that USDT is not backed by dollars 1:1.
prox 4y ago
So why would one want to have Luna when you got Terra? I know Terra is backed, I know Luna is speculation, not any different from doing a roulette game.
- charcircuit 4y ago
  >So why would one want to have Luna when you got Terra? There are 3 different things: Governance related, market module related, and staking related. You can spend 50 LUNA to submit a governance proposal. The second is to stake your LUNA. When your LUNA is staked the first benefit is that you can vote on governance proposals. Proposals can be onchain changes such as modifying a parameter or an offchain change which people should respect even if there is nothing technically forcing them to follow it. There is a limited amount of UST that exists so what happens if more people want UST? You can burn LUNA to mint new UST. In times where the demand for UST is strong enough to make UST go above $1 it may be profitable for someone to burn their LUNA to mint UST. Every transaction has gas fees. Any swaps between stable coins have a tobin tax. Using the market module to exchange UST for LUNA has a spread fee. All of these fees are collected and then distributed to the stakers. To help protect against times when the protocol is less active the fees are actually spread out over time. Right now every 5 blocks 5/9400000 of the reward pool is paid out to people staking. 9400000 is how many blocks there are in 2 years.

can16358p 4y ago

They are backed by real dollars that they have in cash reserve in a bank. At least in theory. What is currently happening is because of too much volume they have hard time putting more money back into the ecosystem (which is the good scenario, it means they have money but things are going just a bit slow), or they are running out of money (which is a bad scenario that would cause many things to go down with it).

bspammer 4y ago

Tether the company guarantees it will buy all tether for $1 each. The drop in price reflects people suddenly realizing they can’t do that if everyone tries to turn in their tether at once.

randomsearch 4y ago
Surely it is very difficult for a company to "guarantee" anything about the price of a commodity sold in a large open market. There are all sorts of reasons prices go up and down, it seems hubris to imagine you can tether anything. Even national governments struggle to do this. https://en.wikipedia.org/wiki/Black_Wednesday https://en.wikipedia.org/wiki/Black_Wednesday
- FeepingCreature 4y ago
  Theoretically, they could guarantee it by just holding all dollars they are given originally. A price is just an abstraction for the willingness to buy and sell. If you know there are 1000 of some token in the world, and you have 1000 of some item, you can guarantee that people will always be able to buy one item for one token - by selling your items to them at that price. But of course, just holding the dollars makes it hard to profit.
  - lupire 4y ago
    Credit cards do it by charging transaction fees.
- mcintyre1994 4y ago
  In theory you should be able to do it if you always have reserves worth more than the total number of outstanding tether. If you distribute 40b tether and have $50b in liquid cash, you can guarantee that you will pay exactly $1 for each tether. Obviously everyone holding your coin is exposed to changes to the value of your dollars, but you can always give them $1 for 1 tether. The problem is of course that you can make a great deal more money for yourself if you invest in riskier ways than holding liquid cash. I don't think the Black Wednesday situation is similar, because the UK was never going to be able to hold enough of the currencies it was supposedly pegged to to make that same promise. Definitely not my expertise there though!

ryanSrich 4y ago

You give me a dollar, I give you a digital currency equivalent. When you need your real USD back, you tell me and I give it to you. That means in an ideal world, you have your stable coins backed 1:1 with real USD. Of course, this isn’t always the case, and with Tether, there has been much scrutiny over the years that they do not have the USD collateral to back their stablecoin. Ok, but let’s assume Tether has the USD. Why is it depegging? This is most likely due to sell pressure and Tether’s ability to liquidate their USD holdings. I think Tether has more than enough real USD to deal with the sell pressure we’re seeing now, but the system is having a hard time keeping up.

gadnuk 4y ago
This is an amazing explanation. Thank you!
- usednet 4y ago
  That explanation is not correct. Algorithmic stablecoins rely on a pairing with another crypto, in UST’s case LUNA. 1 UST can always be swapped to $1 US dollar of LUNA. It is interchangable, so $1 US dollar’s worth of LUNA can also be swapped for 1 UST. Hence, the “algorithmic” in the name. This way traders are always incentivized to keep the price of UST at $1. There is no collateral requirement. In UST/LUNA’s case they had collateral, mostly in Bitcoin, in the Luna Reserve Guard but their collateral proved insufficient. Some algorithmic stablecoins are entirely uncollateralized.
  - thematrixturtle 4y ago
    That's all irrelevant, since Tether is not an algorithmic stablecoin, and they claim to have 1:1 reserves for every USDT.
    - usednet 4y ago
      The parent comment was edited to remove the section on UST after my comment.

BbzzbB 4y ago

Market pricing and arbitrage pegs it, is how I understand it. It's "worth" whatever price the bid-ask spread meets at. It's exchangeable for USD to the company. As long as there isn't a bank run where they'd stop fulfilling exchanges, when the price drops below $1 anyone can arbitrage it. It reached like 95 cents earlier, anyone could've bought millions of it and got USD for it at like 6% profit. It creates buy pressure/price support as the price falls.