Stablecoins are the only class of cryptocurrency that claim to offer price stability in the volatile world of cryptocurrencies. Enthusiasts claim that Stablecoins can offer the stability and confidence of fiat currencies with the instant processing, security and privacy of cryptocurrencies. Devotees argue that these crypto coins are more favorable for daily transactions than other cryptocurrencies.
Cryptocurrencies have taken the world by storm; now fully a part of mainstream while prices reached an all-time high then dropped significantly in 2021. Since concerns about their volatility are still not addressed, the mass adoption of cryptocurrencies still has a long way to go. The volatility of cryptocurrency makes them unsuitable for everyday use as a form of value exchange in 2021.
A currency should be able to have a constant purchasing power, with very low inflation which will prompt people to spend and not to save.
To understand the stability of stable coins you need to understand how fiat currencies remain stable. Fiat stability stems from the reserves of assets that back them, Gold, commodities, governments etc. and the timely action of the centralized authorities that control them. Since they are backed by a reserve whose value ideally does not change drastically, they remain stable over time, and if the stability dips central banks are there to set them on the right course by managing the supply and demand. (ideally)
Most cryptocurrencies do not have protective reserve measures to ensure their stability, that’s why there is a need for stablecoins in the crypto space.
Stablecoins have an edge on cryptocurrencies due to less risk associated with them, however, they do have risks, most of which have to do on a macroeconomic level. The risks include lack of governing and regulatory structure, fears of money laundering and risks of cyber security breaches. With the growth in popularity of cryptocurrencies some of these concerns are being addressed.
There are three different forms of stablecoins with their own ways to keep their prices stable.
Fiat-Collateral Stablecoins:
Just as fiat currencies are backed by an asset, a fiat-collateralized stable coin has a proper reserve maintained, the reserve of fiat currencies includes the U.S. dollar, or Euro as collateral, the price of the coin is pegged to the amount of money in that reserve. The reserve can be made up of either fiat currencies or other commodities, like gold, silver, oil, copper, however, almost all the stablecoins in the crypto world are backed by fiat.
The stablecoins must have a high level of compliance with regular audits of their reserves and very strict policies for the maintenance of those reserves. The reserves are supposed to be kept with an independent custodian. Tether (USDT), Binance USD (BUSD) are two very common stable coins pegged to the price of the US Dollar, each USDT or BUSD has an equivalent dollar in the reserve.
Crypto-Collateralized Stablecoins:
Crypto-collateralized stablecoins are backed by a reserve of different cryptocurrencies, these reserves are based on the model of over-collateralizing based on the volatility of crypto. In these reserves a large amount of cryptocurrency is maintained and the amount of stablecoins issued are kept lower than the value of the cryptocurrencies in the reserve. MakerDAO’s DAI stablecoin is fixed to the U.S. Dollar.
Algorithmic Stablecoins
These stablecoins do not rely on a reserve, rather they use algorithmic models of controlling supply to keep the price stable. They mimic the central bank function of the fiat money, some popular Algorithmic stablecoins include Ampleforth (AMPL), DefiDollar (USDC).
Low transmission costs and global reach are two more benefits of stablecoins. Enthusiasts claim that the coins could become a backbone for bank-free payments and help in countries depressed by lack of stable currency. Stablecoins could also provide reliable links between existing currencies and the crypto realm; legitimizing crypto by creating a reliable and stable option.
I’m not encouraging you to buy Stablecoins, please do your own research and look at the most current issues with the largest Stablecoin Tether, there are some concerns coming down the pipes so keep your focus on those long-term goals and be careful. Invest only what you’re willing to lose.
There are a lot of use cases to come. I hope you enjoyed this post which was written mostly on Fiverr. I’ve been using Fiverr to find writers in areas where I’m lacking expertise. If you write a finance blog and need some extra content then check out the crypto writer, shehryarhasan.
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