The most commonly used type of cryptocurrency.
Since the invention of stablecoins, cryptocurrencies have enjoyed considerable attention and alternative liquidity in addition to more investment opportunities. In this section we will examine what stablecoins are and how they affect the lives of normal people.
What is stablecoin?
Stablecoins are cryptocurrencies that are tied to a specific asset. In other words, stablecoins can only have the market value of their asset class. They are divided into four categories: fiat-based, commodity-based, crypto-based and unsecured stablecoins.
Why did stablecoins come about?
Stablecoins came about because the crypto market was too volatile. As a result, investors found it difficult to provide liquidity in their local currency. To solve this, different types of stablecoins have been introduced.
What are the properties of stablecoins?
Their value is tied to a specific asset. Hence, its value remains relatively safe compared to the crypto markets. Second, stablecoins provide most of the liquidity for the crypto markets and have therefore made decentralized financial markets flourish with their own activities.
How do stablecoins work?
Since stablecoins are generally tied to a specific asset, their supply and demand will change according to the market value of their underlying assets. If their price has fallen below their market value, they reduce the supply so that their value corresponds to their base value. However, if their value exceeds the base value, they increase the offer until the value corresponds to their base value.
Fiat-backed stablecoins are cryptocurrencies that are supported with fiat currencies. Because they offer custody services to keep their price tag and they are generally vetted. Tether (USDT), US Dollar Coin (USDC) and Paxos Standard (PAX) are some of the examples of fiat-backed stablecoins.
Raw material supported
Commodity-backed stablecoins are cryptocurrencies that are backed by their underlying raw materials. These include gold-backed stablecoins, oil-backed stablecoins, wood-backed stablecoins, etc. Their value depends entirely on the market value of their respective raw materials. Like fiat-backed stablecoins, commodity-backed stablecoins are subject to audits and compliance checks. To give an example, Tether Gold (XAUT) and Paxos Gold (PAXG) can be shown as examples of resource-based stablecoins.
Crypto-backed stablecoins are cryptocurrencies that are backed by various cryptocurrencies, and these types of cryptocurrencies are over-collateralized to keep them stable. While they’re not just about cryptocurrencies, their value mimics their respective cryptocurrencies. DAI (DAI), Wrapped Bitcoin (WBTC), Wrapped Ethereum (WETH) and Wrapped Binance Coin (WBNB) can be shown as examples.
Unsecured stablecoins do not have assets to secure their respective stablecoins. Instead, their supply and demand were determined by an algorithm. These algorithms work like central banks to keep stable coin prices stable. Kavas USDX and Terras UST can be examples of unsecured stablecoins.
How do stablecoins affect our lives?
First, stablecoins are the primary source of liquidity for cryptocurrency exchanges and decentralized financial protocols (DeFi). Therefore, most of the financial activities related to cryptocurrencies with stablecoins are carried out in various cryptocurrency transactions. Hence, more liquidity is provided for exchanges and DeFi protocols, and alternative financial protocols can flourish. As the use of cryptocurrencies and DeFi protocols grows faster, the use of stablecoins and DeFi protocols will grow faster and they could help the financial ecosystem.