When a cryptocurrency is offered at a fixed price, it is bound to be known as a “StableCoin.” You will find that most of the digital currencies on the market are pegged to a fiat currency like the United States Dollar which gives the currency their price volatility.
So Why Do We Need A Stable Coin?
Economists agree that currencies that are stable are a necessity for sustaining an economy as well as economic growth. This is the reason why the United States dollar is considered to be a preferred currency to many cryptocurrencies because it is a stable currency. The cryptocurrency can then attach itself to the dollar and become a stablecoin.
The Price Of Stability
As long as cryptocurrencies continue to fluctuate, governments, individuals, as well as institutions will continue to be adverse for using it for daily transactions. Many people hold onto their cryptocurrency such as Bitcoin with the hopes that the currency will continue to rise from one day to the next. After all, why spend your cryptocurrency today when I'll be worth so much more in the future?
To take digital currencies seriously and begin to use it in daily transactions, one needs to perceive it as something as familiar as the dollar. This is especially true for those who use the digital currency to sidestep their financial institution which may be corrupt, poorly regulated, or who have a currency that is extremely volatile. Due to the circumstances, a lot of financial institutions and other markets are exploring the possibility of using a stable coin.
When you stack up against the Bitcoin against gold, you will notice that the price for a Bitcoin has jumped from 2% to over 300% in the last year alone. However, the price of gold has only shifted by under 1% to under 7%. By the statistics, it would show that pick coin has become more valuable than gold, even though gold is a commodity which is always set the standard for fiat currencies like the US dollar.
Lower Inflation Rates
When it comes to stable coins, you will see that they go hand-in-hand with purchasing power. The coins with lower inflation obviously have more purchasing power. As economics show, when the inflation goes up of a particular currency the spending decreases and the measure of the value of goods produced by that country, shrinks.
An excellent example of hyperinflation is Venezuela. In this country, their current annual inflation rate is 15,657%. To make it easier to wrap your head around the magnitude of hyperinflation the US dollar is currently worth 68,915 Bolivar. Because of the price inflation is so great for Venezuela, the Bolivar would be a poor choice for a stable coin.
Trading In The Capital Markets
One of the primary reasons for adopting cryptocurrency in our current financial system is the ability to cut out the middleman and all third-party institutions. As of right now, digital currency is not a suitable method to use in the traditional markets due to its constant fluctuation of the coins.
However, NASDAQ is open to the idea of becoming a crypto trade exchange sometime in the near future stating that they are waiting for a more regulated market and fair experience for their investors. Because cryptocurrency is not yet stable, the trading markets do not have the incentive or the confidence to trade long-term.
Mainstream Adoption And A Decentralized Internet
Due to the way cryptocurrency protocols are set in place, especially the ones connected to derivatives and prediction markets, it is become difficult to encourage the adoption of cryptocurrency. Once the vitality in the sector calms down a bit, businesses, especially smaller to medium size ones will be more open to taking the risk and adopting cryptocurrency. However, these incorporations will only be interested once a stable price currency exists.
Achieving The StableCoin
Several stablecoins are attached to the dollar but to be successful the coins that need to be able to hold up against a fluctuating market. Plus, they need to be reasonably easy to analyze and have transparent market conditions as well as not be too expensive to maintain. These conditions are especially important and need to be set in place to prevent market manipulation. Only after it has met all of the requirements, stablecoins will not only be deserving of its name but also give rise to digital currency for everyday trade.
The Major Types Of StableCoins
There are three distinct categories of cryptocurrencies that have attempted to be considered stable coins. One type is the fiat-collateralized coin. The second is the crypto-collateralized coin, and the third is the non-collateralized coin. The use of the word collateralized merely demonstrates that the stablecoin is being backed by, or has another form of currency that is held as collateral in reserve.
The fiat-collateralized coins offer 100% price stability. However, they still rely on third parties and are subject to audits to ensure the correct amount of collateral is being held. Because audits are expensive, the fiat-collateralized coins are harder to maintain. While a fiat currency backs each unit, third parties are heavily involved. Perfect examples of a fiat-collateralized stablecoins are Tether and TrueUSD. Tether has yet to prove that can be audited correctly, whereas TrueUSD comes with legal protection as well as transparent auditing.
The pros of Crypto-collateralized stablecoin is that they offer better liquidity, as well as transparency, and are more decentralized. On the downside, because they are not as secure as fiat-collateral, this makes them very insufficient due to their fluctuation.
When looking into crypto collateralized stable coins, one has to expect over-collateralization to absorb price fluctuations with cryptocurrencies. A good example of price absorption would be if you deposited $400 BTC only to receive $200 in stablecoins. One of the significant disadvantages of using crypto-collateralized is the probability of a severe financial crisis that causes Bitcoin to crash. Should this take place, the stablecoin would become useless.
MakerDAO, which happens to be backed by Ether, is the closest digital currency to be used as a stablecoin.
With non-collateralized stable coins, no collateral is required since it is not pegged to any currency. But because it's not pegged, this digital currency is complex and requires increasing future demands due to the unforeseen resiliency the coin is to devaluation.
Since non-collateralized coins are not supported by any currency, the coin can increase or decrease based on algorithmic principles. The premises is to keep the non-collateralized coin equivalent to $1. Should the price of the stablecoin rise above one dollar, more coins are minted and then sold. Thus leaving the smart contract extra profits.
Now should the cost of this stablecoin dropped below a dollar, the gains would be used to buy up the extra coins that are in circulation. The method that is illustrated here is based on the idea that a stablecoin will remain to hold its value.
An excellent example of a non-collateralized stablecoin is a currency called Basis. The Basis coin is aimed at keeping its price at $1 and definitely.
While stablecoins appeared to be an ideal way to cut out the middleman infiltrate daily transactions they still have significant issues. One of the problems deals with scaling. To get the stablecoins into the marketplace, a centralized financial institution would need to be big enough to be able to back the amount of cryptocurrency used in the daily market.
As for a real-world controversy centered around stablecoins, there is an accusation that Tether coins are not backed by the US dollar due to the company minting 50 million coins last year. The company also has issues with its audits. Tether has not been very helpful or cooperative in this matter. Instead of laying everything out on the line, Tether insisted on finding another auditor to replace its original.
If the rumors happen to be accurate and Tether is involved in some sort of fraud, the ramifications will be severe. This would imply that any new coins that are minted are worthless. In turn, Tether coins that are used in a variety of transactions would cause the entire market to collapse.
It is also said that any exchange that is a partial reserve of any digital currency, rather than full reserves, could be a disaster. Exchanges such as Bitifnex, which offers loads of Tether coins would virtually collapse.
Due to the fact, the market ultimately decides the price of the coin, stable coins only offer varying degrees of artificial stability. When looking at stablecoins, the stability of the currency has yet to prove a long-term solution.