STABLECOINS

Context

Key Points

• The international body said it is "Working to ensure that crypto-assets are subject to strong law and supervision".
• The group is slated to report to G20 Finance Ministers and Central bank governors on regulatory and supervisory procedures for stablecoins and different crypto-assets in October.
• The FSB is not the only organisation seeking to regulate stablecoins.
• The European Commission and EU-based lawmakers agreed on the Markets in Crypto-Assets or MiCA law, to enforce strict controls on the companies distributing cryptocurrencies classified as stablecoins.

What are stablecoins?

• A stablecoin is a digital currency whose value is pegged to a stable asset, such as the U.S dollar or gold.
• The best-known stablecoin in the crypto ecosystem today is arguably Tether (USDT), Whose market cap is close to $66 billion, putting it below Ethereum, the Second largest cryptocurrency in existence.
• 1 USDT is meant to be worth 1 USD, though market factors can take prices slightly above or below this mark.
• Other stablecoins such as USD Coin (USDC) and Binance USD (BUSD) are also pegged to the U.S. dollar and are known for their high market cap values.
• Tether also recently launched a stablecoin pegged to the British pound.
• Stablecoins are not authorised for use by country lawmakers or central banks, which means that investors take on considerable legal and financial risk to hold them.

Roles of Stablecoins in the crypto ecosystem

• For Cryptocurrency traders, tracking stablecoin flows can help them gauge the state of the market or even make educated guesses about future cryptocurrency price movements.
• For example, When the stablecoin supply on crypto exchanges spikes, it might be a sign that investors are cashing in their stablecoins to buy cryptocurrencies such as Bitcoin (BTC), Ether (ETH) or even other altcoins.
  
  

• Many traders believe this can lead to upward price moves.
• On the other hand, if the stablecoin supply on crypto exchanges suddenly drops, one might conclude that traders are buying relatively steadier assets.
• This could mean traders want to hedge against future risk and volatility or are driven by fear.

 The use cases for stablecoins

• Across the world, stablecoins can serve as lifelines.
• In countries such as Turkey, Nigeria and Argentina where the local currency is rapidly losing value, converting funds to stablecoins is one way for residents to try and safeguard their earnings.
• In Taliban-occupied Afghanistan, with remittance channels choked by U.S. Sanctions, stablecoin transfers have helped a few cryptos users live to see another day.
• For this reason, a large section of the crypto community does not want stablecoins to be controlled by centralised laws or standards.

Stability

• Stablecoins are only as stable as their investors fait in the peg.
• Tether has been dragged through the American legal system as investigators struggled to ascertain whether the top stablecoin company backed every USDT against the U.S. dollar. This type of peg is called a "fiat collateralised" stablecoin.
• Tether's market cap, shooting up by billions of dollars in the past year and potentially threatening the balance of the U.S. Dollar itself, did not help allay these fears.
• In October 2021, the U.S. Commodity Futures Trading Commission (CFTC) ordered Tether to pay over $40 million, "for making untrue or misleading statements and omissions of material fact in connection with the U.S. Dollar tether token (USDT) stablecoin.
• Tether's market cap totalling more than $80 billion in April this year has slipped down to around $66 billion in July.

Terra fallout linked to Stablecoins

• TerraUSD (UST) is an algorithmic stblecoin. It is linked to another token's supply.
• The other cryptocurrency, LUNA, is adjusted to help UST maintain its peg.
• This method of linking with another token helps keep crypto firms from buying reserve assets such as dollars, crypto, or even gold.
• Yet shortly before its May crash, founder Do Kwon announced his plan to buy billions in Bitcoin and other assets to further strengthen the UST Stablecoin an ambition which did not pan out as expected.
• Soon afterwards, a multitude of market factors and company failures collided, resulting in the UST Stablecoin coming loose from its peg before losing nearly 100 per cent of its value.
• Billion of dollars were blown up in the May 2022 crash, partially due to UST, Several other stablecoins like USDT also lost value temporarily as investors panicked.
• Crypto analytics show a rising demand for USDT's rival USDC, Which comes just below it in market cap.
• Roughly $11 billion divides between the two Stablecoins and many are watching to assess how USDT faces its legal hurdles.

Conclusion

• The risks within the stablecoin ecosystem are very high. Now as regulators step in, the market is expected to make traders more fearful.
• Terra is not the first or only fault line in the stablecoin market and it won't be the last.