Hong Kong/London:
TerraUSD, the so-called stablecoin that fell in price this week, will be backed by reserves in the future, the co-founder said in a tweet Wednesday, in an effort to stabilize the cryptocurrency by tweaking its complex peg mechanism.
Stablecoins are digital tokens that are pegged to the value of traditional assets, such as the US dollar. Popular during times of turmoil in crypto markets, they are a common medium of exchange, often used by traders to move money and speculate on other cryptocurrencies.
TerraUSD, also known as “UST,” slumped below its 1:1 peg to the dollar this week, pushing cryptocurrency markets already under pressure along with tumbling stock markets. It fell further to 30 cents on Wednesday, before recovering to about 60 cents, according to pricing website Coingecko.
Prior to Monday, TerraUSD had a market cap of over $18.5 billion and was the tenth largest cryptocurrency. Since then, it has lost more than half that value and is now the twelfth largest cryptocurrency with a market cap of around $8.6 billion.
Unlike most other major stablecoins that are backed by other assets, TerraUSD’s value is derived through complex algorithmic processes, linked to another paired token called Luna, which is free-floating.
Luna fell more than 94% to a low of 85 on Wednesday before recovering to around $1.20.
Do Kwon, co-founder of the company behind the token, Terraform Labs, announced a “recovery plan” in a series of tweets, saying the company would seek additional outside funding and “rebuild” TerraUSD so it can be collateralised. That means it is backed by reserves rather than relying on an algorithm to maintain its 1:1 dollar peg.
“A bailout was to be expected, and the fact that UST essentially becomes collateral is the only outcome that makes sense,” said Joseph Edwards, head of financial strategy at crypto firm Solrise.
Terraform Labs, which LinkedIn says is based in Singapore, and the nonprofit Luna Foundation Guard, which supports the Terra ecosystem, have not responded to Reuters’ request for more details about the plans.
Terra’s Mechanism
The UST coin was supposed to derive its stability from Luna, also created by Terraform Labs.
One UST coin can be traded for $1 from Luna, and vice versa, and the UST is destroyed (or “burned”) when traded. If UST falls below $1, traders are incentivized to buy UST to trade it for Luna, thereby reducing UST’s supply and pushing the price back to $1.
Do Kwon said on Twitter that the company would support a formal proposal from UST holders to increase the system’s “coin capacity,” or the ability to create new Luna coins. This move “should allow the system to absorb the UST more quickly,” he said.
Trying to reassure investors, Do Kwon tweeted, “Short-term stumbling blocks don’t determine what you can achieve” and described the stablecoin’s collapse as a “setback”.
TerraUSD’s de-pegging comes as regulators worldwide continue to grapple with the rapidly evolving world of cryptocurrencies, with some citing stablecoins as a potential threat to financial stability.
Regulatory solutions?
In its semi-annual Financial Stability Report on Tuesday, the US Federal Reserve warned that stablecoins are vulnerable to investor run-runs because they are backed by assets that can lose value or become illiquid during times of market stress.
In a statement, the chair of the Senate Banking Committee said the TerraUSD collapse is another reason for Congress and regulators to bring stablecoins and cryptocurrencies under regulation.
“These products, which are far more complex than they show to the consumer, jeopardize Americans’ hard-earned money and have the power to influence the rest of the economy,” Senator Sherrod Brown said.
Speaking to reporters, Republican Senator Pat Toomey said he did not believe algorithmic stablecoins such as TerraUSD posed a systemic risk to the financial system, and thus saw no need to legislate around the product.
“If there’s no systemic risk, it really has to be up to the consumer,” he said. “Honestly, it will probably take some failures in this area for the market to discover what works and repeat our path to successful models.”
(This story was not edited by DailyExpertNews staff and was generated automatically from a syndicated feed.)