Stablecoins Struggle To Survive The Crypto Market Collapse

Published on 09 May 2022


In a week that has been cruel for cryptocurrencies as a whole, the Terra project has endured a week of adversity.

The TerraUSD (UST) stablecoin, designed to maintain a dollar peg, decoupled substantially from the $1 level and sank to fewer than 30 cents on May 10 during the last several days. In the most recent drama chapter, the troubled project froze its whole blockchain for almost two hours on Thursday, locking user cash until the blockchain was resumed.

It is a serious measure, especially considering the decentralized nature of cryptocurrencies. "We have seen hard forks in the past, but this is the first time such a large, decentralized blockchain system has decided to suspend the whole process," said Ronghui Gu, CEO, and creator of blockchain security company CertiK.

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The Decline of The Crypto Market

The instability has been driven by a precipitous decline that wiped off $200 billion in value in a single day. Bitcoin alone plunged below $25,000 on May 12 morning, a price not seen since December 2020 and less than one-half of its November 2021 high. Ethereum has lost almost 20 percent of its value in only 24 hours, as have several other cryptocurrencies over the last few days.

The issues for Terra began on May 9 when the price of the UST stablecoin began a precipitous decline. Due to the operation of algorithmic stablecoins resulted in a massive rise in the quantity of the associated Luna cryptocurrency token, which is exchanged against USD to maintain price stability.

Previously, adding or subtracting Luna tokens from circulation was sufficient to maintain a stable price for UST. However, the magnitude of the price decline and the matching increase in the supply of Luna (supply more than quadrupled in a couple of days) caused the two connected cryptocurrencies to enter a "death spiral" from which none has recovered.

Currently, UST is selling at around 40 cents as opposed to $1, while the value of Luna has almost vanished, plummeting from $100 to approximately 1 cent.

The Future of Stablecoins

Terra's nightmarish week demonstrates unmistakably that stablecoins, which in theory should keep a steady price, may in practice be significantly influenced by larger cryptocurrency market fluctuations – and influence those fluctuations in turn.

Uncertainty surrounds Terra's future, but the sheer number of unredeemed Terra coins poses a significant challenge for the project. As more currency holders attempt to cash out, the quantity of Luna tokens is expected to lose even more value, triggering what Bloomberg's Matt Levine termed a "death spiral."


Featured image: Stablecoins


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