How Stablecoins Bring Stability to the Cryptosphere

How Stablecoins Bring Stability to the Crypto Sphere

Cryptocurrency has always been an extremely volatile marketplace to trade in. Price swings of 10 to 20% within a 24 hour period can occur a few times a week and almost daily for lower volume coins.

Although these fluctuations may be great for both traders and investors (depending if your long or short), it makes it very difficult to use in the real world. It not only hinders its adoption, but its fundamental ability to be utilized as a reliable currency.

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cryptocurrency-volatilityVolatility plays a very important role in adoption as consumers want to be able to make transactions and not have to worry about the value fluctuating overnight. I mean, who wants to worry about getting paid for a product or service to only have that currency lose its value by over 30% next week?

From a business standpoint, merchants don’t want to accept transactions in a currency that includes a ton of risk. A great example of this would be employee payments. Who wants to work for a wage where you perform the same task every week but your paycheck is constantly fluctuating?

You’ll be happy to know that there is one emerging class of cryptocurrencies that are designed to tackle this exact issue. These are known as stablecoins.

What Exactly Are Stablecoins?

stablecoinsStablecoins are a type of cryptocurrency that presents itself as a price stable asset in an ever-fluctuating marketplace. It offers a medium of exchange, store of value, and unit of account.

Stable coins are universal and are not tied down to a central monetary authority. It’s supply cannot be controlled and dictated under future influence.

There are different versions of the stablecoin however there are only 2 popular versions that are utilized the most. They are the IOU issuance model and cryptoasset-collateralized model.

Let’s take a closer look at these two stablecoin models.

IOU Issuance Model

With this model, stablecoin holds a 1-to-1 ratio to an asset that resides within a bank account. As an example, a corporation could have a physical asset like gold or silver within their bank which could be tied to a particular stablecoin.

Each stablecoin, under this model, derives its stability from the fact that its value can be exchanged for a physical asset. A countries fiat currency or a particular metal like gold are generally the type of physical items that are tied to these types of coins.

One of the most popular stablecoins in existence today is Tether (USDT). The actual value of Tether is tied to the equivalent of one US dollar. To ensure the value of the Tether coin, it must be backed against a corresponding US dollar within Tethers bank account.

This brings us to one limitation within the issuance model. It’s centralized, which means individuals must trust that the entity that holds the physical asset being represented by the stablecoin is held within the company’s account. As you can imagine, this requires a lot trust by owners of the coin.

Cryptocurrency-Collateralized Model

With this model, stablecoins are not backed by centralized assets; they are backed by digital assets, for example Bitcoin. The main advantage to this model is that it doesn’t require blind trust from participants in order for it to work.

For example: the asset that backs the stablecoin can be held in a smart contract. This way the amount of assets held are transparent and independently verified within the smart contract.

The problem with this model is that it’s tied to a cryptocurrency which is volatile in nature and runs contrary to stablecoins entire purpose. As a result the method may involve “over collateralization” so that price fluctuations can be absorbed

As an example of this, a smart contract can be created in order to hold $400 worth of Bitcoin. This would serve as collateral for say $200 worth of stablecoins. Now if an unexpected event were to occur (massive swing in price- Black Swan event) this would negatively impact the stablecoins value. This will result in the destabilization of the issued coin.

Stability in an Unstable Environment

stabilityEveryone within the crypto sphere is always looking towards a catalyst that will result in mass adoption of cryptocurrencies. There are a massive amount of factors that can contribute to such an event. We can all agree that overcoming market volatility is imperative to facilitating mass adoption.

Perfecting the stablecoin in order to bring about mass adoption can be a difficult task, however there are still a number of promising stablecoin projects that aim to overthrow these issues and bring about a non-volatile cryptocurrency within the crypto ecosystem.

Most crypto traders utilize the Tether coin, however there is a blockchain project that goes by the name of Basis, that claims to provide a stable cryptocurrency that is backed by a large number of US venture capital companies. This will likely be the closest competitor to Tether in the near future.

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