Stablecoin

A stablecoin is a type of cryptocurrency that has a stable value, typically pegged to a real-world asset such as fiat currencies (e.g., dollars, euros), commodities (e.g., gold), or another cryptocurrency. The primary goal of stablecoins is to maintain a constant value and minimize volatility, which is common with traditional cryptocurrencies like Bitcoin or Ethereum.

Main types of stablecoins:

1. Fiat-backed stablecoins:
   • These are pegged to fiat currencies, such as the U.S. dollar, euro, or other national currencies. Examples: USDT (Tether), USDC (USD Coin), BUSD.
   • For each issued stablecoin token, there must be an equivalent amount of fiat currency held in reserves by the issuer to back its value.
2. Cryptocurrency-backed stablecoins:
   • These stablecoins are backed by other crypto assets, rather than fiat currency. Example: DAI from MakerDAO.
   • Since cryptocurrencies are inherently volatile, these stablecoins are often “over-collateralized” to handle fluctuations in the value of the underlying assets that support them.
3. Algorithmic stablecoins:
   • These stablecoins have no physical collateral. Their value is maintained by algorithms and smart contracts that manage supply and demand, adjusting the amount of tokens in circulation. Example: Ampleforth or the now-defunct TerraUSD (UST).
   • This is a riskier approach as it relies on the successful operation of algorithms and can be prone to failure.

Advantages of stablecoins:

1. Stability: They maintain their value relative to other cryptocurrencies, making them useful for daily transactions.
2. Transaction speed: Stablecoins can be transferred quickly worldwide, just like any other cryptocurrency.
3. Transparency: Most stablecoins have transparent reserves or algorithms to maintain their stability.

Applications:

• Trading: Traders often use stablecoins to move out of volatile cryptocurrencies, preserving the value of their portfolios.
• International remittances: Stablecoins enable fast and inexpensive money transfers worldwide.
• Smart contracts: Using stablecoins in smart contracts on Ethereum or other blockchains helps minimize risks associated with price volatility.

Risks:

1. Trust in the issuer: In the case of fiat-backed stablecoins, trust is required in the fact that the company actually holds the corresponding reserves.
2. Regulation: Stablecoins may come under increased regulation as they are tied to traditional currencies.

Example: Tether (USDT) is one of the most well-known stablecoins, backed by the U.S. dollar, and widely used in cryptocurrency trading to minimize the risk of volatility.