The value of the entire stablecoin market is now over $ 160 billion.
Justin Talis | AFP via Getty Images
Regulators are increasingly worried about stablecoin after the collapse of the controversial cryptocurrency venture Terra.
TerraUSD, an “algorithmic” stabilized coin meant to be pegged to the US dollar one-by-one, erased much of its value after a stunning run at the bank this week that suddenly evaporated from the billion-dollar market value.
Also known as UST, cryptocurrency is managed using a complex code process combined with a floating token called Luna to balance supply and demand and to maintain the multi-billion-dollar pile of bitcoins.
Tether, the world’s largest stablecoin, fell below its target of $ 1 for several hours on Thursday, raising fears of a possible infection due to UST de-pegging. Unlike the UST, Tether is supposed to be supported by adequate resources in a reserve.
U.S. Treasury Secretary Janet Yellen addressed the issue of “deer breaking” both UST and Teether this week. At a congressional hearing, Yellen said that such assets do not currently pose a systematic risk to financial stability – but suggested that they could do so in the end.
“I do not see this as a real threat to financial stability on this scale, but they are growing very fast,” he told lawmakers on Thursday.
“They present the same kind of risk that we’ve known about bank runs for centuries.”
Yellen called on Congress to approve federal control of Stablecoin by the end of this year.
The UK government is also coming under scrutiny. A government spokesman told CNBC on Friday that it was ready to take further action on stablecoins after the fall of Terra.
“The government has made it clear that certain stablecoins are not suitable for payment purposes because they share features with unbacked cryptocurrencies,” the spokesman said.
The UK plans to bring stable coins into the scope of the electronic payment regulation, which will see issuers like Tether and Circle under the supervision of the country’s market watchdog.
Separate proposals in the European Union will also bring stable coins under strict regulatory supervision.
What are stablecoins?
These are like casino chips for the crypto world. Traders buy tokens like Tether or USDC with real dollars. Tokens can then be used to trade Bitcoin and other cryptocurrencies.
The idea is that whenever someone wants to cash in, they can get the same amount of dollars for whatever stablecoin they want to sell. Stablecoin issuers are meant to hold a sufficient level of money consistent with the number of circulating tokens.
According to data from CoinGecko, today, the entire market value of StableCoin is over $ 160 billion. Tether is the largest in the world, with a market value of about $ 80 billion.
What happened to UST?
UST Stablecoin is a unique case in the world. Unlike Tether, it had no real cash to pay back its alleged peg dollars – although at one point it was partially backed by Bitcoin.
Instead, the UST relies on a system of algorithms. It’s something like this:
- The price of UST can fall below the dollar when there are many more tokens in circulation but there is not enough demand
- The smart contract – the lines of code written in the blockchain – will take the extra UST out of supply and create a new unit with a token called Luna, which has a floating price.
- There was also an arbitration system during the game, where traders were encouraged to profit from deviations in the value of two tokens.
- The idea was that you could always buy a Luna for US 1. So if the price of UST is 98 cents, then you can basically buy one, exchange it with Luna and pocket 2 cents in profit.
Luna, UST’s sister token, is now basically worthless after a coin topped $ 100 earlier this year.
The whole system was designed to stabilize at UST $ 1. But it collapsed under the pressure of billions of dollars of liquidation – especially at Anchor, a lending platform that promised users an interest rate of up to 20% on their savings. Many experts say it was not sustainable.
Why are regulators worried?
The main fear is that a large stablecoin issuer like Tether may be on the side of “running to the bank” experience.
Yellen and other U.S. officials have often compared them to money market funds. In 2008, the Reserve Primary Fund – the main money market fund – lost নেট 1 per share of its net asset value. The fund held some of its assets in commercial paper (short-term corporate debt) from Lehman Brothers. Investors fled when Lehman was destroyed.
Earlier, Teether said its reserves were made up entirely of dollars. But after a 2019 settlement with New York’s attorney general, it reversed that position. The firm’s disclosure revealed that it contained very little cash but lots of unknown commercial paper.
Tether now says it is reducing the level of commercial paper it owns and increasing its holdings on U.S. Treasury bills.
“We expect recent developments to lead to an increase in calls for control of stablecoin,” ratings agency Fitch said in a note on Thursday.
While the risks of stablecoins like Tether may be “more manageable” than algorithms like UST, according to Fitch, it ultimately falls on the creditworthiness of the companies that issue them.
“Many regulated financial institutions have increased their exposure to cryptocurrency, defi and other types of digital finance in recent months, and some fee-rate issuers could be affected if the volatility of the crypto market becomes severe,” the company said.
“There is also a risk of impact on the real economy, for example, if the value of crypto assets falls sharply through the impact of a negative asset. Nevertheless, we generally see the risk of fitch-rate issuers and actual economic activity as very low.”