StableCoins

What is a stablecoin??

Stablecoins are tokens issued on blockchains whose value is linked to an external asset, such as national currencies or precious minerals. These are assets that function as digital representations of the dollar, the euro and even gold. That is, they are collateralized products that can be bought or sold within the cryptocurrency market..

Stablecoins were born as a solution to the intrinsic volatility of native cryptocurrencies. While assets like Bitcoin and Ether seduce the public with their various economic benefits, they also scare off potential new users due to their unpredictable price fluctuations. At the time a BTC transaction is settled, the currency can be worth significantly more or much less than it was when the shipment was arranged, complicating its usability as an asset..

On the other hand, the price of stablecoins usually varies very little or not at all. Being designed to closely follow the value of the national currency that they emulate, they maintain a price with little daily variation, just as occurs with assets such as the dollar or the euro. They also have the ability to mimic features of cryptocurrencies such as bitcoin, such as settlement speed, global transfers and, in some cases, the elimination of intermediaries. In this way, they have become valuable refuge tools in highly volatile markets..

How do stablecoins work??

Stablecoins are tokens that have been issued on multiple blockchain networks and sidechains. Due to this, it depends to a large extent on which blockchain said asset belongs to to determine its behavior. For example, stablecoins launched on Ethereum have their own smart contracts, identified as ERC-20 tokens. All stablecoin transactions within the network are recorded in the public ledger, just like an operation with native currencies such as ethers. However, unlike the latter, they do not have their own blockchain..

Stablecoins are also tokens issued by a provider, company, or governance system. These organizations are the ones in charge of determining how many tokens are issued, to which units they are linked, and how their reserves are backed. That is, they play an important role in their economy. Despite the variety of the stablecoin market, it can be divided into four general categories that determine how these tokens perform in relation to how they are anchored to the value of other assets..

1) Backed in national currencies:: It is the most popular type of stablecoin on the market, since its tokens are directly anchored to a national currency in a 1:1 ratio. Each unit of the issued token represents one dollar, one euro or one yen. Users deposit fiat currency into a bank account and receive one of these tokens in return. Such assets are generally backed by fiat. This means that the stablecoin provider is responsible for maintaining a number of fiat coins in reserve that is proportional to the tokens in circulation. The reserves are managed by the company, which should place them in the custody of a bank or specialized financial agency..

2) Crypto-backed:: Crypto-backed stablecoins are those where other cryptographic assets function as collateral for the token, even though they reflect the price of a fiat currency. To understand how these stable cryptocurrencies work, it is easier to think of one of them, such as DAI. It is a stablecoin that works through a smart contract. That is, it is programmable money. Users can deposit ETH or another cryptographic asset into the MakerDAO (DAI creation company) contract to guarantee the creation of a new token. Despite this, the price of the asset will not emulate ETH, but rather the US dollar with which it is anchored. The issuance of these assets also depends exclusively on the smart contract that makes their existence possible. In other words, the need to trust a third party is minimized, since there are no physical reserves that have to be managed. Users just lock their ETH in a contract and the contract supports the creation of the token, whereas if they want their money back, they just have to deposit the token and claim their ETH. Since there is no company that is in charge of issuing and managing the asset, these stablecoins usually have their own governance systems. Users can participate in them, voting to determine which are the monetary policies they want to apply to their asset..

3) Commodity-backed:: Similar to fiat-anchored stablecoins, commodity-backed tokens are those whose issuance is guaranteed by other exchangeable assets that can be physically reserved, such as precious metals. The most widely used commodity to create these stablecoins is gold, although there are also coins backed by oil, real estate, and other rare metals. The stable cryptocurrency provider is the one who owns the tangible asset, which maintains a receipt to issue new tokens on the network. In other words, the user must also trust the transparency and honesty of the company in charge of issuing the asset. An interesting feature of these stablecoins is that, unlike those backed by fiat or cryptographic assets, they can appreciate over time. For example, gold is a raw material that is used as a store of value by a large number of people around the world, since it does not devalue in the same proportion as the dollar or the euro..

4) Algorithmic stablecoins:: Algorithmic stablecoins, or also known as non-collateralized, are the least known stablecoins on the market. The value of these coins is not backed by fiat currency or by other cryptocurrencies, but the linking occurs through algorithms that emulate the price of these assets. Smart contracts are also responsible for managing the issuance of these assets. Likewise, its monetary policy usually faithfully reflects that used by the central banks that mint the currency to which they are anchored. For example, these projects can follow the guidelines of the United States Federal Reserve to replicate the behavior of the dollar..

Algorithmic systems take care of automatically reducing the supply of tokens if the price of your coin falls. On the contrary, if the price exceeds the original value of the currency to which they are anchored, it is in charge of increasing the offer of its token to recover the parity. In this way they manage to maintain price stability without needing a physical reserve or guarantee..

Use cases

Stablecoins have stood out as a financial tool because they combine characteristics of fiat currencies and cryptocurrencies. While they offer more privacy than bank transfers, lower costs than settlement systems, and a verifiable public ledger on the blockchain, they also have a price stability that is not typical of the cryptocurrency market. Due to this, there are various use cases that are given to these assets inside and outside the ecosystem::

1) Value protection:: Due to its stable value and its anchoring to widely used currencies, such as the dollar and the euro, many users use currencies such as Tether and USDCoin to protect their savings and as a hedging tool against volatility. of cryptocurrencies. For example, if a crypto asset such as bitcoin begins a period of high fluctuations in its price with a downward trend, the user can exchange to stablecoins to safeguard their investment or even claim some profits before they lose more money..

2) Trading:: Depositing and withdrawing fiat money from a bank account to an exchange can be an expensive operation. Even on some platforms it is technically impossible because they are not affiliated with banking agencies, as is the case with decentralized exchanges (DEX). Due to this, some users prefer to use stablecoins to buy and sell cryptocurrencies. Stablecoins are interchangeable with all kinds of crypto assets, from bitcoins, through ethers or XRP. Also, most exchanges accept these assets for trading, so users can transfer them from their wallets to these platforms to finance their trading operations..

3) Payments:: Since dollar- or euro-pegged stablecoins are digital representations of fiat money, many believe these assets could stand out as payment methods. With lower operational costs, accessibility, and cross-border reach, stablecoins can be used to purchase products and services online..